Different Approaches, Different Import Price Outlooks for Key Russian Gas Transit States

A Tale of Two Transit States

When Russian gas giant Gazprom announced in mid-2005 that it intended to end the practice of providing subsidised gas supplies to ex-Soviet states, the transition that began in January 2006 was quite rocky, leading off with the eruption of a "gas war" between Gazprom and Naftogaz Ukrainy that disrupted Russian gas supplies to Europe. That dispute (now seen as the first Russia-Ukraine gas war, considering subsequent friction, tension, and supply disruptions) ended with an agreement under which Ukraine consented to pay US$95 per 1,000 cm for its gas imports, nearly double the US$50 per 1,000 cm implied price it was paying in 2005. At the same time, however, Belarus, which was paying just US$46.68 per 1,000 cm for its Russian gas imports in 2005, was allowed to coast freely, paying the same price in the first quarter of 2006, before pressure from Gazprom to start the transition to "European" prices following President Alexander Lukashenka's re-election in March of that year. Belarus did eventually end up paying more (US$100 per 1,000 cm), but not until 2007, and only then after relenting at the last-minute to the "New Year's Gas Deal" just before midnight on 31 December 2006 (see "Related Articles").

Those two confrontations—and, more importantly, the different ways in which they were resolved—served to shape how Russian-Belarusian and Russian-Ukrainian gas relations have evolved in the past few years. Ukraine and Belarus together control the transit of more than 90% of Russian gas exports to Europe (all but gas that is sent directly to Turkey via the Blue Stream pipeline, as well as direct Russian gas exports to the Baltic states and Finland), and the different approaches they employed in those conflicts with Russia go a long way towards explaining how they have ended up now with vastly different outlooks for their own gas import prices from Russia from 2010. Ukraine is facing the prospect of paying US$280–300 per 1,000 cm from 1 January, but Belarus is expecting to pay just US$150 per 1,000 cm. Indeed, whereas Ukrainian officials are holding emergency talks with the International Monetary Fund (IMF) in an effort to secure the release of funds to enable the country to pay for its gas bills, Belarusian authorities are secure in their expectation that they will soon sign an additional gas agreement with Gazprom that will freeze import prices next year at 2009 levels.

Leverage Used and Leverage Abused

An explanation of the "why" and "how" behind the dramatically different gas import price forecasts necessarily starts with a look at the way both countries have used their leverage over Russian gas transit to Europe. The first Russia-Ukraine gas war, which ended with the insertion of controversial middleman RosUkrEnergo to supply Russian and Central Asian gas to Ukraine, served to poison price negotiations between Gazprom and Naftogaz, making the transition to "European" prices all the more problematic, given the political sensitivity of the deal and the indirect gas trading relationship between the two firms. While a second gas war was avoided in 2007 (partly due to the fact that then-Ukrainian prime minister Viktor Yanukovych took a more conciliatory approach to Russia and accepted a 37% price hike from the start of the year), further disputes over prices in early 2008 resulted in Gazprom twice reducing gas supplies to Ukraine, although transit supplies to Europe remained stable.

The elimination of RosUkrEnergo's role from the start of 2009 resulted in a return to a direct trading relationship between Gazprom and Naftogaz, but the latter's debts, together with the recent history of mistrust and Ukraine's determination to use its leverage over Russian gas transit in order to exact price concessions from Gazprom, sparked another round of conflict, this time resulting in a two-week disruption in Russian gas exports to Europe via Ukraine. This time, the political deal to end the gas war also resulted in a concession on the part of Ukraine to accede to Gazprom's demands that the country begin to pay "market" prices for its own gas imports, albeit with a 20% discount in 2009 to help shield it from the full brunt of higher prices in the midst of a sharp economic contraction. Throughout the past few years of gas price negotiations, Ukraine has never wavered in its determination to maintain sole state ownership and control over Naftogaz's gas transmission system (GTS), claiming the GTS as a "strategic national asset". The threat of a disruption in gas transit and a new gas war in the coming months is, in part, a function of Ukraine's stubborn refusal—despite Naftogaz's dire financial position—even to consider selling all or part of the GTS to Gazprom, preferring instead to use the GTS as leverage to effectively blackmail both the Russian gas giant and Europe.

In stark contrast, in the New Year's Gas Deal at the end of 2006, Belarus conceded, agreeing to sell a 50% stake in Beltransgaz, the state gas pipeline operator, to Gazprom over a four-year period. That agreement—according to which Gazprom is slated to pay its final US$625-million tranche for another 12.5% stake in early 2010—has effectively allowed Belarus to manage the transition to "market prices", with much more reasonable price hikes built into the transition process. Accordingly, Belarus is paying 80% of the European price this year, and unlike Naftogaz, Beltransgaz pays the European netback parity price, equivalent to the European border price minus transportation costs across Belarus.

Although Belarusian officials begrudgingly agreed to the 31 December 2006 deal, the Belarusian concession has since that time generated similar concessions from Gazprom, such as the Russian gas giant according Belarus greater flexibility in paying for its gas bills, as well as maintaining the 2008 price into early 2009. Admittedly, this was less a magnanimous gesture from Gazprom than it was a decision made of self-interest; the disruption in Russian gas exports via Ukraine in January 2009 forced Gazprom to send more gas via Belarus, making it necessary for the Russian firm to keep the peace with Belarus and reward that country for its assistance. Nevertheless, Belarus's co-operative approach and flexible payments stands in stark contrast to the rigid payment terms by which Naftogaz is now bound, the legacy of its recent history of confrontation with Gazprom.

Outlook and Implications

Thus, as of 1 January 2010, the results of the different approaches by Ukraine and Belarus—at least as regards their gas import price—will be evident. Despite a far greater share of Russian gas exports to Europe flowing via Ukraine than via Belarus, Ukraine will see its 20% price discount for its own gas imports disappear, with the fourth quarter price of US$208 per 1,000 cm expected to rise to perhaps US$280-300 per 1,000 cm in the first quarter as the end of subsidies is magnified by the quarterly increase in Russia's oil-indexed European gas contract prices. Belarus, on the other hand, is expecting to pay around the same price (US$150 per 1,000 cm) in 2010 as it does now, having successfully lobbied Russia on the political level to align Belarusian gas prices with those on the domestic Russian gas market. The launch of a customs union between the two countries and the delay in the planned liberalisation of domestic Russian gas prices—initially planned for 2011, now postponed to perhaps 2014–15—has provided the justification for Belarus to argue for keeping its gas import price stable in 2010. An additional gas agreement between Gazprom and Naftogaz to codify this political deal is expected to be signed by the end of the year or early in 2010.

Even if the deal is not signed by the end of 2009, however, Belarusian officials anticipate no problems with gas supplies from Russia, a confidence born of the earlier concessions to Gazprom and the more conciliatory approach that Russia has, in turn, taken towards Belarus. Not so for Ukraine, which is facing a gas bill for December likely to be in the range of US$800 million–1 billion and a firm 7 January deadline for payment. Considering the stakes involved—the threat of yet another disruption in Russian gas exports to Europe—and the extenuating circumstances internally in Ukraine (a severe economic contraction, a 17 January presidential election), there is still the possibility that the Russian gas giant could show Naftogaz some flexibility in the payment deadline, but Ukrainian officials cannot count on that. Indeed, emergency loan talks with the IMF indicate Ukraine's desperate financial situation as well as its expectation that Gazprom will not accord Ukraine the same kind of flexibility in payment terms and deadlines that Belarus has "earned". The history of gas wars and payment problems, by contrast, has "earned" Naftogaz a rigid deadline to meet and an end to price subsidies. For all Ukraine's leverage over Russian gas transit, it is the abuse of this leverage and Ukraine's confrontational approach in negotiating prices with Gazprom that has left Naftogaz in the position where it will pay double what Beltransgaz does for its gas imports from 1 January.

Related Articles

• Russia - Ukraine: 16 December 2009: Gazprom CEO Downplays Potential for New Year's Gas War with Ukraine
• Ukraine: 14 December 2009: Ukraine Seeks Gas Loan from IMF
• Russia - Belarus: 14 December 2009: Russia Agrees to Extend Gas Price Discounts for Belarus Beyond 2011
• Russia - Ukraine: 8 December 2009: Despite Bill Payment, Potential Triggers for New Russia-Ukraine Gas Dispute Remain
• Russia - Ukraine: 20 November 2009: Russian, Ukrainian PMs Announce Compromise in Bid to Avert New Gas Dispute
• Belarus: 16 November 2009: Government Seeks Oil Pipeline Deal as Part of Potential Belarusian Refinery Stake Sale
• Russia - Belarus: 16 November 2009: Belarus Seeks Further Delay in Paying "European" Prices for Russian Gas Imports
• Russia - Ukraine: 12 November 2009: Russian PM Warns of Domino Effect If Naftogaz Fails to Pay for Gas
• Ukraine - Russia: 20 January 2009: Gazprom, Naftogaz Sign 10-Year Gas Supply and Transit Contracts, Formally Ending Dispute
• CIS: 2 January 2007: Gazprom, Belarus Strike Last-Minute Gas Deal to Avoid Cut-Off