Ukraine And Russia: The Brothers Karamazov
I love January. While most of my colleagues sit around the office complaining about the weather and the extra pounds they’ve put on over the holidays, I sit at my desk staring at the computer screen with a big grin on my face. What’s not to love? In addition to the underlying feelings of rebirth and new beginnings, January also inevitably brings with it a new dispute over gas prices between Russia and Ukraine, an event which any country risk analyst such as myself loves to cover. Indeed, this latest crisis (I believe this completes the trilogy) has it all, and would make a great storyline for any blockbuster Hollywood production:
- Two top-notch action stars… this time starring Ukrainian Prime Minister Yulia Tymoshenko and her Russian counterpart Vladimir Putin (btw, has anybody seen President Dmitry Medvedev during all this? As a former Chairman of Gazprom, you would think he would have taken centre stage during the negotiations. Is there still any doubt about who holds the reins of power in Moscow?)
- A nation on the brink… While Russia is attempting to deal with a plethora of macroeconomic and financial market challenges, Ukraine is currently in a category of its own. Indeed, the former Soviet republic has been hit by plunging demand for its key exports and a currency which has lost 70% of its value since September, in addition to possessing one of the most vulnerable banking sectors in the entire Emerging Europe region. Although a US$16.4bn emergency IMF Stand-By Agreement in November helped ward off the most dire of macroeconomic scenarios, I caution that Kiev is far from being out of the woods.
- The controversial middleman… A significant degree of uncertainty surrounding the negotiations centred on RosUkrEnergo (RUE), the intermediary gas trader which is a joint venture between Gazprom and several Ukrainian businessmen. Previously, there were reports that 2006’s pricing contract obliged Ukraine’s Naftogaz to transfer a portion of their imports to RUE for the service of delivering gas to Ukraine, thus substantially increasing the price Kiev pays for its imports above the nominal price of US$179.5/1000 cubic meters.
So, with media reports beginning to come out that say Moscow and Kiev have reached a tentative deal over future gas prices, thus ending Gas Crisis: Part 3 ‘The Empire Strikes Back’, I’m beginning to wonder what the implications will be for Ukraine’s macroeconomic and political stability going forward. Thus far, we know this about the deal: Naftogaz will pay European market prices, less 20%, in 2009, with a transition to full market prices in 2010. While RUE is to be phased out, Russia will continue to pay Ukraine the same transit fee for shipping gas to Europe, with a transition to full market prices in 2010.
Unfortunately, for every point of certainty which this agreement provides, many unknown variables remain, including: What is the market price for natural gas? Prices are related to the price of oil, albeit with a six month lag, so whatever the current price, I would expect them to come down considerably in Q2 2009. Of note, Volodymyr Lytvin, the chairman of Ukraine’s parliament, said on January 19 that the price Kiev will pay Russia will average US$240-250/1000 cubic meters in 2009, which is precisely the amount of Moscow’s original offer on January 1. Moreover, what about the issue of the US$600mn which Naftogaz allegedly owes RUE in late fees? Has this disappeared?
The political implications of this latest crisis are also worthy of note. Indeed, with presidential elections in Ukraine set for 2010, it remains to be seen how the general public will perceive events of the past couple of weeks. If the gas price rise is passed on to the domestic consumer (the government is certainly in no position to increase fiscal expenditures and cover any shortfall at this point), I would keep my eye out for any signs of public unrest. With unemployment set to rise this year, I imagine Ukraine’s political leaders will have an interesting time attempting to balance the needs of an increasingly disenchanted public, an IMF-imposed policy-formation straitjacket (the aforementioned Stand-By Agreement was extended on the condition of a balanced budget), and their goal of re-election. More importantly, I would also keep my eye on the popularity ratings of the main opposition Party of Regions (PR). Indeed, if the heroes of the “Orange Revolution” are perceived as having driven their country into the depths of crisis, I will not be wholly surprised to see the more pro-Moscow PR make significant gains at the polls next time around.