Economy, Politics Stoke Russia-Ukraine Gas Quarrel

Gallery

Europe Feeling Chill of Fuel Standoff

Russia halted shipments of natural gas to Europe via Ukraine as the two countries sparred over prices and debt. Russian and Ukrainian officials met Thursday and continue talks to resolve the dispute.

» LAUNCH PHOTO GALLERY

Politics have also contributed to Ukraine's unwillingness to back down. Yushchenko's popularity has plunged over the past year, and analysts say he may be making a desperate attempt to rally the nation around him. He is also locked in a feud with his former Orange Revolution ally, Prime Minister Yulia Tymoshenko, who is expected to challenge him for the presidency next year. Each has accused the other of mishandling the gas dispute with Russia, and it is unclear who has the final word over negotiations.

"They're really in conflict, and it's difficult for Yushchenko to sign off on any deal because he is afraid Tymoshenko will attack it, and vice versa," said Yuri Vitrenko, a former senior official at Naftogaz, Ukraine's state energy firm. "Frankly, nobody has full control of the situation."

Yushchenko and Tymoshenko issued a joint statement outlining a common bargaining position when the talks first collapsed, but Tymoshenko has said little in public about the gas dispute since, a sign that differences may remain.

Tymoshenko, who took a more cautious position on the Georgian war and is less vocal about NATO membership, has tried to present herself as the candidate better able to negotiate with Russia. She signed a deal with Putin last year outlining a possible gas compromise, agreeing that Ukraine should pay more for fuel while Russia should pay more to use its pipelines.

But the most notable point in the agreement was a decision to eliminate the role of shadowy middleman company RosUkrEnergo in Ukraine's purchases of gas from Russia. Tymoshenko has described the firm -- a joint venture between Gazprom, the Russian gas monopoly, and two Ukrainian tycoons -- as a vehicle for corruption for Yushchenko.

The Ukrainian Energy Ministry, which reports to Tymoshenko, issued an unusual statement Wednesday suggesting that the standoff stemmed from an attempt to keep the intermediary firm in place, a view that a Gazprom spokesman then endorsed in an interview with the Interfax news agency.

Rory MacFarquhar, a Goldman Sachs managing director in Moscow, said the intermediary firm gave officials in Russia and Ukraine a "personal stake" in ensuring that talks succeeded. Without it, officials may be more reluctant to compromise, he said.

But Ukraine's economic troubles may be the key factor. Despite a $16.4 billion loan from the International Monetary Fund in November, the country appears on the verge of economic meltdown, with a currency slide increasing the risk of massive defaults on loans taken out in dollars.

The steel industry, which accounts for 40 percent of exports, has been hit especially hard, with production falling by half in November as world demand plummeted. A gas price hike would make matters worse because many of Ukraine's inefficient factories depend on cheap fuel from Russia to be competitive -- and the businessmen who own those factories wield great influence over government policy.

Russia has sold gas to Ukraine and other former Soviet republics at prices below what it charges the rest of Europe, a vestige from the Soviet era that Gazprom is trying to end. But Ukraine struggled to keep up with payments even at last year's lower prices, running up a debt of $1.5 billion and $600 million in disputed late fees as the economy tumbled in the autumn.

Ukraine also says it has enough gas in storage to last until early April, which means it can afford to be patient. Gas prices in Europe are generally set by a formula using the price of oil, but the recent collapse in oil prices will not be factored in until April. Once it is, Ukraine will have a stronger case against a sharp price increase.

Analysts said Ukraine risks a backlash in Europe if the standoff drags on, but Russia is in a more vulnerable position because it is losing revenue and also expected to face costly lawsuits. In the long term, Europe could turn against Russia as an energy partner and seek alternative supplies.

Those costs could outweigh the estimated $2 billion to $4 billion difference in the last negotiating positions disclosed by the two sides, given that Gazprom reported revenue of $70 billion in 2007.

"Everything about this dispute is negative for the Russians," said Jonathan Stern of the Oxford Institute for Energy Studies. "And if everyone blames the Russians, Ukraine has nothing to lose."