Gazprom Pulls the Gas Cord

The “action” finally happened. Russia’s natural gas provider, Gazprom, halted deliveries of natural gas to Ukraine yesterday, the culmination of long stand-off between the two nations (or two companies, depending on how you chose to look at it). The decision results from months of attempted negotiation over the settlement of $2.1 billion worth of debt on gas, which Ukraine received in November and December but refused to pay for.

This gas story is nothing new; in January 2006 Gazprom also turned off Ukraine’s supply. On 12/14 I wrote a weekend edition piece entitled: “Eye On The Energy Threat: Ukraine’s Geopolitical Impact”. In it I highlighted many of Ukraine’s geopolitical forces at work, including: its geographic importance as a transit country for natural gas from Russia to Europe; the country’s political orientation as it becomes more “western” and Euro-centric; and discussed Europe’s alternative energy strategies to become less reliant on Russia for its natural gas supply.

This latest shut-off was predictable. While I don’t discount that numerous political gestures are at work behind the scenes, we simply need to return to the clichéd expression, “Cash is King”, to understand the fundamentals. The fundamental for Russia right now is CASH, for she doesn’t have it. Like the rest of the world that is levered to commodities, Russia’s balance sheet doesn’t look like it did over the summer when commodities were reaching historical highs. This came to a head yesterday when Gazprom decided it was done negotiating over repayment and gas price. Russia signaled to Ukraine—which receives heavily subsidized gas from Russia to the tune of half of the European market price—that either the Ukraine is going to play ball their way or suffer the consequences.

This point may be marked as Ukraine’s struggle to transition from a socialist to capitalist state. On one hand the latest news reports from Ukraine show democratic-thinking leaders and a populous looking West. Yet on the other hand, Ukraine has a weak economy (high debt, and unstable currency, and like Russia is levered to commodities) and therefore needs Russia’s handout. The country’s lack of negotiating power is evidenced by Ukraine’s President Viktor Yushchenko attempt on December 31st to negotiate the transit price (what Gazprom pays Ukraine to ship gas through the country to Europe) from $1.70 per 1,000 cubic meters per 100 kilometers to $2. Kindly stated, Ukraine has a weak handshake and no cards to put out on the table.

Ukraine has agreed to pay $1.52 billion to Gazprom by January 11th, leaving a balance of over half a billion dollars to pay off its debt. It will be interesting to monitor this development in the next days. In the wake of the shut-off Gazprom stated it will increase supply to Europe via a line running through Belarus. Unlike in 2006, Europeans are not as worried for they have adequate inventory and alternative supplies such as liquefied natural gas. Ukraine says it has gas in storage equivalent to about 35% of annual consumption.
Let’s hope this number is accurate. Today’s weather report out of Kiev shows 13 degrees Fahrenheit and a chance of snow.
Matthew Hedrick

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