The Misperception of the Russian-Ukrainian Gas Problem
By Dr. Gary K. Busch, 12/1/09
Jan 12, 2009 - 2:07:18 PM
The current faceoff between Russia and the Ukraine is deeply
worrying and disruptive to the countries of Europe. They are, to a large degree,
dependent on gas supplies from Russia for their heating and lighting. It is a
However, the perception of the motives for this confrontation
is askew. This is a ritual confrontation between Russia and the Ukraine and
derives from corruption, and only marginally for a search for political ends. The
control, ownership and operating procedures of the suppliers of Russian gas are
only marginally less transparent than the murky world of the gas intermediaries
in the Ukraine.
The Soviet gas industry was set up in the Ukraine in the
1930s; and the infrastructure was built from there. The Ukraine is still a
central part of the gas pipeline network even as the focus of activity for new
gas fields has moved to Western Siberia. At the end of the Cold War, the
division of the Soviet Union along Republic borders made for an often
unworkable allocation of physical assets. Nowhere was this more true than for
gas. The consequence is that vital assets for Gazprom (the massive Russian state
gas company) are located in Ukraine and thus no longer under its direct
Ukraine is a key transit centre for Russian natural gas
exports to Europe. According to the Oil and Gas Journal, Ukraine has roughly 40
trillion cubic feet (Tcf) of natural gas reserves, from which roughly 0.68 Tcf
was produced in 2005. In 2006, Ukraine produced 0.67 Tcf and consumed 3.1 Tcf
of natural gas, making it the former Soviet Union's largest natural gas net
importer (2.4 Tcf, or 78 percent of consumption). Ukraine is the sixth-largest
consumer of gas in the world and consumes more gas than Poland, the Czech
Republic, Hungary, and Slovakia combined. Since the early 1990s, Ukraine’s
usage of natural gas as a share of its total energy consumption has increased
by 10 percent to comprise over half of Ukraine’s energy usage.
Ukraine holds 1.1 Tcf of natural gas in storage, and in
January 2006 Prime Minister Yekhanurov announced a plan to increase the
capacity at Ukraine’s 13 existing storage facilities to 1.2 Tcf by 2009. The
six major facilities, most of which are depleted gas fields, are located in the
provinces of Lvov, Kiev, and Chernigov. Ukrainian storage is held by Naftogaz
Ukrainy, RosUkrEnergo and Ukrgazenergo, with a few small contracts with other
companies. Ukraine can withdraw gas
at around 7.1 Bcf/d (200 mmcm/d).
Ukraine plays a significant role as an intermediary
connecting Russia, the world's largest natural gas producer, with growing
European markets. Under the Soviet Union the nations of Eastern Europe were
supplied from the USSR through the mechanism of the COMECON and led to an
almost total dependence on the USSR gas supply. Now many of these former Soviet
satellites are part of the European Union (‘EU’) and look to the EU for a
co-ordinated European response to the regular supply of energy.
Also, as gas exports from the Caspian to Europe and Russia
grow, Ukraine serves as the largest market for this natural gas. UkrTranzGaz
estimates that in 2006 approximately 4.5 Tcf (128.4 Bcm) of Russian natural gas
transited Ukraine en route to Europe or to be consumed domestically. In 2007,
Gazprom and Naftogaz Ukrainy agreed to transit roughly 4.1 Tcf (116.8 Bcm).
According to Gazprom, sales to domestic consumers in Ukraine in 2006 totalled
2.1 Tcf (59 Bcm). The remainder, around 2.4 Tcf (69.4 Bcm), is sold to other
consumers that are connected to Ukraine’s transit lines. Some of these
countries are entirely dependent on this natural gas for their gas consumption.
Europe’s dependency on natural gas exports from Russia drew
worldwide attention in January 2006 when a longstanding dispute over price and
payment mechanisms in the in-kind agreements caused Gazprom to shut off gas
supplies to Ukraine. Supplies to Europe were also affected. Eventually,
Russia’s natural gas company agreed to sell its natural gas to RosUkrEnergo, a
Zurich-based trading company, 50 percent-owned by Gazprom, at the market price
of $6.51/mcf ($230 per thousand cubic meters). RosUkrEnergo also acted as an intermediary
in the acquisition of supplies of natural gas from Kazakhstan and Turkmenistan
The current dispute is a mirror of the 2006 faceoff. Russia
wants a higher price for gas from the Ukraine and the Ukraine wants lower
prices and higher transit fees for gas that passes through the Ukraine.
Importantly the Ukraine has a very large storage facility for natural gas and
the Russians do not. That has mean that the Ukraine has storage space to divert
and store gas destined for other European customers while the dispute goes on,
which is why the Russians turned off the taps entirely.
However, the nub of the dispute is that no one really knows
how much Russia is getting paid for its gas and no one really knows how much
the Ukraine is paying for the gas or is charging Gazprom for transit fees. The
entire business is cloaked behind layers of secrecy by both sides as the
Russian oligarchs and the Ukrainian oligarchs plunder the common pot of money
without restraint or accountability.
Gazprom has always been the cash cow of the Russian
establishment. Massive amounts of cash are washed through Gazprom, some of
which is declared and paid to the Russian Treasury. In the wake of Putin’s
accession to the highest offices the control of Gazprom has been taken over by
two factions of the siloviki (the oligarchs in epaulets); the former Chekists
who have ascended to economic and political power in Russia. The first group is
led by Igor Sechin, now Deputy Premier and also head of Rosneft (the oil
company). He and his colleagues control much of what Gazprom is up to. The
second is Putin himself, and the former Gazprom head, Dimitry Medvedev (now
President). Right now the 50% of Gazprom formally owned by the Russian State is
split between two public bodies controlled by different senior Kremlin insiders.
These are the owners of the Gazprom share of the Swiss intermediary RosUkrEnergo
which is charged with handling the oil and gas trade between the Russians and
the Ukrainians. There is no transparency at all.
It is no different on the Ukrainian side. It
wasn’t pure chance Yulia Tymoschenko made her fortune in gas trading in the
1990s or that Yanukovich represents some of the largest gas-users from
heavy-industry in Eastern Ukraine. The prime mover has been Dmytro Vasylevich
Firtash who has been shown to be the beneficial owner of a 45 percent stake in
RosUkrEnergo, the company that imports Russian and Turkmen gas into
Firtash’s involvement in
RosUkrEnergo was a closely-held secret until April 2006, and the revelation of
his ownership has made him one of the most mysterious and controversial figures
in the Ukrainian energy sector.
Firtash has been a central figure in the Ukrainian gas trade
for a decade, previously serving as a principal of Itera and Eural Trans Gas.
Firtash and RosUkrEnergo were at the centre of
the controversial January 2006 gas deal between Russia and Ukraine.
This deal gave RosUkrEnergo a monopoly over
imports of Russian and Turkmen gas to Ukraine and nearly doubled gas prices in
Dmytro Vasylevich Firtash is one of the most mysterious and
talked-about figures in the Ukrainian energy sector.
He was nearly unknown until April 2006, when
the leak of a PricewaterhouseCoopers audit report revealed that Firtash is the
co-owner of RosUkrEnergo, the controversial, multibillion-dollar company that
holds a monopoly on importing Russian and Turkmen natural gas into
This revelation thrust Firtash into the
public and media spotlight and puts him at the centre of the critical gas
trading negotiations between Moscow and Kyiv.
Since his association with RosUkrEnergo became public, Dmytro
Firtash has been dogged by rumours that he is linked to Semyon Mogilevich, a
notorious organized crime figure who is wanted by the FBI and Interpol on
charges including racketeering, money laundering and securities fraud.
This assertion was repeated by former
Ukrainian Security Service (SBU) Chairman Oleksandr Turchynov, who reportedly
was investigating the links between Firtash and Mogilevich when he was
dismissed from his position in 2005.
According to reports by investigative journalists, Mogilevich
may have been involved in the founding of Eural Trans Gas.
According to published reports, Mogilevich
convinced Firtash to register Eural Trans Gas.
Notably, the company was registered in Hungary by Mogilevich’s lawyer,
Turchynov has alleged that
Mogilevich has used Eural Trans Gas and RosUkrEnergo to launder money. Firtash
admits that he has met Mogilevich several times, but denies that they have ever
had a business relationship.
Firtash admitted to the Wall Street Journal that Mogilevich’s wife was a
shareholder in Highrock Holdings.
Otherwise, no definitive connections between Firtash and Mogilevich have
been proven to date.
By 2004, Gazprom wanted a more direct stake in the gas
It secured a new
arrangement with Firtash in the form of RosUkrEnergo, which began operating in
The trader’s role expanded
significantly in the resolution to the January gas crisis between
under the 4 January 2006 deal that resolved the crisis, RosUkrEnergo was given
a monopoly on supplies of Russian and Central Asian gas to
the price for this gas nearly doubled.
The deal received harsh criticism,
particularly from Yulia Tymoshenko and her supporters, and was a major centrepiece
in the conflict between Tymoshenko and the Yushchenko government in the 2006 Verkhovna
Firtash, who controls a 45 percent stake in RosUkrEnergo,
shares ownership with Gazprom, which controls 50 percent, and a Ukrainian
banker, Ivan Fursin, who controls the remaining five percent stake.
Fursin and Firtash own their shares
beneficially through Centragas Holding AG, a trust with
Centragas was reportedly under
investigation by the US Department of Justice when it became known that Fursin
and Firtash were beneficial owners.
Naftohaz Ukrainy, as the state gas company of Ukraine, is
also involved in the trading of gas to and through the Ukraine. Gazprom, as a
supplier of gas, has a commercial interest in this market too. The question is “What
is the commercial rationale for involving RosUkrEnergo, a company with no track
record in the gas industry? What service does RosUkrEnergo provide to the gas
trade that cannot be provided by Naftohaz Ukrainy?”
RosUkrEnergo made profits of over US$700 million in 2005.
Meanwhile, Naftohaz Ukrainy has accrued debts of over US$500 million, mostly to
RosUkrEnergo. What can possibly be the commercial reason for Naftohaz to be so
indebted to this private company, or for Ukraine to cede half of its domestic
market to RosUkrEnergo via the new joint venture UkrGazEnergo?
Perhaps one reason is that, according to a RosUkrEnergo
internal document dated July 2004, Ihor Voronin, the current deputy chairman of
Naftohaz Ukrainy, was nominated a member of RosUkrEnergo’s co-ordinating
committee – an important body in charge of the company’s strategy. So was Mr
Yuri Boiko, then the chairman of Naftohaz Ukrainy. This document explicitly
states that Mr Voronin and Mr Boiko were “nominated by Centragas” onto the
RosUkrEnergo co-ordinating committee. In effect, these two men were on the
committee of a private company at the behest of private investors (Firtash and
Fursin), while serving as senior officials of a Ukrainian government company
whose demand for gas was a major source of RosUkrEnergo’s profits
The relationship between Russia and the Ukraine is not an arm’s
length relationship. The oligarchs behind Gazprom realised that it could not
get any money out of official deliveries to Ukraine. It "solved" that
problem by privatising a portion of the gas trade to Ukraine - the portion
going to customers able to pay for their gas. These customers used to pay the
central Ukrainian gas company, Naftohaz Ukrainy, which did not pass on that
money to Gazprom; what was put in place was a mechanism whereby these customers
would pay less for their gas, but would pay directly another supplier, formally
unrelated to either Ukrainian gas authorities or Gazprom.
Of course, only gas coming from Russia could be delivered,
and it still needed to use Ukraine's gas infrastructure, so the active
cooperation of Gazprom and the Russian and Ukrainian siloviki was required to
put that trade in place. In that type of system the real money generated did
not need to go either to Kiev or to Moscow but could go to Switzerland. This is
immensely profitable to both the Russian and Ukrainian siloviki.
Now, such an amazingly profitable business has attracted
potential new partners, keen to get in on the action. In the Ukraine the political
infighting mirrors the fight for access to this gas bounty. The political
conflict between Tymoschenko, Yanukovych and Yuschenko mirrors the search for
acceptance as the Ukrainian partner. This, too is mirrored in the steel pipe trade
So although this conflict is steeped in the political
rhetoric about NATO recognition, independence of the Ukraine and European unity
the actual battle is over which thief gets the biggest portion of the profit
from the trade. It is inevitable that a compromise will be reached, perhaps
with monitors, assuring Russian supplies transit the Ukraine properly. What
will not be settled is exactly what the Ukraine is paying for gas, how much the
Russians are getting for their gas or how much they are paying for transit.
These are state secrets and only Firtash, Putin and Sechin really know for
In the pre-Christmas season in England it is a tradition to
put on pantomime productions, with ‘baddies’ whom one hisses and shouts at and
‘goodies’ whom the audience warns For those
who don’t want to go out to hear shrieking children they can always study the
Russian-Ukrainian gas delivery battle. It’s just as realistic.
This article contains material previously published by Jérôme Guillet at the European Tribune (http://www.eurotrib.com/story/2009/1/3/786/89128) and The Oil Drum (http://europe.theoildrum.com/node/4929). Dr Guillet is not responsible for any other parts of the article, or any errors contained therein
Source: Ocnus.net 2008