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Analysis & Opinion
16.01.11 Kiev’s Gas Dilemma
By Tai Adelaja

Assuming it could, Ukraine would like to turn its back on Russian gas imports and instead opt for coal for its energy requirements, as Kiev's negotiation with Moscow over gas price reduction appeared to be heading nowhere. In the latest sign of Kiev's increasing frustration with Moscow over a controversial 2009 gas contract, Ukrainian Prime Minister Azarov said Friday that considering his country's dire energy situation, developing coal-fired power plants is more profitable than relying on natural gas. In preparation for a possible future shift, Azarov said that Ukraine is actively seeking to reduce its consumption of expensive Russian gas this year.

"If the question is about the use of coal instead of gas when gas costs $416, as it does now, it makes more economic sense to use coal,” Azarov was quoted by the Ukrainian Independent News Agency as saying. “But if the price of gas will come down to, say, $220, then it will be inefficient to use coal instead of gas.” Azarov said that Ukraine has set itself a task to “seriously reduce the consumption of Russian gas this year,” adding that his government already assigned tasks to ministers in accordance with the cabinet strategies to reduce Kiev's reliance on Russian gas. Intensified efforts by the government to develop the country's coal industry over the past two years, he said, have yielded a surplus of five million tons of coal in 2011.

The latest tension between Russia and Ukraine, which used to ship 80 percent of Russian gas to Europe before the launch of Nord Stream, escalated this week when Kiev announced it would cut imports to 27 billion cubic meters this year, down from an estimated 40 billion cubic meters in 2011. Ukraine has been trying unsuccessfully for over a year to persuade Moscow to review the 2009 deal, which it says sets an exorbitant price for gas. Ukraine pays $416 per thousand cubic meters this quarter, and sees a fairer price at $250. Russian gas export monopoly Gazprom has protested the move, pointing out that the pre-specified 2012 minimum volume was 52 billion cubic meters according to a “take or pay” provision in its gas agreement with Kiev. Kiev cannot unilaterally change the terms of the contract or reduce the amount of gas it contracted to purchase in 2012 to the annual 27 billion cubic meters, Gazprom Spokesman Sergei Kupriyanov said Thursday.

In the past, the Ukraine has made frantic – but largely futile – efforts to challenge its 2009 contracts with Russia, including threats of court action. In what appears to be a desperate effort to prove that the contracts were concluded in violation of Ukrainian law, former Prime Minister Yulia Tymoshenko was prosecuted and jailed for signing the gas contracts. At the same time, the government presented a plan to restructure the state-owned gas company Naftogaz Ukrainy and render it ineffectual as an economic entity, in hopes that it might lead to a change in the contracts with Gazprom. Lacking few other natural resources, Kiev is also considering a fast-track development of the country’s estimated 1.5 trillion cubic meters of shale gas reserves. The country awarded its first shale gas exploration contract to the Anglo-Dutch giant Shell in September, in a deal worth up to $800 million, Ukraine's state gas exploration company said.

But a lack of tangible results from such multi-pronged efforts has only added to Kiev’s bouquet of worries. Kiev has been complaining loudly and publicly in recent months that it has been paying some of the highest prices for gas in Europe because of the unfavorable terms of the contract. Gas prices remain a heavy burden on the country’s budget despite signing the “fleet for gas” agreement to extend the lease on Russia’s Black Sea Fleet in Sevastopol in April 2010, officials said. Russia has hinted that Ukraine could get a better deal on its gas imports if it cedes control of the country's Soviet-era gas pipeline network, which is used to move Russian gas to Europe. Kiev has rebuffed the offer, saying that it amounts to Russia's de facto takeover of Ukraine’s entire gas sector. Despite repeated requests from Moscow, Kiev has also refused to join the Kremlin-led Customs Union of Russia, Belarus and Kazakhstan, saying that it will scuttle its ongoing negotiations on an Association Agreement with the European Union.

While tension appears to be running high between the two countries, however, the Ukrainian prime minister gave assurances on Friday that there will not be a repeat of the gas war that disrupted energy supplies to Europe in 2008 and 2009. "Why should we fight a war with our Russian brothers?" Interfax quoted Azarov as asking. "We are not even talking about it, and never will." Azarov said Kiev would continue to negotiate with Moscow no matter what and will prove to its powerful neighbor that “life goes on beyond contract papers.”
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