Substantial price increases for natural gas are again on the horizon for Ukraine following an agreement reached between Turkmenistan and Gazprom
Turkmenistan and Gazprom, which significantly raises the price for the blue-burning fuel the Russian gas monopolist will buy from the Central Asian state and resell to Ukraine.
Imports from Turkmenistan and other Central Asian countries fill most of the gas needs of Ukraine, which suffered additional inflationary pressures last year thanks to stiff price hikes for gas in 2006 and 2007. The gas price hike is also expected to apply further pressure on state oil and gas holding Naftogaz Ukrainy, which currently finds itself on the verge of a technical default on Eurobonds.
According to the Turkmen-Gazprom agreement, in the first half of 2008, Gazprom will pay Turkmenistan $130 per 1,000 cubic meters of gas, or 30 percent more than the current rate, with fees increasing to a $150 rate in the second half of next year.
As a result, the price that Ukraine will pay for gas next year is expected to rise from $130 per 1,000 cubic meters to a $160-180 rate. Gazprom resells gas headed for Ukraine to Swiss-registered middleman RosUkrEnergo, and Ukraine has not yet signed a gas supply agreement with either.
“So far, we don’t have official notices from our Russian partners regarding changes in the price [of gas]. However, it is obvious that changes in the purchase price of gas in Central Asian republics will directly impact a change in the price of gas for Ukraine,” said Konstantin Borodin, spokesperson for Ukraine’s Fuel and Energy Minister, Yuriy Boyko.
“As of today, price formation is based on the formula, ‘Gazprom’s purchase price plus transit costs.’ The cost of transit is about $30, that is, under the purchase price of $130, the price for Ukraine will be about $160. Under the purchase price at $150, the price for Ukraine will be about $180,” Borodin said.
Borodin refrained from providing a definitive gas price forecast, saying that negotiations regarding the price of gas for Ukraine are underway. He added that Ukraine is the main transit country of Russian gas to Europe, and would put forth the conditions that it deems best for the country.
“Negotiations are ongoing,” he said.
Earlier this week, Gazprom’s CEO Aleksei Miller blamed the US and EU for the impending and unexpectedly large price hike, saying these Western powers have argued that Turkmenistan and other Central Asian countries could get more money for their gas if they support gas pipeline projects bypassing Russia. Lobbying for such a project boosted the bargaining power of Turkmenistan, he suggested.
Prior to the new Turkmen-Russian agreement, Gazprom had a contract that set the price for Turkmen gas at $100 for 1,000 cubic meters until 2009. Sources said Gazprom agreed to the higher prices to dissuade Turkmenistan from backing the bypass route projects.
Ukraine could compensate for the higher prices by raising the transit fees it charges for transporting gas through its vast pipeline system to Europe, which receives about a quarter of its gas needs from Russia via Ukraine. However, such a move could lower Ukraine’s attractiveness as a transit route for Russian gas, and increase the drive to find alternative routes bypassing Ukraine, according to insiders.
The gas squeeze
The higher than expected gas price hikes is negative news for Ukraine, which is already struggling with high inflationary pressures sparked by the gas price increases from 2006 and this year. The previous hikes sparked higher prices across the board.
While households consume mostly domestic gas, utility service fees for citizens and businesses were increased. Ukraine’s vast gas-guzzling steel and chemical industry, which consumes imported gas only, will bear the brunt of the price increases.
Inflation is expected to tally in at 14.5 percent or higher for this year. It remains unclear how much the price increases will stoke up inflation in coming years.
“The worst effect from the gas price increases will be felt by [state subsidized heating and communal services enterprises],” said Volodymyr Omelchenko, an energy analyst at the Razumkov Ukrainian Center for Economic and Political Studies.
Higher gas prices will hurt the margins of Ukraine’s gas-guzzling steel and chemical businesses, which compete on the export market with Russian counterparts.
In a Nov. 28 report, Alfa Capital Ukraine suggested the higher gas prices will, however, be manageable for most of Ukraine’s industry, which has in recent years moved to improve energy efficiency by reducing consumption of gas. While Ukrainian steel and chemical producers will face higher gas prices than competitors in Russia, they will still pay lower than EU levels, preserving their “competitive advantage through at least 2011.”
Still, Ukraine’s industry has moved fast in recent years to cut down on gas consumption.
Omelchenko said the increases “will impact owners of big enterprises less” while hitting the “poor layers of society in a bigger way.”
“Foremost, they will have to pay more for communal services,” he added.
Future gas price hikes are expected to lead to additional price increases on communal service utilities, which could further complicate the finances of Naftogaz, which collects gas payments from them.
The 2006 gas accord with Russia stripped Naftogaz of sales on the domestic market to the best payers – industry. Instead, the company has been cornered into collecting from households and state-run utilities, where payment is poor and services subsidized. The state has increased tariffs and will likely need to do so again next year to compensate for the higher gas prices. But collecting could become more difficult for the already cash-strapped Naftogaz.
European banks with an interest in Ukrainian debt have expressed fears that sustained political paralysis and the prospects of higher gas prices will leave Naftogaz’s growing troubles ignored. The state energy firm has failed to produce an annual audit, thereby violating the covenants in Eurobonds placed with investors. Sources said the audit, prepared by Ernst & Young, will not be signed until parliament adopts tax relief for Naftogaz.
Bondholders agreed to a waiver this month, giving Naftogaz until the end of the year to produce an audited annual report. Naftogaz has held its own, making payments on its Eurobonds and other debt obligations. But news of another gas price hike for Ukraine has made bondholders even more edgy about the possibility of a default.
Ukraine’s parliament convened for the first time last week after snap parliamentary elections on Sept. 30, but political bickering has put off formation of a new coalition majority and government. If parliament remains deadlocked, analysts fear tax relief laws won’t be passed by the end of the year, triggering a technical default.
Should Naftogaz, once Ukraine’s largest company, sink into a technical default, the corporate and sovereign borrowing for Ukraine would become more expensive.
This would hurt many domestic borrowers and the economy overall.
