Russia Cuts Gas to Ukraine, Flows to EU Threatened

Alexei Miller Gazprom
Alexei Miller, chief executive of Russian state energy supplier Gazprom, takes part in a news conference in Moscow, June 16, 2014. Sergei Karpukhin/Reuters

KIEV/GORKI Russia (Reuters) - Russia cut off gas to Ukraine on Monday in a dispute over unpaid bills that could disrupt supplies to the rest of Europe and set back hopes for peace in the former Soviet republic.

After weekend violence that included the loss of 49 troops in the downing of a Ukrainian plane, Russia said Kiev missed a deadline for a $1.95 billion debt payment and it would now only get gas it has paid for in advance. It insisted Ukraine must also ensure that it lets Russian gas flow through international pipelines to Moscow's clients in the European Union.

Kiev and Moscow blamed each other for the failure to agree overnight on the price of future gas deliveries and refused to abandon well established positions: Russia offering a discount and Ukraine rejecting that as a tool for political manipulation.

The talks are bound up with the worst crisis between Russia and Ukraine since the Soviet Union collapsed - a crisis that has brought Western sanctions on Moscow, the Russian annexation of Crimea and Cold War-style saber-rattling along the borders.

Western-backed Ukrainian President Petro Poroshenko, elected last month to replace the Kremlin-friendly leader ousted in February, said on Monday he wanted troops to regain full control of the border with Russia this week. After that, there could be a ceasefire and efforts to come up with a peace plan.

Hopes of a reduction in tension had already been dented before the failure of the gas talks by Saturday's shooting down of the aircraft by pro-Russian separatists at Luhansk in the east, an attack on Russia's embassy in Kiev and new accusations from NATO that Russia is arming the Ukrainian rebels.

All that sent Russian financial markets lower on Monday and helped oil and gas prices climb in Europe that were already firm on fears of supply disruption due to violence in Iraq.

"Thanks to the unconstructive position of the Ukrainian government, today a prepayment system was introduced," Alexei Miller, the chief executive of Russian state exporter Gazprom, told Prime Minister Dmitry Medvedev during a somber meeting at a government residence at Gorki, outside Moscow.

He said Ukraine had "adopted a position that can only be called blackmail", adding: "They wanted an ultra-low price."

At a news conference, he pressed his argument, unable to contain his frustration over the failed talks which erased any previous momentum towards a compromise.

Moscow, he said, would no longer accept Kiev paying off part of its total debt to restart supplies. It would restart gas supplies only when Ukraine paid off all the almost $4.5 billion it owed and paid up front for a month's deliveries, he said.

"NOT ABOUT GAS"

Ukrainian Prime Minister Arseny Yatseniuk accused Russia of deliberately blocking a deal to cause Kiev supply problems next winter, when temperatures plunge and heating needs increase.

"But it is not about gas. It is a general Russian plan to destroy Ukraine," Yatseniuk said in Kiev. "It is yet another step against the Ukrainian state and against Ukrainian independence."

Medvedev said some of Kiev's ruling elite were not up to the job, echoing outrage over Ukraine's acting foreign minister using a coarse anatomical expression to describe President Vladimir Putin during the weekend protests in Kiev.

"You can see this in many situations; from the paranoid behavior of the acting foreign minister at the Russian embassy in Kiev to the failure of the prime minister of Ukraine to agree on gas on the basis of a discounted price," he said on Facebook.

SUPPLIES IN STORAGE

A source at Gazprom said supplies to Ukraine had been reduced as soon as the deadline passed and Ukrainian Energy Minister Yuri Prodan said the country was receiving no gas.

Ukraine has at least 12 billion cubic meters of gas in storage, enough to meet its and the EU's needs over the summer.

A long-term reduction of supply could hit EU consumers, which get about a third of their gas needs from Russia, around half of it through pipelines that cross Ukraine. Earlier price disputes led to "gas wars" in 2006 and 2009, and Russian accusations Ukraine stole gas destined for the rest of Europe.

Gazprom's Miller said Russia would provide Ukraine with the volumes necessary to cover EU demand, but implied that Kiev may take some of those supplies for their own use - a potential shortfall Moscow could not be expected to cover.

"Regarding transit risks, they exist and they are not insignificant," Miller said of supplies reaching the EU.

The bloc's energy commissioner, Guenther Oettinger, who has been brokering the gas talks, said in Vienna that the EU should top up its storage or could face problems in winter.

He urged Russia to reconsider a compromise and held out the prospect of future talks.

But with both sides filing lawsuits at the Stockholm international commercial arbitration court to try to recover billions each says they are owed, any quick agreement seems a way off.

SHARES FALL

Russian shares fell on the talks' collapse, which is likely to increase tensions between Moscow and the West and could make it harder to arrange a truce in east Ukraine, where Ukrainian troops are fighting pro-Russian rebels, some of whom want the region to be absorbed by Russia, as Crimea was in March.

At 8.26 a.m. EDT, the dollar-denominated RTS index had pared some of its losses and was down 1.45 percent at 1,355 points, while the rouble-based MICEX was down 0.7 percent at 1,491 points. Prices for Brent crude were up near $113 a barrel.

Western countries saw the talks as a gauge of Putin's willingness to compromise and had been looking for signs that he was trying to avert the threat of the West adding to sanctions imposed after Russia seized Crimea.

That move came after Moscow-leaning Ukrainian president Viktor Yanukovich was ousted by street protests in February and pro-Western leaders took over power in Kiev. Russia denounced that as a Western-backed fascist coup.

Ill-feeling notched up again at the weekend. Protesters ripped up Russia's flag outside Moscow's Kiev embassy after the loss of the military plane in the east. NATO released satellite pictures that it said raised suspicions about Russia's role in moving military equipment into eastern Ukraine.

The gas talks broke down with the sides unable to reach agreement on price and on changes to a 2009 contract that locked Ukraine into paying the highest price in Europe. Kiev wants to pay $268.50 per 1,000 cubic meters of gas - the price it had been offered when Yanukovich was in power. But, in a compromise last week, it said it would agree to pay $326 for an interim period until a lasting deal was reached.

Moscow had sought to keep the price at the 2009 contract level of $485 per 1,000 cubic meters, but had offered to waive an export duty, bringing down prices by about a fifth to $385, broadly in line with what Russia charges other European states.

Kiev says that waiving the duty rather than agreeing a new contract price means Moscow could use the threat of cancelling the waiver to keep Ukraine under its thumb.

Oettinger said Moscow had declined a compromise proposal under which Kiev would pay $1 billion immediately and then make monthly debt payments to Gazprom. Ukraine would also pay $385 per 1,000 cubic meters in winter and around $300 in the summer months.

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