As protests in Ukraine’s eastern region turned violent on Sunday leading to the death of a Ukrainian security officer in a shootout with pro-Russian militia, Kiev threatens military action while Moscow flexes its geo-economic warfare muscles.
Pro-Russian militia groups have seized government buildings and police headquarters in Ukraine’s eastern city of Donetsk and Slovyanks–where the shoot-out took place–and despite a Monday morning ultimatum by the Ukrainian government, these groups have shown no sign of giving in.
There has been no movement by the Ukrainian military to make good on its ultimatum; indeed, the messages have been unclear and contradictory.
Acting president Oleksander Turchinov has dangled the idea of a referendum that would seek to address the demands of the region’s Russian-speaking population for more autonomy. In the same breath, Turchinov on Sunday promised a “large-scale anti-terrorist operation” to prevent another incident such as Crimea, which was annexed by Russia last month.
On Sunday, Moscow requested an emergency meeting of the United Nations Security Council (UNSC), while NATO came outwith estimations that Russia had amassed up to 40,000 troops in more than 100 locations along its border with Ukraine.
This is the atmosphere that leads us up to 25 May presidential elections in Ukraine, which will be shaped by metamorphosing relations with Russia—and by energy.
Over the past few years, Ukraine’s relationship with Russia has become increasingly adversarial, in tandem with Russian President Vladimir Putin’s desire to increase his status and dominion.
But it is through the spectrum of energy that we have seen the more poignant phases of this change. The current controversial gas supply agreement Ukraine has with Russia was put in place less because of Putin’s negotiating skills and more because of a concerted effort by former prime minister and current presidential candidate Yulia Tymoshenko to destroy the Ukrainian gas lobby run by oligarch Dmitry Firtash.
While Ukraine has always struggled with gas supply issues, this really changed the dynamic. Yuri Boyko—former energy minister and another current presidential candidate–has gone from a close working relationship to a very strained one with Russia as he sought to both keep the population supplied with cheap gas and to increase the country’s independent energy supply.
Boyko’s plans to further diversify the industry were halted when he was promoted to the position of vice-prime minister and Eduard Stavitsky, a member of ousted president Viktor Yanukovych’s inner circle, was given the energy portfolio. At that point, all efforts towards energy independence abruptly ceased.
What’s going on now is geopolitical and geoeconomic battle for the region, driven by loss of Russian credibility and Moscow’s control of the Ukrainian presidency when Yanukovych was ousted in February.
But it’s important in all of this to pay close attention to what Russia is airing as its grievances, which included: an illegitimate Ukrainian government led by radicals; unprotected Russian speakers in the eastern regions; and $11 billion in unpaid Ukrainian gas debt.
What Moscow is saying, then, is that the current administration has zero representation from the eastern portion of the country. It is important to remember that over 40% of the Ukrainian population—all from the east—was against signing the economic cooperation agreement with the European Union, which was carried out immediately after the annexation of the Crimea in late March.
Russia can realistically argue that the Maidan protest movement drove the political section process, and that the current government is not representative of the country as a whole. The current administration was interested in placating the Maidan and moving towards Europe, not necessarily in united the country.
And what have they accomplished? Nothing. There are still people protesting in the Maidan; Crimea is gone; and eastern Ukraine is under threat of attack from Russia.
The current leadership should also take responsibility for its role in provoking the current situation. They refused to speak with Russia once they assumed leadership, stating they had support from Europe and the United States. At the same time, some politicians and ministers are busy conducting their own brand of justice, accusing anyone that is of the former government of crimes with little to no justification and trying to take advantage of their few remaining weeks in office to position themselves for future power.
What Russia wants is an integrated representative government. If this is realized, Moscow will no longer be able to play the legitimacy card. If Petro Poroshenko, who is leading in the polls right now, wins the presidency, then Ukraine will need a prime minister that is accepted in the east in order to have an integrated government.
This new government will also need to find an effective way to pay the country’s gas debt to Russia, because that will not disappear. The only way to do that is to start selling off energy assets and privatizing the energy infrastructure.
Russia has been able to manipulate Ukraine’s energy dependency to the benefit and pursuit of its foreign policy goals. We’re seeing this very clearly today as Putin has called for the payment of $38 billion from Ukraine, the result of unpaid gas sales and the removal of the discount for the Black Sea port in Crimea.
Ukraine’s economic crisis had been transformed into geoeconomic warfare caused by Russia’s control of supply to Europe and Ukraine’s failure to develop its own internal energy resources. And it cannot be coincidental that Russian troops are building up close to Ukraine’s gas pipelines.
Ukraine presents the most powerful example of Russia’s use of the energy weapon as a means to influence the foreign policy orientation of a post-Soviet state, and as “testing ground” for Russia’s possible use of energy as a foreign policy weapon elsewhere in the former USSR and beyond.
However, Ukraine’s new leadership has to take responsibility here as well. The current situation is not as black and white as our Cold War mentalities tempt us to believe. The onus is now on Kiev, and there are diplomatic and economic ways to halt the violent progression and render Moscow’s arguments moot.
By Robert Bensh for Oilprice.com
There is only one certainty in Ukraine: The energy sector must and will be transformed, and how long this takes will depend on who ends up in the driver’s seat and how serious they are about becoming a part of Europe and reducing dependence on Russia. But by then, investors will have missed the boat.
The driving factor for any energy investor in Ukraine is the pricing environment. There is nowhere else in Europe—or some would even argue in the world—where you are going to get significant access to resources and potential resources for the price. Gas is selling at $13.66/Mcf, while it costs $4-$5 to produce and operate. That means producers are netting anywhere between $8 and $9/Mcf.
Whether it likes it or not, kicking and screaming, Ukraine will have to transform its energy sector, if it hopes to see promised IMF money. Kiev will have to start selling off assets and making the industry much more transparent. Greater transparency coupled with an already-favorable gas price environment, will make Ukraine one of the best places to be over the next 5-7 years.
While everyone is now closely watching the campaigns unfold in the run-up to 25 May presidential elections, in the end who wins the presidency—and even the energy ministry—will determine not if, but how fast the country moves to transform its energy sector.
The crucial next step is a psychological one: Ukraine’s new leaders must come to the realization that their energy assets, particularly the pipeline system, are not strategic assets, rather they are valuable commercial assets. Privatizing these assets could raise $50 billion.
Right now, the pipeline system is nothing but a conduit for Russian gas into Europe. It could be much more. The pipeline system, and the state-run company that manages it, should be turned into a transparent public company in London, for instance. The sale of 50% of the company could generate sizable profits—half of which could be used to pay down debt to Russia, while the other half could be invested in modernization, turning a potentially valuable assets into a commercially realistic one.
Without the right people in place in the new government, we could perhaps lose a year in getting the necessary reforms in place. And continued talk about the “strategic” nature of these assets could cause investors to lose faith in Ukraine’s seriousness about reducing its dependence on Russia. Eventually, it will happen, and what elections will tell us simply is how long it will take.
There are a lot of resources to be developed in Ukraine, and there are also quite a few companies who have assets they cannot development, primarily due to lack of funding or marginal management teams. These companies will now be seeking to transact with larger players.
Historically, the most significant red flag for new investors in Ukraine has been working with the government. It’s too early to determine whether that will change. Bureaucracy generally kills deals more than anything, and foreign companies coming in will never be able to understand how the bureaucracy works. The smart investor will employ capital through a Ukrainian private entity to maximize investment dollars. Western management teams, without help from local partners, won’t be able to operate in this venue even if they are top-notch managers.
The smart investor will also realize that there is no better time to invest in Ukraine’s energy sector. Once it is transformed, the best opportunities will have been seized.
By. Robert Bensh for Oilprice.com
Ukraine’s Crimean Peninsula is now Russia’s. It was done with an impressively organized non-violent military operation, and supported by the foregone conclusion of a referendum on independence from Ukraine. One Ukrainian soldier was reportedly killed on 18 March, after Russian President Vladimir Putin signed the treaty to annex the Crimea and troops moved to take over a Ukrainian military facility in Simferopol. The US has imposed largely symbolic sanctions on Russian officials who have no American assets to freeze and would be fine foregoing trips to the US, but the game is over.
Ukrainian troops have been ordered to disengage entirely, and Russia will keep its tanks from rolling into Eastern Ukraine. We’ll hear a lot of rhetoric for the next six months before Crimea is forgotten. From an energy perspective, the Crimea is not a major loss for Ukraine, and now it’s up to the new government to get real shale development in motion, and for Turkey to face up to its own strategic realities and join forces with Ukraine to harness LNG potential, according to Ukraine energy expert Robert Bensh.
Robert Bensh is an energy and energy security expert who has led oil and gas companies in Ukraine for over 13 years, and served as an advisor to former energy minister and former vice-prime minister Yuri Boyko on issues of Western capital markets and political systems.
In an exclusive interview with Oilprice.com from Kiev, Bensh discusses:
• Why the Crimea game is over
• What Russia isn’t likely to roll into eastern Ukraine
• What Ukraine is losing from an energy perspective
• How Russia’s moves are strengthening Ukrainian resolve
• How the annexation of Crimea has heralded a new patriotism in Ukraine
• Why a lot rests of Ukraine’s next move on shale
• What opening the Bosporus to LNG would mean for Ukraine
• Why Turkey should be watching very closely
James Stafford: Now that Russia has annexed Crimea, are there fears that it won’t stop there, and that we could see Russian tanks entering Eastern Ukraine?
Robert Bensh: The reality is that this game is over. The Crimea is Russia’s and everyone’s let it go. Ukrainian troops are actively disengaging with Russian troops, even with Russian speakers in general. They will not engage, and in return, Russia will not attempt to move further into Ukraine.
If Russia rolls into Eastern Ukraine–even if they don’t kill anyone–we know that Poland, Romania, possibly Hungary, possibly Slovakia and definitely the Baltic states will invoke Article 5 of the NATO agreement. And when that happens, General Martin Dempsey, chairman of the US Joint Chiefs of Staff, has already stated that if NATO were called in, the US would stand behind it and support it militarily. The rhetoric has been pretty high, but it’s just that–rhetoric.
James Stafford: So the game is over, and Crimea is gone. What does this mean for Ukraine from an energy perspective?
Robert Bensh: With Crimea, Ukraine loses some prospective offshore oil and gas territory in the Black Sea, but it doesn’t lose any shale. All the shale is in Ukraine’s east and west.
But things are going to get tricky now. One of the bigger developments is likely to be the Russian nationalization of Chornomornaftogaz, Ukraine’s state-run gas company in Crimea. This, in turn, would impact Exxon Mobil’s proposed agreement for offshore Black Sea exploration. Exxon never signed the agreement because the Maidan protest movement was blowing up and they didn’t want to give anything to [now ousted] Ukrainian President Viktor Yanukovych, and rightfully so. But what happens next with that potential deal is up in the air.
Interestingly, I think we still have Ukrainian gas prices effective in Crimea but they would fall under Russian law. This is all completely new territory. This isn’t Africa, where something like this is par for the course. High-level government officials here have not been through this before so it’s a very unique, unwanted challenge. It’s upsettingly interesting.
James Stafford: What does this mean for Ukraine’s pipeline system?
Robert Bensh: Ukraine’s pipeline system would continue to belong to Ukraine unless Russia took over all of Ukraine. To get control of the pipeline system you have to roll up to the Ukrainian borders, side to side. And it’s hard for me to believe that NATO wouldn’t react to something like that. It’s hard for me to believe that NATO wouldn’t respond to Russia taking over the Donbass, Ukraine’s heavy industry heartland.
The Russian annexation of the Crimea isn’t going to have a major effect on pipeline gas on either side. Gazprom executives aren’t exactly losing sleep over what could add up to the gain of Crimea and the loss of Ukraine. Russia already ships almost half of its gas to Europe via pipelines that bypass Ukraine, and in 2015, if Gazprom’s South Stream pipeline comes online as planned, it will be shipping a lot more gas to Europe without Ukraine.
James Stafford: How critical, then, will Ukraine’s development of its shale assets be to forging energy independence, and what needs to happen next?
Robert Bensh: We could see some positive developments courtesy of the Russian maneuvering. There may be more impetus to invest in Ukraine’s shale development once the dust settles on the Crimea debacle. We’ll hear a lot of rhetoric for the next six months or so, but then the Crimea incident will be largely forgotten.
Ukraine is a great place to operate, and now it will be more transparent, so the sector should be opened up to more investment, which will happen as energy independence assumes a higher priority on the government’s agenda. The country has 14 per McF gas prices, which is very attractive. But Ukraine has to take the first step—and there is a lot to do.
Clearly, Ukraine cannot be happy with the progress made by Shell and Chevron in the shale development process. The process has been open and transparent, but only on two enormous blocks. To truly get shale development in the country, Ukraine needs to auction off multiple blocks of shale acreage, and the best way to do that would not be through a data-room process in Kiev, but in Houston or Denver, where a majority of the shale industry is located. Ukraine needs about 15-20 oil and gas companies developing shale, not just Shell and Chevron.
James Stafford: What are the prospects for getting liquefied natural gas (LNG) to Ukraine?
Robert Bensh: If you can get it through the Turkish-controlled Bosphorus Strait, you would have an endless supply of LNG going to Ukraine. The US now is pushing very hard to open up new LNG facilities in the US to get US shale gas/LNG shipped to Ukraine–but that won’t happen for five years, if it happens at all. Ukraine can’t wait for that.
But the moment you have access to the Bosphorus you have LNG delivery in Ukraine approximately a year after that. There has been a lot of conversation between the Ukrainian and Turkish governments. It’s all rhetoric on both sides, from my point of view. Until the Turks are shown that LNG is a safe commodity to pass through the Bosphorus, which it is; until they’re shown undeniably from a third party, that’s when they will sign off.
LNG is safe and we have a study to show that. At present, LPG [liquid petroleum gas] passes through the Bosphorus, and LPG is significantly more dangerous. From an environmental standpoint, oil is significantly more dangerous than gas. Let’s not forget that naval warships also pass through the Bosphorus, which is by far the most dangerous thing that is ever going to pass through this strait.
One thing the study shows is that LNG passes through the Houston ship channel, Rotterdam port, Chesapeake bay, ports of New Jersey–all without incident. I’m very respectful of those who are wary of LNG passing through the Bosphorus, but this fear is not based on fact. It’s based on what they believe, and we have facts that prove otherwise; and at that point we would hope that the larger potential here for all involved would outweigh these erroneous beliefs.
James Stafford: How would Ukraine receive gas coming through the Bosphorus?
Robert Bensh: Given that Crimea no longer exists—at least from a Ukrainian perspective—an FSRU [floating storage and regasification unit] would sit off the coast of Odessa, most likely, or around that region, which would still remain in the Ukrainian Black Sea. That’s where you would gasify the LNG and put it into the Ukrainian pipeline system.
James Stafford: Does Ukraine have this capability yet?
Robert Bensh: Ukraine already has an FSRU, for all intents and purposes. The only thing we are waiting on is access to the Turkish-controlled Bosphorus. At that moment, Ukraine’s purchases the FSRU and then we’re only about a year away from LNG gas sales. It’s that close. This was all done under former energy minister and former vice-prime minister Yuri Boyko. The only thing Boyko was missing was access to the Bosphorus. The barge is ready. The facility exists and is waiting to be purchased from a Houston-based company. There are traders with LNG just waiting for an order.
James Stafford: Should Turkey be taking notes here on what is happening in Ukraine with Russia?
Robert Bensh: Ultimately, I think Turkey has to look at Ukraine and realize that it is in the same strategic position with regard to energy independence. Turkey should be using Ukraine as a very real example as to why they need energy independence. They should focus on crude oil from Iraqi Kurdistan, development of Turkish shale assets, a complete break-up of the state-run oil company, TPAO, and transshipment of LNG through the Bosphorus.
James Stafford: You’ve talked before about the possibility of Russia’s actions actually facilitating Ukraine’s move toward signing a trade agreement with the European Union. Is there any room for more optimism over this, and possibly other internal political matters for Ukraine?
Robert Bensh: Yes. Russia’s actions have given Ukraine significant resolve to sign the trade agreement with Europe. Prior to Russia’s occupation of Ukraine, there were a lot of Ukrainians in government and business who were willing to sit on the fence, or even gear themselves more toward Russia, with whom they felt more comfortable, especially in eastern Ukraine. However, the violation of Ukraine’s sovereignty, the threat of recession, and the complete halt of work being done in the country has pushed even the most cynical businessperson or politician toward signing an association agreement.
I don’t meet many Ukrainians who think Ukraine should be part of NATO, but that could change with the annexation of Crimea. The Maidan protest movement was effective in giving the public a voice toward removing what they believed to be a corrupt and unjust government. What’s happening now is that the Russian move is further escalating Ukrainian patriotism. Indeed, it is creating fervent Ukrainian patriotism. I’ve been here for some 15 years, and I’ve never seen anything like it. I’ve never seen the country so united before. For me, this seems to be the birth of a new Ukrainian nation at this point.
I’ve never seen so many 22-40-year-olds completely charged and excited about their country and wanting to be a part of their government. I’m an American—we’re extremely patriotic. Canadians are patriotic, Russians are patriotic. Ukrainians weren’t, and I’ve never seen Ukrainian patriotism higher than right now. And as a visitor to this country I find it quite heartening.
James Stafford: How would you measure the Obama administration’s response to this crisis?
Robert Bensh: Well, I’m not a politician. I’m a businessman on the ground. For 14 years, I’ve been very critical of how the US has handled relations with Ukraine. We’ve had good ambassadors here, some better than others. While I think the US was slow to respond to the Maidan protest movement, and at points in time did not approve of how the administration was handling the situation in Maidan, I am exceedingly proud of this current US ambassador, Geoffrey Pyatt, and how he is handling himself. Even the Ukrainians on both sides of the fence respect him, which is really hard.
I believe that Obama has been quite measured in his response; maybe not the way I would have responded, but I am very proud of how my country is dealing with the situation. I think we all have to recognize that Putin is a very unique world leader. Even other world leaders, such as German Chancellor Angela Merkel, are having a hard time discussing this current situation with Putin. I respect that.
The Kerry-Lavrov Meet
Focus today will be the meeting between John Kerry and his Russian counterpart, Sergei Lavrov, and I sense there won’t be as much good humor as in some of the recent meetings between the two men. Indeed, relations between the US and Russia have sunk to new post-Soviet lows over the current crisis, with Kerry threatening to isolate Russia economically, politically and diplomatically unless Moscow pulls its troops back from Crimea.
The stakes are high for both sides – with the Obama administration under some pressure from the hawks in Congress for being soft on Putin and Russia in the run-up to the current Ukraine crisis, and Putin himself needing a foreign policy victory now to distract from his humiliation by the Maidan protest movement in Ukraine and economic difficulties at home.
Western threats to impose economic/financial sanctions on Russia appear to have surprised Moscow, and the response has been fairly incoherent at times, suggesting that they are not quite sure themselves how they could impact the Russian economy. Russian politicians have tried to respond with bluster, threatening to retaliate with their own set of sanctions, and banging the line that this will hurt the West even more. The threat yesterday to specifically target Russian banks, and more rigorously enforce FATF-style standards was particularly telling, as this could have a very significant impact on the Russian financial system and broader Russian business interests at a time when the Russian economy is already looking very fragile.
So where is the room for compromise in all this? And can Kerry offer Putin a face-saving exit?
I guess from the Western perspective, the aim is to get Russian troops and irregulars off the streets of Crimea and back to barracks. The hope is also that Russia stops working to destabilize Ukraine more generally, and perhaps understands also that the West will block any Greater Russia strategy, if indeed there is one. There is also perhaps the faint hope that Moscow might just be a little more constructive in helping the fledging Yatseniuk administration address its difficult economic challenges.
So what does Russia want?
As a starting point, what is clear is that Moscow wants a halt still to Ukraine’s European integration process, and a delay (perhaps terminal) in the signing of the AA/DCFTA.
Moscow would probably also appreciate greater control/ownership of key business/strategic assets in Ukraine, particularly the gas transit system.
There is also some real concern to protect the safety and interests of ethnic Russians in Ukraine, the claim that this has been the number one driver for recent Russian intervention is, however, stretching the imagination somewhat.
In order to deliver on the above agenda, Moscow wants an administration in Kyiv to be formed which better represents its interests, perhaps a coalition government including elements of the Regions party.
With little evidence that any of these objectives were going to be delivered, Moscow’s strategy moved to trying to destabilize the Yatseniuk administration in Kyiv, and looking to extract leverage via direct intervention in Crimea, threats of intervention elsewhere in Eastern Ukraine, and perhaps beyond.
Perhaps now we could add to the list of Moscow’s objectives heading off the risk of economic and financial sanctions on Russia, which could be extremely painful for the Russian economy and government-connected elites.
Obviously the easiest one to deliver on for Kerry would be the last, i.e. if Moscow pulls back its troops from Crimea, and the threat of economic/financial sanctions could be lifted.
Moscow wants more though, as Putin would find such an outcome difficult to square with his attempt to sell himself at home, and abroad, as a strong leader.
On the issue of the GTS, PM Yatseniuk has hinted of the privatization of Naftogas, and presumably Russia could be a potential bidder. It is not yet clear though whether any such sale would include the all-important pipelines, and how this would still square with Ukraine’s commitments under the European Energy Charter. Still, a big ticket Russian investment in Naftogaz, in exchange for a pullback over Crimea, and maybe a less destructive role more generally from Russia towards the Ukrainian economy and reform effort might be a win-win. There seems to be wiggle room here.
The Yatseniuk administration has also hinted of trying to respond to fears over the erosion of minority rights in Ukraine, indicating some flexibility over changes to the language law which eroded the status of the Russian language. It also seems willing to offer some greater autonomy to regions.
It is difficult though to see the existing administration in Kyiv agreeing to reformulate the cabinet in Ukraine, under pressure now from Moscow. The chance therein was some weeks back, but including elements from Regions in a coalition government was just a non-starter, given that it could not be sold to the Maidan.
Perhaps Russia, and its interests in Ukraine, might be willing to focus on looming elections to secure better representation in government, i.e presidential elections on May 25, prospects still for early parliamentary elections, and the March 30 vote on greater autonomy for Crimea. However, at this point in time, it seems highly unlikely that any pro-Russian candidate will win the presidential elections, with one of the three main opposition candidates–Tymoshenko, Klitchko or Poroshenko–appearing poised still to win that vote. There is still no set date for parliamentary elections, but even therein, and assuming no change in the current electoral rules, we could well see a significant shift in parliament away from Regions and to a much more fractured parliament, including representatives of Maidan, but similarly hardly much more pro-Russian.
And, finally, on the March 30 election in Crimea: While this might bring a vote supportive of Moscow, the West and the government is Kyiv is hardly likely to take this seriously given that the vote will have been conducted at short notice, without a proper campaign/independent oversight and at Russian gunpoint. Suffice to say any result in Crimea will not be deemed fair or representative by Kyiv or the West.
So no near-term prospect of a pro-Moscow administration re-emerging in Kyiv – albeit it is not inconceivable that a year or two down the line, if economic reform policies fail, the Yatseniuk government might also be ousted and a new political mix might then emerge. But this is a long way off, and Moscow needs a few nearer term wins.
Kyiv and the EU seem willing to delay signing the AA/DCFTA until after presidential elections on May 25, if only to ensure any such signature, and government, is deemed legitimate. However, there seems zero appetite to bow to Russian pressure – again at gunpoint – and further delay the signing of the AA/DCFTA which was after all a key motivation for Maidan. Any delay I think would be seen as doing a disservice to those who lost their lives on Maidan.
The above leaves very little room herein for concessions to Moscow, perhaps only on the GTS, but therein I cannot see the Yatseniuk administration conceding ground without a Russian withdrawal in Crimea and further assurances in respect to non-intervention in the future.
For Moscow, assuming that the AA/DCFTA will now inevitably be signed, and hence ruling out membership of the CIS CU, they may just prefer to try and retain de facto control of Crimea, and bide their time for future opportunities to extend influence/control elsewhere in Ukraine, perhaps as the current and any future pro-Western administration fails. And, the assumption would be that Russia will maintain a less-than constructive approach towards any such administration with disruptions to trade, financing and gas pricing.
By Robert Bensh