Staying strong against Gazprom

Nana Chornaya (UNIAN)

Ukraine has refused to buy gas at the price offered by Gazprom. Experts believe this position is justified and assure that the country will not freeze in the winter as the necessary volumes of gas will be purchased in Europe, at cheaper prices. But unfortunately, cheaper gas will not reflect in lower tariffs.

Ukraine refused to buy Russian gas at the proposed price of $177 per 1,000 cubic meters, as the European competitors’ price is more preferable. If the position of the Russian gas monopoly does not change, the necessary volume of fuel will be purchased on the European market. This is the result of the first round of negotiations this year between the Kremlin’s energy tool Gazprom and Ukraine’s Naftogaz over the supply of fuel for the winter period, held six months after Kyiv suspended gas purchases from Russia.

"The Minister of Energy of the Russian Federation says that Gazprom in the third quarter [of 2016] will be selling gas at $177. Considering the caloric content, this means that the price in the bills will be $182-$183. He believes that it is even lower than the market price. We don’t think so. Yesterday, on the German market (NCG hub) the price for July, for example, was less than $173," director for business development at Naftogaz Yuriy Vitrenko wrote on Facebook. (Naftogaz in 1Q 2016 imported gas from EU at a weighted average price of $198 per 1,000 cubic meters, which is 34% less than in 1Q 2015. Estimated price offered by Gazprom for 1Q 2016 was $230).

At this, Vitrenko said that the fact of Gazprom’s overpricing compared to the market price will be used as an argument in the Stockholm arbitration, where the claims of Naftogaz to Gazprom are being considered. But the gas issue has not been wrapped up yet. Negotiations are likely to continue. At least, Gazprom hopes so. As Russian Energy Minister Alexander Novak said, Moscow is waiting for Kyiv’s proposals. And this position is understandable. Losing such a buyer as Ukraine would be a shame for Russia, both economically and especially politically. At the same time, Gazprom’s financial state is not so stable today in the wake of the falling oil prices, to which its contracts are tied. Russian gas monopoly has already revised the conditions of supplies to the European consumers, which started to massively sue Gazprom in arbitration to establish the market cost of gas.

To relieve the tension, Gazprom has shifted to a pricing scheme based on the benchmark of spot prices for gas in Europe. At present, due to the collapse of the oil market, the export price of Russian gas to Europe minus transportation costs almost equals the price in Russia. Suffering losses, Gazprom starts freezing its investment projects, one after another.

Another sore point of Gazprom is the EU’s active policy of diversification of gas supplies to get rid of dependence on Russia. On June 6, the Council of the European Union approved the proposal of the European Commission to grant access to gas contracts and intergovernmental energy agreements before their signing. If the European Parliament approves this decision in the autumn, and it probably will, the European Commission will be able to intervene in the process of formation of the gas contracts and require re-orientation of the buyers to the alternative suppliers.

This innovation will primarily affect Gazprom contracts. A big challenge for the Russian gas monopoly is the re-division of the world energy market, where the new players have emerged, including Iran. That is, Russia is facing a tough fight to retain its share of the global energy market, which has been shrinking in recent years.

Meanwhile, Gazprom’s pipeline projects are failing one after another. Bypassing Ukraine, they were meant to deprive the country of the status of a key transit territory if completed by 2019, just when the transit contract with Naftogaz will be terminated. Due to the firm stance of the EU and Turkey, both the South and Turkish streams are dead. Nord Stream-2 is also on the verge of failure. Despite participation in a project of a company from Germany, the main financial player in the Eurozone, the conditions put forward by the EU for the implementation of Nord Stream-2 are unacceptable for Gazprom.

Therefore, now the main task for Naftogaz is to “finish” Gazprom, which is already mired in a swamp of problems and losses, and to get a transparently calculated, market price for gas. And this can actually be achieved. Here’s some useful stats: Ukraine reduced gas consumption in 2015 by almost 21%, to 33.7 billion cubic meters. In 2016, the country plans to consume under 30 billion cubic meters. Ukraine produces about 20 billion cubic meters of its own gas. Thus, it only needs to buy 10 billion cubic meters of natural gas.

What should be the price of Russian gas

It was no accident that Naftogaz held its first talks with Gazprom in mid-June – on the eve of the third quarter, which at all times has been considered to be particularly convenient to refill gas storages. Given the current situation on the oil market, this year’s third quarter can be called even a super-convenient time for gas purchases. The thing is that the gas prices are formed with a lag of six to nine months and are based on oil quotes. And the price of "black gold" has been the lowest in 4Q 2015 and 1Q 2016.

Thus, in 3Q 2016, there will be the lowest prices on long-term gas contracts and on the spot market. It is therefore absolutely logical that Naftogaz has planned its gas purchases for the third quarter, minimizing purchases of reverse flow gas in 2Q. To determine the supplier, Naftogaz kicked the ball toward Gazprom. However, I did it somehow clumsily. Due to the fact that Naftogaz failed to accompany its letter to Gazprom with a proper media support, the first information about the start of the "gas" talks came in from the Russian media in the spirit inherent to the Kremlin’s propaganda.

The Russian media claimed that Naftogaz allegedly begged Gazprom to restore supplies, which, by the way, were halted in November 2015 at Ukraine’s initiative. In fact, Gazprom was invited to send a competitive price offer. Our condition is the price of a European hub minus transportation. "The price for Ukraine, according to the formula proposed by Naftogaz has to be that for the third quarter, and this quarter gives the lowest gas prices, about $120 maximum. If the price at the end of May on the border with Germany on deliveries to that country was $128, and this was the second quarter, then the price of gas for Ukraine should be lower," said the president of the Strategy XXI Center Mikhailo Honchar, commenting on the issue. The expert believes that the issue of providing Ukraine with gas does not depend on Gazprom anymore. "Any scenario will do. If Gazprom continues to show off, we will not buy its gas. That’s particularly because for this heating season, we don’t need huge volumes.

Last year, we generally needed 34 bcm less gas, and this year, we will consume less than 30 bcm. There is no need to waste extra money," said Honchar. Director of the Center for Energy Research Oleksandr Kharchenko is more restrained in his assessment. He believes that the price of the Russian gas for Ukraine should be about $160, but that is the ceiling.

He also believes that Naftogaz might even achieve a more significant price reduction. According to the expert, to achieve this goal, Naftogaz needs to force Gazprom into signing an additional agreement to the existing contract, which will determine the framework of cooperation for a specific period. Otherwise, all the money Naftogaz will pay will automatically be considered by Gazprom as repayment of past debt. "If this doesn’t happen, it will be, to put it mildly, difficult for Naftogaz work with Gazprom, or rather, impossible," says Kharchenko, noting that the Gazprom’s statement on the alleged gas price of about $162 on the border with Germany is an outright manipulation. "There is such a parameter as the gas calorific value, and Gazprom has been desperately playing with this term when announcing the price.

Thus, it creates a kind of parallel reality in the public space, as the cost of fuel is not quite relevant. It should be about $160-$165 per 1,000 cubic meters for Ukraine – it’s the upper limit. But I believe that the price could be lower," the expert said, adding that, even if Gazprom will not make any concessions now, Ukraine will buy the necessary amount of gas to put into its storages anyway. However, he also expressed confidence that the contract for the third quarter will be signed – Naftogaz will win the dispute with Gazprom and receive gas at a preferable price. The director of energy programs at the Center for World Economy and International Relations of the National Academy of Sciences of Ukraine, Valentyn Zemlyansky, said that the price of Russian gas for Ukraine will be about $160-$170.

According to the expert, both politics and economy are intertwined in the gas issue. "The parties are agreeing on concessions – an additional agreement, abolition of export duty, and other things. If the gas is about the economy, it is necessary to competently negotiate with Gazprom. If it’s about politics, then why even raise this question? They just need to say that they’re not going to buy gas from Russia anymore. As for the prices of Gazprom, the seller takes the contract as a base. This should be the subject of separate negotiations. This is called a pre-trial settlement. Before the Stockholm arbitration, the parties conclude a new contract, which would regulate all conditions," says the expert.

There are forecasts for gas prices made by the Government. According to the Cabinet, in May-December 2016, it will be over $185. “The average forecast price of imported natural gas between May and December 2016 amounts to $185.11 per 1,000 cubic meters," Deputy Prime Minister Stepan Kubiv said in April this year. The President also announced the future price of "blue fuel" for Ukraine: $160-$180 per 1,000 cubic meters. "The diversification of routes of energy supply, the emergence of competitive sources, together with the reduction of the world prices for oil and gas has led to a decrease in gas prices from $337 in the first quarter of 2015 to $227 in the fourth, and this year we are talking about the price of $160-$180 per 1,000 cubic meters," Poroshenko said. Anyway, the price of gas will be lower than last year and the first quarter of this year. And this situation begs the logical question, whether the authorities will revise the tariffs for the households.

The gas is one thing, the tariffs are another

In April this year, the Cabinet established a single gas price both for the households and the industry at UAH 6,879 per 1,000 cubic meters, taking into account transportation tariffs and VAT (a little more than $270 at current exchange rate). Prime Minister Volodymyr Groysman said the cost would no longer be reviewed, since it corresponded to the market level.

Following the gas tariff hike, the rates for hot water and central heating were also raised. But if the gas price is falling so rapidly, while Naftogaz, as experts claim will make the right choice and buy fuel at a minimal cost, maybe the tariffs for the households could be revised? The experts answer in unison: this will not happen. "It is logically correct: as the gas price reduces, the tariffs should also reduce. But this will not happen. Our domestic price of gas, which is approved by the national regulator (NEURC), is not tied formally to the cost of imported gas. Moreover, the price of gas of own production was raised to the parity price of imported gas. It was taken as a weighted average price, which is always higher.

Therefore, the algorithm [for forming a] price of gas for domestic consumption is different, it is not associated with the dynamics of gas price on the external markets," says Honchar. According to him, it does not matter whether the tariffs are reduced or increased along with the new rise in prices – and it certainly will happen in the first and second quarters of next year. Nothing can be changed much – either way, this will affect the consumers. "We have the same situation with petroleum products – as soon as oil becomes more expensive, the cost of petroleum products increases immediately. But when the price falls, the cost of petrol and diesel fuel is in no rush to lower," the expert says.

Kharchenko goes further, advising us to address the question of a possible tariff reduction to the prime minister or the head of the NEURC. "There are only two people who have influence on the issue of tariffs. Groysman said that the gas price will remain unchanged until the end of the year.

The chief of the NEURC refrained from comments on the issue. But from the standpoint of common sense and the price balance, there is no doubt that this should happen. It is logical – along with the lower gas prices, the tariffs should go down as well. But will the NEURC be able to do it in real time, closely monitoring the situation? I'm not sure," said the expert. And yet, even if no one revises the tariffs along with the situational drop in gas prices, it’s a “sacred duty” to finish Gazprom – and get the market price for the Russian gas. So, let’s hope Naftogaz succeeds.

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