Ukraine unrest: the energy connection

Ukrainian protesters seized an administrative building in Kiev Friday, before President Viktor Yanukovych appeared to offer concessions to ease growing unrest. Ukraine's energy challenges – dependent on fickle Russia for natural gas and unable to yet develop its own resources – make a difficult situation worse. 

Ukraine President Viktor Yanukovych pledged a reshuffling of his embattled government Friday to ease the protests and violence rocking Kiev. The tentative deal may bring some temporary calm to Ukraine's capital, but it does little to relax the underlying tension between antigovernment protesters and Mr. Yanukovych's administration.

A continued wave of violence threatens Ukraine's role as a critical transit route for moving Russian natural gas into Europe. It could also scare off foreign investors interested in developing Ukraine's domestic supply of natural gas.

The unrest stems from disappointment with the government's inability to reach a deal to join the European Union. More recently, the ire is aimed at government corruption and strict laws aimed at curbing dissent.

But Ukraine's energy challenges underpin past instability and make a bad situation worse. By cutting a deal for discount gas with Russian President Vladimir Putin last November, Ukraine infuriated its pro-Europe contingent and entrusted its energy security to a fickle ally. 

"Putin’s pledges to lower energy prices can be removed just as easily as they can be implemented," Lee Feinstein, former US ambassador to Poland, says in a telephone interview. 

"It was at most a short-term benefit, but in the long run served only to deepen Ukraine’s reliance on Russia," adds Ambassador Feinstein, now a senior fellow at The German Marshall Fund of the United States, a transatlantic think tank based in Washington.   

There were few good options. Ukraine gets about 70 percent of its natural gas from Russia, which says it owes its state-owned gas company, Gazprom, $2.7 billion in unpaid bills from last year. That debt plays a major role in the economic woes driving unrest in the streets of Kiev.

While the former Soviet satellite is largely dependent on Russia, the reverse is also true. Much of Gazprom's pipelines run through Ukraine and onward to Europe, where Russia dominates natural gas markets. And Mr. Putin sees Ukraine as a key component of the Eurasian Union, a proposed economic collaboration between post-Soviet states. It might explain why last November Putin was willing to cut by 33 percent the price Ukraine pays for natural gas imports.

Moscow is also concerned Ukraine will develop its own natural gas. Royal Dutch Shell and Chevron have signed multibillion-dollar deals with Ukraine to invest in what are believed to be significant shale gas resources – similar to those that unlocked a boom in US energy production.

But replicating US success in Eastern Europe is difficult, and prolonged instability in the country would make it harder.

"One of the problems that has impeded shale development in ... a lot of Europe isn’t an absence of the rock formations, but things above ground – the structure of industry, the legal environment," says Jeffrey Mankoff, deputy director and fellow of the Russia and Eurasia program at the Washington-based Center for Strategic and International Studies. "Companies are wary of sinking a lot of money not knowing if they’ll get a return."

Gazprom reported this week that its profits slumped 10.5 percent in the third quarter of 2013. Many factors contribute to the gas giant's slide, but Ukraine's backlogged payments certainly play a role.

When Putin visits China this coming May, he is expected to sign a major gas supply deal with China National Petroleum Corp. If Russia can tap growing Asian markets to the east, it may lose some interest in cutting deals with its neighbors to the west.