financial trouble and badly needs Moscow’s

help to get out of a hole. l by Piero Sinatti

32 . east . europe and asia strategies number 30 . june 2010 . 33

It took only six days for the parliaments of Russian andthe Ukrainian to ratify the energy deal reached onApril 21 in Kharkov between Russian President D-

mitri Medvedev and his Ukrainian counterpart ViktorYanukovich. The mood in the two countries was distinct-ly different, however. While the Ukrainian vote witnessedopen clashes on the floor of the Rada, the country’s par-liament, Russia’s own Duma approved the pact unani-mously. For some Ukrainians, the deal represented sell-out - “gas in exchange for the fleet,” a reference to Ukraineagreeing to extend its rental of the Black Sea port ofSavastopol to the Russian navy for another 25 years after

Moscow and Ukraine:Closer and Closer A recent deal between Russian President Dmitri Medvedev and his Ukrainian counterpart

Viktor Yanukovich cut Kiev’s gas bills by 30 percent. l In exchange, Russian got a new lease

on the port of Savastopol and effectively ensured Ukraine will be locked out of NATO for decades

to come. l But all the political jockeying can’t conceal a cold hard fact: Ukraine is in serious

RUSSIA . 3

its 2017 expiration date (the original deal was signed be-tween then-Russian President Boris Yeltsin and Ukraine’sLeonid Kuchma). For others, Ukraine came out on top,getting a 30 percent discount on Russian natural gas.

That the summit was held in Kharkov, a city in the east-ern part of Ukraine controlled by Janukovich and his Par-ty of Regions was anything but arbitrary. The city is locat-ed 50 kilometers from the Ukrainian-Russian border andis home to some of the largest industries in Ukraine, in-cluding plants that manufacture heavy machinery, mili-tary equipment, aircraft (the huge Antonov transportplane in particular) and the “Turboatom” nuclear facility.

Russia and Ukraine have long expressed an interest incooperation in the sectors that the Kharkov area repre-sents. Moscow has made no effort to conceal its inten-tion to continue with a privatization process (suspend-ed five years ago) that would co-opt Ukrainian compa-nies of strategic value.

Moscow recently named technocrat Aleksandr R-jabchenko to oversee the process. It called the selectionof Yanukovich, who is seen as free from the influence oflocal oligarchs and the Yanukovich regime, an act of“transparency and honesty” toward the privatizationprocess, which will also be open to foreign bidders.

Betraying national interests? hough opposition leaders immediately de-nounced the deal as a “betrayal of national inter-ests,” the agreement marks a turning point in re-

lations between the two countries. Ties between Moscowand Kiev had been marred by instability over the five

years since the so-called Orange Revolution of 2004.Those years saw former President Viktor Yushchenkoand former Prime Minister Yulia Tymoshenko (neitherone a fan of Moscow) at bitter odds, particularly of late.Yanukovich defeated both.

The period amounted to a five-year Cold War that con-tained two very serious crisis, the first concerning gassupplies to Ukraine (the “gas war”), which in turn had anegative impact on European consumers. At the root ofthe conflict, was the wish expressed by Orange leadersto join NATO, which would have opened the door to theeastward expansion of the alliance. The second crisiswas the Russian-Georgian conflict of 2008, in which Kievleaders backed Georgia.

Yielding on the fleet The Kharkov summit was initially scheduled for midMay but the two presidents pushed it forward when they

met in Washington, D.C. at the World Summit on NuclearSafety. It was their fourth encounter since last February,an unusual flurry of high-level diplomatic contact be-tween leaders of the two nations.

The prime ministers, foreign ministers, defense andenergy ministers of both countries laid the groundworkfor the Kharkov meeting in long and complex negotia-tions, with assistance from senior officials from the gasindustry, including Alexei Miller (who represented Rus-sia’s Gazprom) and Ukraine’s Yevhen Bakulin (NaftogazUkrainy). Yushchenko had repeatedly threatened Rus-sia’s Black Sea Fleet with eviction. Particularly duringthe Russo-Georgian war he imposed and port restrictionsand limited sailing in international waters. With the dealsigned, the Russian fleet is safe in Sevastopol until 2042.

Meanwhile, Miller and Bakulin signed an addendumto the bilateral gas contract reached in early 2009 byRussian Prime Minister Vladimir Putin and then-PrimeMinister Yulia Tymoshenko. This critical addendumstipulated a non-retroactive 30 percent discount in nat-ural gas costs in the 10-year period that began in 2009 (o-riginally set at $330 per thousand cubic meters).

The two leaders also agreed on the amount of gas thatI

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LEFT Russian President Dmitri Medvedev with Ukrainian

President Viktor Yanukovych during an April meeting in Kharkov.

BELOW A worker walks past an Antonov-140 aircraft under construction

at the Kharkov State Aircraft Manufacturing Company (KSAMC).

number 30 . june 2010 . 35

dubbed “North Stream” and “South Stream” projectedexpressly to bypass Ukraine and Belarus and to preventany further gas war. According to “Kommersant” and the“Kiev Post,” Putin had actively discussed “SouthStream” (whose construction was planned in conjunc-tion with Italy’s ENI) with Prime Minister Silvio Berlus-coni in recent bilateral talks.

Violent reaction kraine’s opposition, represented by Tymoshe-nko’s BYuT bloc (Yulia Tymoshenko Bloc) andYushchenko’s NUNS (Our Ukraine–People’s Self-

Defense Bloc), attempted to disrupt debate and block themeasure’s ratification vote. The situation gradually esca-lated into violence, with dissenters adopting high schooltactics. Some threw eggs and blunt objects at the elec-tronic voting board and into the presidential gallery.When a smoke bomb went off, a massive brawl ensued.While it may have provided good reality show-style tel-evision entertainment, the chaos painted an unseemlyportrait of the country for global viewers.

Meanwhile, local governing city councils in Lviv and

Ternopil located in western Ukraine introduced and ap-proved legislative measures calling on Yanukovich’souster based on having betrayed state interests.

In Kiev, several thousand people gathered to protestthe deal in front of the parliament building. Again unit-ed against Yanukovich, Yushchenko and Timoshenkodenounced the deal as “unconstitutional,” saying it un-dermined national sovereignty. By association, they ac-cused the government and the Rada of doing the same.But the protests bore little resemblance in tone or textureto the ones that overhauled Ukrainian politics six yearsago and ushered in the Orange movement.

New political reality he current governing majority was reachedthanks to the participation of fugitive membersof the BYuT and NUNS blocs. The dissenters,

elected in 2007, decided to back the so-called “Stabilityand Reform” coalition government, which numbers theParty of the Regions, the Communist Party of the Ukraineand the Lytvyn Bloc (backers parliament chiefVolodymyr Lytvyn).

34 . east . europe and asia strategies

Putin’s dissatisfaction came only days before the Radawent to war: In the end, the deal received 236 votes, on-ly 10 more than the needed majority for passage.

Putin did add a dose of realism. The value of the agree-ment, he concluded, also needed to be seen outside thecontext of money but in terms the “understanding ofcommon interests” and the renewal of trust and cooper-ation between the two sides. The cooperation, he added,should be felt in the nuclear and aviation sectors (thoughhe didn’t exclude the possibility of Russian investmentsin the gas transport infrastructure). Stabilizing of coop-eration between Russia and Ukraine should have a directimpact on the “transit factor” (gas flowing via Ukraineand Belarus), reducing risk and giving the EU a greatercomfort zone. If Moscow-Kiev ties improved further, itmight shelve plans for two international pipelines

would be permitted to transit through Ukrainian territo-ry, and under what conditions, moves earmarked to re-assure European Union markets.

According to Yanukovich (quoted in the newspaper“Kommersant” on April 22), the deal gave Ukraine theopportunity to put aside some $40 billion over the nextdecade, which could be used as investment capital.

The discount, added Yanukovich, will allows Kiev “tosave $4 billion annually if gas purchases amount to noless than 40 billion cubic meters.” The gas bill Ukraineowes Russia will be against the rental costs of the port,fixed at $97 million a year by the 1997 agreement.

Moscow will pay a considerable price for tenderingsuch an ample discount, as Putin pointed out during aKiev press conference that included Azarov andYanukovich. He labeled the Russian deal burden “over-sized,” noting that Moscow was in essence transferring$40 billion from its own state coffers to Kiev’s. “For allthat money I would have eaten Yanukovich and Azarovcombined,” quipped the unhappy Putin in his typicallycaustic humor. With that sum of money, “I wonder howmany naval bases could be built,” he added.

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LEFT The Russian submarine hunter “Kerch”

of the Black Sea Fleet at anchor in Sebastopol.

RIGHT A jointly-operated NIS-Gazprom

oil and gas refinery under floodlights.

number 30 . june 2010 . 37

The deal helps Moscow in that it no longer has to con-template investing on a new Black Sea naval base (set forNozvorossijsk) and can now spend instead on renewingits Black Sea Fleet, which according to Dmitry Gorem-burg (http://russiamail.wordpress.com) is outdated andin many respects obsolete. The average age of the fleet is28 years old and the only submarine is inoperative.

Moreover, Sevastopol is a Russian city, donated bythen-Communist leader Nikita Khrushchev to Ukrainein 1954, together with Crimea. The region continues tohave immense symbolic value for Moscow based on theepic battles that took place in the region in the 19th and20th centuries.

But the most important geopolitical outcome, from theRussian perspective, is keeping Kiev out of NATO. Reach-ing that goal was a dogged goal of Yushchenko, pushingthe Russo-Ukrainian relationship to the breaking point.No nation that hosts a third-party base can be admittedto NATO. Since NATO has long been perceived as a shieldagainst possible Russian aggression, the opposition cit-ing of a “betrayal of national interests” and a “threat tothe sovereignty and security of the country” was pre-dictable. For its part, Moscow has made clear its strongaversion to any NATO presence on its southern flank. Norhas it hesitated to use political and economic pressure tomake the point.

It’s worth pointing out at this juncture that the Ukrain-ian constitution calls for national neutrality and thatpublic opinion has so far tended against NATO, entry,which is strongly opposed by both the Party of the Re-gions (which in the past has organized mass demonstra-tions against Kiev-NATO negotiations) and citizens ofSevastopol, whose revenues stream is dictated by the p-resence of the naval base.

Moscow’s new ideas n addition to citing the difficulties of theKharkov talks, Yanukovich also pointed out thatfirst the Russians had demanded a stake in the s-

tate-owned Ukrainian gas transport infrastructure inRussia (which carries 80 percent of the natural gas head-ed for EU markets). Yanukovich told “NezavisimayaGazeta” he’d rejected Russian pressure in that regard.

Unexpectedly, however, the Russians began honing inon the issue again in late April, proposing further nego-tiations be conducted in May, this time between the two

presidents, energy ministers and gas carriers. Russian a-gain recommended a partnership, if not a merger (“slian-ie”) between Gazprom and the highly indebted NaftogazUkrainy. Gazprom would pledge to invest in transportinfrastructure in Ukraine (acquiring that the right to con-trol what it funds). Naftogaz would in turn receive accessto Russian gas reserves.

Finally, the last 10 days April saw new and con-tentious battles between Yanukovich and the opposition.During his visit to the Council of Europe in Strasbourg,the Ukrainian president rejected that the so-called“Golodomor” (the name for events that eventually led tothe starvation of some three million Ukrainian peasantsduring Stalin’s collectivization) should be defined as a“genocide against the Ukrainian nation”) whichYushchenko had stipulated by law).

Yanukovich labeled it as a common tragedy of the So-viet peoples, putting himself in line with the Russian po-sition. Moreover, he decried the Orange government’spraise for nationalist leaders such a Stepan Bandiera andRoman Shukevich, whose World War II militias foughtthe Soviet Red Army, sometimes alongside Nazi troops.

On yet another contentious issue, calls to make Russ-ian into the official second language of Ukraine,Yanukovich said he favored regional solutions. These,he said, would safeguard the rights of ethnic and linguis-tic minorities, and not only those Russian-speakers, butalso Hungarians, Romanians, and Tatars. Though somesay the Kharkov pact jeopardizes the unity of the Ukrain-ian state, deepening the gap that divides the country’spro-western west, which is more Ukrainian, and thecountry’s south and east, which is largely pro-Russianand filled with Russian-speakers, the country’s cashwoes seem to trump most ideological and political con-cerns. According to opinion polls, most Ukrainians backthe agreements with Moscow on economic grounds.

The country’s real challenge is in fact economic. A re-vival will only be possible based on good governmentand cooperation with Russia. The task of the new lead-ership is therefore fraught with difficulties, since it mustbalance competing needs: fiscal consolidation, industri-al regeneration and effective social policy. Yanukovichand his technocrats must demonstrate that can do bet-ter than their “revolutionary” predecessors, who proveddisastrous. The preservation of Ukrainian unity de-pends on their success. .

36 . east . europe and asia strategies

The Ukrainian state debt in fact tops the $30 billionmark. Last November, the IMF had suspended the pay-ment of the third installment of $16.4 billion loan grant-ed in 2008, accusing the Tymoshenko government of“funding election promises with international commu-nity cash,” in open disregard of IMF rules. Even the EU

froze a €500 million aid package. The national currency, the Hrivna, is internally weak

and the state gas company “Naftogaz” also operatedheavily in the red. Only after the presidential election re-sults were confirmed did the IMF release the funding. Iturged Kiev to enact drastic cuts in government spendingand energy spending, work to curb widespread corrup-tion, hike tariffs (including on gas and electricity) andjump start privatization.

Yanukovich and Azarov have pledged to extract thecountry from crisis conditions by implementing a reformand stabilization package. That promise began with thewith the indispensable normalizing of Moscow ties —above all dictated by the desire to win a major reductionof gas prices. It’s little wonder contact between Kiev andMoscow increased in frequency and intensity afterYanukovich’s elevation in February.

“These are all pieces of the same puzzle,” Azarov wasquoted as saying in the newspaper “Nezavisimaya Gaze-ta” in late April. “The ratification [of the Kharkov deal]means that the price of gas has been reduced. This in turnwill allow the creation of a state budget. That will thenallow us to resume cooperation with the IMF. It’s the on-ly way of reviving industry and creating social pro-grams.” But the negotiations were anything but easy,with Yanukovich himself calling them “long and diffi-cult” and admitting, “there were no alternatives to thisdeal.” At all costs Ukraine was compelled to get Moscowto reduce the price of gas, a price that had become un-bearable for Ukraine’s increasingly uncompetitive indus-try to bear. The cost also created problems for “munici-pal services” (including gas, electricity, and heating),which were transferred to the population through thecost of consumer goods and even basic necessities, in-cluding bread.

Yanukovich’s Kharkov decision was ultimately predi-cated on pragmatism. He obtains a significant economicbenefit in exchange for that had a major regional andgeopolitical impact, namely allowing Russia to stay inSevastopol for another four decades.

Formed in early March, the government is headed bytechnocrat Mykola Azarov, a veteran politician consid-ered close to Yanukovich. Azarov is a former financeminister, deputy prime minister and advisor (on eco-nomics, taxes and pensions) to Kuchma and Yanukovich.He was briefly acting prime minister during the turmoilof 2004 and early 2005. A month after being namedprime minister in 2010, he was chosen as chairman ofthe Party of the Regions.

The 62-year-old Azarov was born in Kaluga, Russiaand earned a doctorate in geology and mineralogy doc-torate from Moscow State University. He has lived inUkraine for more than 25 years.

Among the government’s deputy prime minister iswealthy and prominent banker Sergei Tigipko, a former e-conomics minister who earned 13 percent of the vote inthe first round of presidential voting (finishing third be-hind Yanukovic and Timoshenko in a group of 18 candi-dates). He was tasked with the delicate matter of manag-ing relations with the International Monetary Fund as wellas domestic financial policy. He has openly stated that thecountry is not yet ready either for EU or NATO entry.

The Kharkov deal anukovich and Azarov said that the selection ofKharkov as a venue for the summit was dictatedby the nation’s dramatic economic and financial

situation. The city is in the nation’s industrial heartlandand Ukraine’s national debt exceeds $30 billion. Thecountry was badly damaged by the global downturn,which reduced demand for and cost of major Ukrainianexport goods, which are led by steel, iron, and chemicals.They also cited misrule over the past five years, in par-ticularly uncontrolled public spending, particularly inthe months preceding the presidential campaign. Final-ly, and perhaps foremost, they mentioned the cost ofRussian natural gas, which had been pegged by the pre-vious leadership at the beginning of 2009. The price, theycontended, was too high for the country’s energy-inten-sive industries. “The country was plundered and the s-tate coffers are empty,” Azarov was quoted as saying byRussia Today in March. “The economy is crumbling, thelast government tripled the debt, and as it stands there isno fixed budget for 2010.”

The figures are stark. In 2009, GDP fell by 15.9 percent,according to World Bank data. Inflation is at 13 percent.

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