UKRAINE TO PAY $160 FOR GAS IN 2008; MARKET PRICES

C O N F I D E N T I A L SECTION 01 OF 02 MOSCOW 005458 SIPDIS SIPDIS DEPT FOR EUR/RUS, FOR EEB/ESC/IEC GALLOGLY AND WRIGHT EUR/CARC, SCA (GALLAGHER, SUMAR) DOE FOR HARBERT, HEGBORG, EKIMOFF DOC FOR 4231/IEP/EUR/JBROUGHER E.O. 12958: DECL: 11/02/2017 TAGS: EPET ENRG ECON PREL RS SUBJECT: UKRAINE TO PAY $160 FOR GAS IN 2008; MARKET PRICES BY 2011 REF: A. KYIV 2832 ¶B. MOSCOW 4932 ¶C. KYIV 2611 Classified By: DCM DANIEL A. RUSSELL FOR REASONS 1.4 (b/d) -------------- SUMMARY -------------- ¶1. (C) According to the Ukrainian Embassy in Moscow, agreement has been reached on a gas price of $160 per thousand cubic meters (mcm) for Russian gas deliveries to Ukraine for 2008. The agreement also calls for a rise to "market prices" by 2011. Separately, Gazprom indicated that final details are still being worked out, but that an agreement in principle, including these terms, has been reached. Although a shut off is now unlikely this year, Gazprom has forecast an average price of $300 per mcm for Europe in 2008, meaning prices in Ukraine are still well below market levels and will have to rise rapidly in the next three years to reach market prices. End summary. -------------- $160 MCM IN 2008; &MARKET LEVEL8 BY 2011 -------------- ¶2. (C) Ukrainian Embassy Economic and Trade Section First Secretary Oleg Gutsulyak confirmed to us on November 19th that Gazprom and Ukraine came to an agreement on 2008 gas prices during the November 15th meeting between Ukrainian Minister of Fuel and Energy Yuriy Boyko and Gazprom CEO Alexey Miller in Moscow. He said the price for 2008 "will be what has been widely reported in the press" -- that is $160 per thousand cubic meters (mcm). ¶3. (C) Gutsulyak said the agreement will also include gradual price increases "on the schedule reported by the press to be preferred by Russia" -- that is to "market levels" (presumably European prices minus transit costs) by 2011. Gutsulyak added that no agreement was signed during Boyko's visit because President Yuschenko preferred the agreement be "between companies" and witnessed by Ukrainian Prime Minister Yanukovich. According to Gutsulyak, Yanukovich will be in Moscow by November 22 "at the latest" for the signing of the agreement. -------------- -------------- GAZPROM: UKRAINE COMING ALONG "KICKING AND SCREAMING" -------------- -------------- ¶4. (C) Separately, Gazprom Director of International Affairs Ivan Zolotov told us November 20th that negotiations are still on-going "to work out details of the commercial contract," but acknowledged that an "agreement in principle" had been reached during Boyko's visit. Zolotov said the $160 figure is correct and that Ukraine understands that Gazprom cannot sell gas to Ukraine more cheaply than to its domestic Russian customers who are expected to pay market prices by ¶2011. (Comment: Alexander Medvedev, Gazprom's Deputy CEO in charge of exports, said last week at a major conference in Rome that Gazprom forecasts an average European price of $300 per mcm for 2008. If that forecast is correct then Ukraine's price, and that of Russian domestic consumers, would both have to rise dramatically in the next three years to reach a true market level.) ¶5. (C) Zolotov called the negotiations "very difficult," adding that the Ukrainians are finally accepting Gazprom's terms "kicking and screaming." He said the agreement, to be signed "before the end of the year," would be between Gazprom, RosUkrEnergo, UkrHazEnergo, and NaftoHazUkraina, and would not involve governments. -------------- NO SHUTOFF -------------- ¶6. (C) The majority of officials and observers with whom we have discussed this issue, including in the GOR, Gazprom, other embassies, and investment analysts agree that Russia MOSCOW 00005458 002 OF 002 does not want to permit a situation to develop by year's end that threatens to repeat the infamous 2006 gas cutoff to Ukraine. As such, few are surprised that an agreement is being finalized well in advance of the typical end-December expiration of the existing agreement or that some safeguards are being incorporated by the Russian side to establish price guidelines for out-years. -------------- COMMENT -------------- ¶7. (C) The agreement suggests a quiet winter on this front (ref B),but it will not be the end of the story. Although we defer to Kyiv as to how readily Ukraine can absorb steady gas price increases until 2011, Gazprom seems quite determined to make it happen, and the two sides still differ on a number of issues not least of which is the merits of setting prices for the coming years so early (ref A). Finally, ref A notes RosUkrEnergo remains the middleman for now, which is likely to skew deal-making. If after the recent crisis over Ukrainian gas debts, Yanukovich does visit Moscow and oversees the signing of an agreement by November 22 as suggested, this year's gas price negotiations indeed seem to be coming to an end. BURNS