Ukraine and Russia

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Russian T-72 Tank Seen in Ukraine

 

HISTORICAL BACKGROUND

Most of what is now Ukraine came under Russian control in the 1700s, due to the expansionist policies of Catherine the Great.  Part of western Ukraine (Galicia) was a province of the Austro-Hungarian Empire. 

With the collapse of the Romanov regime in 1917 and Austria-Hungary in 1918, Ukrainians attempted to establish an independent republic.  During the Russian Civil War, Ukrainian nationalist groups fought on the side of the Communist Red Army because they knew that if the monarchy were reestablished, Ukraine would be forced back into the Russian Empire.  Their hopes for independence were crushed as the triumphant Communist regime absorbed Ukraine into the Soviet Union.

Ukrainians suffered under the Stalinist regime.  Because the Ukraine was the “bread basket” of the Soviet Union, grain and other crops were systematically confiscated by the Communist government to feed industrial workers at subsidized cost and exported to earn foreign currency.  Bad weather plus confiscations in 1932-33 led to millions of Ukrainians starving to death.

During World War II, some Ukrainians fought with the Nazis, hoping to be free of Russian rule.  After the war, Ukraine was treated harshly as punishment.  All Tatars in the Crimea were deported to the interior of Russia; over half died.


RECENT CONFLICT BETWEEN UKRAINE AND RUSSIA

From 1991 until 2004, Ukraine was ruled by former Communist bosses and their protégés.  Little changed politically or economically.  Some state assets were privatized, creating a small group of oligarchs with ties to government officials.  Corruption was rampant.  Old industries were not modernized.  Production and exports were still mostly oriented to supplying Russia with food, industrial materials like pipe and weapons. There was little economic growth or development.

Fed up with the lack of progress, corruption, and economic stagnation, Ukrainians took to the streets in 2004 to protest the regime of President Viktor Yanukovych.  The “Orange Revolution” was one of a number of popular protest movements against authoritarian regimes on the Russian periphery.  President Yanukovych was replaced by a democratic government.  Unfortunately, the President and the Prime Minister became bitter enemies.  The pro-Russian party of former President Yanukovych had a strong position in parliament.  The government appeared paralyzed and didn’t institute the reforms demanded by the “Orange Revolution” protesters.  Aided by Putin's campaign managers and Russian money, Viktor Yanukovych was elected President again in 2010. 

Unlike the peaceful “Orange Revolution” of 2004, the 2013-2014 demonstrations protesting the pro-Russian policies of President Yanukovych led to the use of violence against the demonstrators.  This time the removal of Yanukovych led to an armed rebellion against the new government by Russian separatists in the eastern provinces (Yanuokovych’s political base), a Russian takeover of the Crimea and a shooting war with Russia over control of Ukraine's eastern provinces. 

NATURAL GAS AS A GEOPOLITICAL WEAPON:  UKRAINIAN DEMAND FOR RUSSIAN NATURAL GAS

Before the conflicts began, Ukraine depended on Russia for about two-thirds of its natural gas, about 30 billion cubic meters a year.  The cost was around $10 billion minus transit fees, a major cost for a small economy of around $200-$250 billion.  Demand has decreased because of the loss of territory and a severe recession, down to probably around 20-25 billion cubic meters.  But Russia has increased the price and threatened to continue the current shut-off of gas through the winter.  Ukraine  agreed to pay arrears for past purchases and pay COD for future purchases.  Russia agreed to supply gas for six months. 

The money for these purchases and other debts will come from a $17 billion loan from the IMF.  In addition to paying for Russian gas and oil, a $3 billion Russian loan will come due in 2015.

Ukraine is trying a number of strategies to reduce its dependence on Russian natural gas.  One is conservation.  Ukraine, despite being poor, has one of the highest natural gas per capita usage rate in the world.  A major reason is that the cost to consumers and industry is heavily subsidized; the retail cost is about 25% of the wholesale cost Ukraine pays to Russia.  Raising the internal price under current conditions will be politically unpopular and maybe impossible.

Ukraine has tried to receive natural gas from neighboring countries by “reverse flow” of Russian gas delivered through Ukrainian pipelines.  Russia has successfully pressured at least two of the four countries (Slovakia and Hungary) not to do this.

In the future, Ukraine may be able to develop large shale gas fields which may be an extension of shale gas fields in adjoining eastern Poland.  Ukraine also intends to build a short pipeline to Poland.  Gas will come from an LNG plant Poland is building and other non-Russian sources through interconnect pipelines.


RUSSIAN GAS PIPELINES THROUGH UKRAINE

Worried that Ukraine could shut off deliveries to Europe, Russia’s strategy has been to bypass the Ukraine pipeline network.  The Nord Stream pipeline in the North Sea reduced the percent of Russian natural gas exported to Europe through Ukraine from 80 percent to 50 percent.  It brings gas directly to Germany, its largest EU customer. 

The proposed South Stream pipeline through the Black Sea to Bulgaria would have enough capacity to eliminate Ukraine as a transit point for Russian gas.  As a political reaction to Russia's military actions, the European Union pressured Bulgaria to suspend participation in building the pipeline and terminal.  The South Stream pipeline currently is on hold.  The interim Bulgarian government before the recent elections signed an agreement to be part of a competing pipeline consortium that brings Azerbaijan natural gas overland through Turkey and Greece to Bulgaria.  A European Union committee is discussing building interconnect pipelines through Central Europe (heavily dependent on Russian gas coming through Ukraine) to Austria.


UKRAINE’S ECONOMY

Even before the conflict with Russia, the Ukrainian economy had not progressed.  In 1991, the economies of Poland and Ukraine were about the same size.  Since then, Poland’s economy has tripled in size while Ukraine’s economy before the current conflict was about the same size as in 1991.  The differences may be somewhat smaller since much of the Ukraine economy, maybe as much as 40%, is underground.

The continuing war in the east and the loss of the Crimea has devastated Ukraine’s already weak economy.  The eastern provinces contain the bulk of the Ukraine’s manufacturing capacity and coal mines.  Russian has imposed sanctions on some Ukrainian exports.  Ukraine’s economy is expected to shrink by 8% this year and again next year.  If fighting continues, this is probably too low an estimated.

Ukraine’s foreign-exchange reserves are falling rapidly.  International loans from the IMF and aid from the European Union have only bought time for Ukraine.  It seems impossible that Ukraine can meet its debt obligations without new loans and aid.  Two months ago, the IMF said that Ukraine will need an additional $19 billion if the fighting continues.  Even with new loans, it is likely that Ukraine will have to default or renegotiate its external debt.  Part of its external debt is owned by Russia.

POLITICAL CONSEQUENCES TO UKRAINE AND RUSSIA

Ukraine is the most important application of the Russian foreign policy doctrine of recovering lost territories and forming the old Soviet Union (actually, the old Russian Empire since Communism is no longer the official ideology).  Putin’s power and domestic support crucially depends on this strategy succeeding.  After a massive and emotional propaganda campaign, there is no way the current Russian government of Vladimir Putin can allow Ukraine to retake its lost eastern territory or the Crimea.  When it appeared that the Ukrainian army might defeat the separatist rebels, Russia sent in Russian special forces and heavy weapons.

What has Russia gained and lost by seizing Crimea, supporting the eastern rebels and sending Russian military forces and weapons into Ukraine?  Russia has gained direct Influence or control over 15-20% of Ukraine's population, which was Russian or pro-Russian before the invasions.  There is little economic advantage; the eastern provinces the separatists control are a depressed area with old industries and uncompetitive coal mines.  Many of the companies have shut down because of the fighting or management fleeing the area.

 Both Ukrainian and Russian refugees will continue to leave the area controlled by the separatists.  As of the end of October, the United Nations estimates that about one million people have left, out of a pre-war population of 4.5 million.  Other estimates are higher.  About half have gone to Russia and half to other parts of Ukraine.  Refugees tend to be the young and better educated.  Russia will need to heavily subsidize the region just to restore devastation and basic services.  Already eight large convoys from Russia have carried food (and probably military goods) to the separatist-controlled areas of Ukraine.  

This will leave a Ukraine of about 35 million people that just voted 92% to be anti-Russian and pro-Europe.  Russia has given Ukraine nationalists a permanent issue.  It also eliminates part of the economic and political power base of the pro-Russian oligarchs.  Most of the oligarchs, including the President, are now firmly pro-Europe. 

In the long run, Russian intervention may eliminate a 300 mile buffer zone from NATO forces and puts a large anti-Russian country right on its borders.  But without internal reforms and with Russian troops on its eastern and southern (Black Sea) territory, Ukraine will continue to be weak economically and militarily.

 In retaliation to economic sanctions, Russia has banned about $9 billion of imports, mostly food.  Foreign food products are disappearing from Russian stores.  Russian substitutes either don't exist or are of poorer quality.  This is the first sign that the Russian people, at least the urban middle class, are beginning to pay a price for Russia's intervention in Ukraine.  Greater economic pain will follow.  

====================================================================

For background, see an earlier blog:

http://bennettgreenberg.blogspot.com/2014/06/ukraine-background-to-current-crisis.html

 For earlier analysis, see:

http://bennettgreenberg.blogspot.com/2014/03/the-crimea-russia-and-us-options.html





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