Gas could compress the Ukrainian boil in 2019

Many of us are hoping for a calmer year in geopolitics in 2019, but experience tells us that is unlikely. Many parts of the world remain unstable and could erupt into larger conflagrations. Of the many hotspots – Syria, Iran, North Korea, or the South China Sea – the area that most worries me is Ukraine, where the existing gas-transit contract between Naftogaz Ukrainy and Gazprom is set to expire at the end of 2019.

Russia wants to free itself from depending on Ukraine to send gas by pipeline to Europe. It financed and built Nord Stream II and Turk Stream to diversify out of its Ukraine risk. Yet, except for one leg of Turk Stream, these options are not likely to be available for early 2020, leaving Russia unable to meet its minimum contractual demands for Europe of 70% of the take-or-pay level. Kiev would obviously prefer a new deal that would provide gas-supply security, allow it to pocket transit fees from Moscow, and retain geopolitical leverage.

The two sides began negotiating earlier in 2018 but have made little progress to date. If no deal is reached, Moscow will be forced into a corner. As we head into the heart of winter, when previous Russia-Ukraine-induced gas shortages occurred, and then March 2019, when Ukraine will have presidential elections, the coming weeks and months will be critical.

Economic warfare

Tension between Moscow and Kiev has been a fixture since the early 2000s. Tension boiled over and then froze up into an uneasy truce after Russia annexed Crimea in 2014 and installed military forces in eastern Ukraine. The war in Ukraine has killed over 10,000 people to date.

Things then got much hotter in November 2018, when Russian naval vessels seized three Ukrainian vessels and 24 Ukrainian crewmembers in the Kerch Strait in the Sea of Azov. Ukrainian President Poroshenko responded by declaring martial law for 30 days and has publicly worried that Russia will attack Ukraine.

Moscow is sending a clear signal that it is willing to take over Ukraine’s ability to move goods and people through the country. By seizing control of all seaborne flows to eastern Ukraine, Russia completed its 2014 annexation and solidified its position. The Institute of War reported that Russia mobilized its forces in December in a way that prepares its forces “for possible offensive operations.”

There is no doubt, in other words, that Russia can punish Ukraine economically. As gas-transit politics come to a head this year, Russia could take this strategy even further.

Less to lose

There is doubt, however, about how the United States and NATO would respond to offensive operations in Ukraine.

Putin’s meddling in the 2016 presidential elections may have deepened the polarization of U.S. politics, sowed doubt about U.S. democracy, and helped elect a political neophyte to the White House. Yet the move has not yielded concrete geopolitical gains, including Putin’s most important objective: the lifting of U.S. sanctions. Instead, Trump’s Treasury Department has in fact passed even more punishing sanctions against Russia.

From Putin’s perspective, then, the U.S.-Washington relationship has no chance of thawing, which makes him less restrained to act aggressively. He has less to lose.

Putin might also deem it the ideal time for a foreign adventure, as his approval rating in October 2018 has dropped by 20% compared to November 2017. Analysts point to pension reform and a slowing economy as reasons for leader fatigue. Since it was his annexation of Ukraine that sent his approval rating surging over 80%, the timing seems right for him to make Russia great again by applying offensive military force in Ukraine, partly to force a favorable transit deal for Russia.

A volatile European portfolio

The geopolitics of gas will shape Russia’s Ukraine policy in 2019. On the one hand, Russia has made steady progress on the Power of Siberia pipeline to eastern China, which is set to open later this year. It has also reached agreement to build Power of Siberia II to western China. The U.S.-China trade war is an opportunity for Russia to gain access to the world’s fastest growing gas market.

At the same time, Russia’s European portfolio is more uncertain than ever. If Nord Stream II and Turk Stream come online, Russia will be in prime position. Yet neither project is assured. Nord Stream II continues to face shaky prospects. While most believe that the pipeline will be completed and begin operating, the volumes are up for negotiation. Smartly, European leaders have tried to tie these negotiations to Ukraine, which might constrain Russia from acting too aggressively. It seems a long way for Turk Stream to become capable of transiting gas to southeastern Europe in light of South Stream’s failure. Meanwhile, the East Mediterranean Pipeline, a clear competitor to Turk Stream, has received support from Washington and Brussels. Lastly, liquefied natural gas offers an expensive, but viable alternative to Russian gas through Ukraine.

There are, in other words, a lot of moving parts in 2019. If Nord Stream II comes fully online, Russia will gain enormous leverage over Ukraine. If it remains limited, Russia’s European gas-import portfolio will remain similarly undiversified.

Three options

What will Russia do if no transit deal is reached? Clearly a new, short-term deal is the best option. Both sides would save face, assure the flow of gas, and gain strategic flexibility going forward.

The second option is cutting the flow of gas in a profound degree, as in 2006, 2009, and 2012. While Russia has been intermittently cutting gas flows to Ukraine since 2014, these actions have not generated the same headlines. This sort of pressure subdues and forces choices, and seems highly likely to come in late February or March in the run-up to presidential elections.

The third option is a full-scale invasion to take over the gas pipelines themselves. This would run into a host of predictable problems that occupying powers have. It could also produce a modus vivendi on gas at the expense of Ukrainian sovereignty. There is almost no precedent of a country occupying another to ensure gas flows and, on the whole, it would simply not be worth the expense. At the same time, offensive operations would force Ukraine’s hand on gas transit.

In energy, commercial interests trump politics more often than not. Yet it seems likely that, without a deal, Russia’s actions will fall somewhere between the second and third options, after which a deal of some sort will be reached. Wouldn’t it be better in that case to just skip these steps and go straight to the deal?

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