Ukraine halts Russian gas transit to Europe: what to expect next.
5However, experts do not predict catastrophic scenarios for the population during the heating season. Russia may lose significant financial revenues that were previously directed towards supporting military operations. The potential consequences of halting transit through Ukraine and the impact of this decision on the region's energy security are discussed in the material from "Zaborona".
"Pump or Pay" instead of "Take or Pay"
The first logical question is: why did Ukraine not terminate the contract back in February 2022 after the full-scale invasion began? The reason is that Kyiv had to fulfill its contractual obligations to European partners.
"The money that Naftogaz receives from Gazprom does not cover our expenses for organizing this transit, as Gazprom has not been paying the full price almost since the start of the full-scale invasion. Our cash flow from this operation has been consistently negative,” explained the head of the Naftogaz Group, Alexey Chernyshov.
Back in 2019, prior to signing the last contract, the Oxford Institute for Energy Studies calculated that Gazprom was just short of being able to operate without transit through Ukraine, even without Nord Stream 2. This capacity shortfall would be compensated by gas storage in Europe and liquefied gas supplies from the terminal in Yamal. Ronald Reagan, by the way, opposed the construction of the Yamal pipeline in the 1980s, concerned about the leverage it would give the USSR over Europe. His concerns were prescient.
Nevertheless, as a result of prolonged trilateral negotiations, Ukraine, Russia, and the European Union signed a contract on December 30, 2019:
- for five years, with the option to extend for another 10 years on similar terms;
- minimum guaranteed pumping volumes — 65 billion m³ of gas in the first year and 40 billion m³ in the following four years. Actual volumes can be higher.
"The transit contract on the 'pump or pay' principle for five years is an extraordinary event. This is the first time in Ukraine's history that Gazprom has signed a transit contract based on the European 'pump or pay' principle,” commented the then Executive Director of Naftogaz of Ukraine, Yuri Vitrenko. "Until now, only gas purchases from Gazprom were covered by a similar, but disadvantageous for Ukraine and beneficial for Russia, 'take or pay' principle."
This means that the 'pump or pay' principle obliges the Russian supplier to pay for the specified pumping volumes in any case, regardless of the actual volumes. Under the 'take or pay' principle, Ukraine had to pay regardless of whether it consumed the gas or not.
The Ukrainian Gas Transport System is Ready for Transit Suspension
The 2019 contract also included a procedure for unbundling, which is the legal and operational separation of gas transportation functions from Naftogaz. Now, the technical operation of the gas transmission system is managed by LLC "Operator of the Gas Transmission System of Ukraine."
Russia has been waging an open war in Ukraine since 2014, so signing the last contract allowed the Operator of the Gas Transmission System of Ukraine to prepare for the procedure of ending services from Russia. Moreover, Russia's manual halts of transit through Ukraine in 2006 and 2009 allowed for the development of certain algorithms. According to these, the gas transport system will be reoriented to meet the primary needs of Ukrainians.
"Without transit, the gas transmission system can switch to reverse mode and transport gas from underground storage facilities, which are mainly located in western Ukraine, to the east. Therefore, there will be no problems with fuel supply to all regions. However, since this is an off-project mode, there may be difficulties with maintaining pressure in the system. To avoid this, pressure needs to be supported through increased use of gas pumping units and by increasing the volume of gas in underground storage facilities,” explains Vladimir Omelchenko, director of energy programs at the Razumkov Center, in a comment to Zaborona.
6Heating Will Be Available, but Gas Prices Will Increase
The cessation of transit will not affect the heating season in Ukraine in 2024-2025. As of mid-October, there are 12.2 billion m³ of gas stored in gas storage facilities. This is despite the fact that during the previous heating season, 8.5 billion m³ was withdrawn from underground storage (USHG), of which 6.7 billion m³ was used.
Ukraine manages USHG with a total capacity of over 30 billion m³, which is the third highest in the world, and the Bilche-Volytsko-Uherske storage is the largest in Europe. 80% of the capacity is located at the western border. The convenience of logistical processes makes the storage of natural gas profitable for both Ukrainian companies involved in cross-border transportation and foreign traders.
7Thus, the gas transport system will deliver gas to consumers even without transit. The only problem that may arise is Russian missile attacks on gas transport infrastructure.
However, the Ukrainian authorities already have a plan for all emergency situations, assures the head of the Association "Oil and Gas of Ukraine," Andrei Zakrevsky.
"Even in the event of a massive missile attack, if everything goes dark, the authorities have certain operational plans to ensure that Ukrainians have warmth and light in winter. I am one of the members of the group at the NSDC that developed this plan, and I can assure you that we are ready for any scenario,” the expert assures in a comment to Zaborona.
Why is the gas infrastructure a bit easier to manage than the energy sector? Firstly, the equipment of gas storage facilities and gas compressor stations is not as unique and valuable as, for example, a 750 kV transformer. Secondly, as a result of zero transit, 80% of the gas transmission system becomes donors for the remaining 20%. "Of course, it won't be easy, but most consumers in Ukraine will not even notice any disruptions. Although a lot of work will be done for this,” reassures Zakrevsky.
However, consumers might feel the consequences in their wallets. Russia paid for transit, and under the current contract, Ukraine was supposed to receive about $7 billion in revenue. Part of this funding was allocated to maintain the gas transport infrastructure. Thus, in the case of non-renewal of the contract, financing will be placed on consumers, believes Vladimir Omelchenko.
"Of course, first of all, financial problems will affect Naftogaz as the company that signed the contract. The Operator of the Gas Transmission System received its share as an operating company. To compensate for these losses, it will likely be necessary to raise gas tariffs for the population,” says the expert.
Ukraine's Unreliability as a Transit Country
It is important to note that for a long time, gas tariffs in Ukraine were lower than market rates. This is one of the reasons for the unprofitability of the state-owned companies in the Naftogaz Group. Consequently, this led to past issues with payments for imported supplies and the accumulation of debts, which were formed, in particular, due to the draconian conditions of each contract.
Therefore, all major parties involved in the transit of Russian gas to Europe have at various times cited risks of supply and/or transit to support their negotiating positions or to justify their actions. This includes the EU's relations with Russia, prices, and storage conditions.
Accordingly, European companies that purchased significant volumes of Russian gas remained proponents of diversifying transit. This was demonstrated in September 2015 by a shareholder agreement between Shell, Uniper, BASF, Engie, OMV, and Gazprom for the construction of Nord Stream 2. The project was completed in September 2021 but was never put into operation. Germany halted the approval process on February 22, 2022, two days before Russia's full-scale invasion of Ukraine when Russia recognized the "L/DNR."
Naftogaz of Ukraine has been requesting regular billion-dollar subsidies from the state budget for years. After the victory of the Revolution of Dignity and the arrival of new managers in the company, the situation changed radically. By the end of 2016, the Naftogaz Group became the largest taxpayer (12% of state budget revenues).
Additionally, the Ukrainian side won several lawsuits worth billions of dollars — the claims concerned violations of transit contracts, prices, and illegal expropriation of assets in occupied Crimea.
Europe Had Time to Prepare
Prior to 2022, Gazprom supplied about 150–155 billion m³ of gas to the EU annually, of which 90 billion m³ was transported through the Ukrainian gas transmission system in 2019. This was the last year of the old contract between Naftogaz and Gazprom. After signing a new five-year agreement, transit volumes were cut in half. Russia's full-scale war against Ukraine further affected this process, reducing