Ukraine's Economy Proves It Can Survive - And Flourish - Despite Gas Price Hike

KIEV, Ukraine -- The warnings in Ukraine verged on the apocalyptic when Russia sharply raised prices for natural gas a year ago. Many feared factories would close, leading to mass layoffs and grinding industry to a halt.


Hire prices on Russian gas did not adverseky affect Ukraine's economy.
But Ukraine's economy leaped ahead, its businesses quickly adapting to the higher costs.

Now that other former Soviet republics have been hit by price hikes for Russian gas, Ukraine's experience offers them a ray of hope, analysts say - but note that Ukraine has advantages that newly hard-hit countries such as Belarus and Georgia lack.

Ukraine's economy grew by about 7 percent in 2006 despite Russia's nearly doubling its price for gas and appears in good position to absorb this year's further increase.

In 2005 Ukraine paid $50 per 1,000 cubic meters of Russian gas, but now pays $130. The dispute led to temporary reductions of supplies to Western Europe and raised wide concern about Russia's reliability as an energy partner.

Proportionately, the increase was bigger than Russia imposed on Georgia and Belarus with this year. Georgia agreed to pay $235 per 1,000 cubic meters, up from the $110 it was paying previously. Belarus will pay $100 per 1,000 cubic meters this year, slightly more than double the US$47 it paid in 2006.

But unlike Belarus, whose economy is mostly state-controlled, Ukraine's economy was open and flexible when the gas increases hit. And unlike Georgia, Ukraine has diversified industry and alternative resources to fall back on.

Ukraine was the largest gas importer of the former Soviet countries, able for years to ignore its wasteful habits due to the ready supply of cheap gas that Moscow had provided. But once Russia forced the price hikes, Ukrainian industry took action.

The steel industry - the driving force of the country's economy, but also one of the biggest energy users - has led the push, tapping into what had been extremely healthy profit margins to foot the bill.

Following the lead of competitors in Asia and the West, Ukraine's big metallurgical plants began chucking out gas-guzzling furnaces for those that use pulverized coal.

The initial investment is steep, around $26 million-$33 million per furnace, but the payoff is a process that requires almost no natural gas and cuts production costs considerably. It also uses a resource that Ukraine already has in abundance.

"All of our new blast furnaces will be fueled by pulverized coal," said Ihor Korytko, a director of Metinvest Holding's YenaKyivsky Metallurgical Factory. "Within several years, we plan to fully stop the use of natural gas in blast furnace production. In steelmaking, we already aren't using any gas now."

Mikhail Berger, a Russian economic analyst, told Russia's Ekho Moskvy radio that by raising prices, Russia did Ukraine "a colossal favor."

"The Ukrainian economy has begun to arrange itself under the realities of the market, and when it overcomes this gas withdrawal - like a drug withdrawal - it will become truly competitive," he said.

Some Ukrainian businesses forged their own gas deals with Russia's natural gas giant Gazprom, in a move that helped keep them afloat but which may ultimately hurt Ukraine by further weakening the Ukrainian state gas monopoly's reach and bargaining power, said Vadim Karasyov, head of the Kyiv-based Institute on Global Strategies.

In the meantime, Ukrainian politicians have been flirting with other possible energy sources. Last year during a visit to Chornobyl, President Viktor Yushchenko used the 20th anniversary of the world's worst nuclear accident to say that Ukraine shouldn't rule out building new nuclear power stations.

Officials also say coal deserves a wider look. Some estimates suggest that Ukraine has the ninth-largest coal reserves in the world. Coal Industry Minister Serhiy Tulub recently proposed building seven new coal mines as a way to increase production.

Previously, such an idea likely would have sparked international criticism. Coal mining in Ukraine is notoriously inefficient and dangerous, and for years, Kyiv was advised that unproductive mines should be closed and miners retrained.

"But with all countries trying to see if they can use their own internal resources better, I think if Ukraine can do this in an energy-efficient and environmentally friendly way, Europe will be much more supportive," said Zenyo Baran, a senior fellow at the Washington, D.C.-based Hudson Institute.

Ukraine is also being pushed to develop its own gas reserves, which are believed to be significant. The country produces about 20 billion cubic meters of its own gas, which is meant to cover non-industrial needs and therefore protect the population from sharp price increases. But Ukraine lacks modern drilling equipment to develop additional gas reserves, and Western groups ready to invest hundreds of millions of dollars complain that their contracts aren't being honored.

Developing the gas reserves could help individual Ukrainians, who have had a harder time absorbing the price hike than industries. Many saw their home gas bills more then double, which triggered protests against the government. Officials have promised to try to shield the poorest residents as much as possible from the increases.

Belarus and Georgia might have a trickier time, analysts say. Ukraine's export-driven industries were buoyed by high world prices and could invest in energy-saving technology, and the country has significant alternative energy sources to tap into - things both Georgia and Belarus lack.

"It was easier for Ukraine to go with these market changes," said Tomas Fiala, head of Ukraine's Dragon Capital investment house.

Source: Kyiv Post