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Ukraine Pivots to Russia With Last-Minute Freeze of EU Deal Plan

Ukraine opted to seek stronger ties
with Russia, cutting off preparations for a European Union trade
agreement a week before its scheduled signing would have capped
almost six years of negotiations.

President Viktor Yanukovych’s government will focus on
reviving trade with Russia and other former Soviet republics, it
said yesterday. The decision is probably final, said Linas Linkevicius, the foreign minister of Lithuania, which holds the
EU’s rotating presidency. Postponing the signature of the
agreement “is not realistic,” he said by phone.

The EU and Russia, buyers of about a quarter of Ukrainian
exports each, are jostling over relations with the country of 45
million people that’s an essential transit route for east-west
energy shipments. The second-largest ex-Soviet country is also
crucial to the ambition of Russian President Vladimir Putin to
set up a trading area to emulate the Brussels-centered bloc.

“The European bloc has been facing a rival in Russia all
along this process,” Lilit Gevorgyan, an analyst at IHS Global
Insight in London, said by e-mail. “From a geopolitical
perspective, any delay of the agreement with Ukraine will be a
serious setback for the EU’s diplomacy.”

The yield on the Ukrainian dollar bond due 2023 jumped 23
basis points, or 0.23 percentage point, to 9.89 percent at 8
p.m. in Kyiv yesterday. The cost to insure Ukrainian debt
against non-payment for five years with credit-default swaps
rose 35 basis points to 995, the third highest in the world
after Argentina and Venezuela, according to data compiled by
Bloomberg.

Tymoshenko’s Fate

European governments had urged Ukraine to sign association
and free-trade agreements at a Nov. 28-29 summit in the
Lithuanian capital of Vilnius. Russia, which supplies 60 percent
of Ukraine’s natural gas, threatened trade measures if the deal
went ahead, offering membership of its customs union as an
alternative.

While Yanukovych reiterated yesterday that his country’s
goal is European integration, lawmakers repeatedly failed to
pass a bill to allow jailed ex-Premier Yulia Tymoshenko to
travel abroad for medical treatment, a key EU condition for the
trade accord to proceed as the bloc deems her imprisonment a
case of selective justice.

The Ukrainian leader “can take leadership and take a
decision at any time — but really, it’s maybe more
theoretical,” Linkevicius said in a telephone interview
yesterday. “Time is not on our side due to many reasons. To
postpone a decision, I’m afraid, could mean no decision at all,
no signature at all.”

Russian Joy

If EU officials sounded subdued, the Russian reaction was
more exuberant. Putin’s spokesman, Dmitry Peskov, told reporters
in Moscow that the decision was the demonstration of a “desire
to improve and develop economic cooperation.” Putin earlier
denied opposing Ukraine’s trade deal, though he said trilateral
talks must come before a decision is made, the Interfax news
service reported.

The government in Kyiv said its motivation for suspending
preparations for the EU treaty was economic. A decline in trade
with former Soviet countries that led to falling industrial
production, Deputy Prime Minister Yuriy Boyko said in a
televised statement yesterday.

Ukraine entered its third recession since 2008 in the
second quarter as demand for its steel exports shriveled, while
reserves have plummeted. Joining Russia’s customs union would
shrink its current-account gap by cutting energy costs.

‘Unprecedented Pressure’

The reasons may have been more complex, according to former
Polish President Aleksander Kwasniewski, one of the EU’s main
negotiators with Ukraine. While economic difficulties
contributed to yesterday’s decision, “unprecedented pressure”
from Russia also played a part, he said.

“Russians tapped the whole arsenal of possibilities they
have in Ukraine,” he told Poland’s TVN24. “All Ukrainian
presidents will want to balance between their big eastern
neighbor and the West.”

Similar accusations were leveled at the EU in Moscow, where
Foreign Minister Sergei Lavrov said this week it was the trading
bloc that put Ukraine under “brazen pressure” to choose
between Russia and the 28-member bloc.

Kwasniewski and his co-negotiator Pat Cox, a former head of
the European Parliament, urged EU leaders to reassure Ukrainians
that “the door will not be shut,” according to an e-mailed
statement yesterday. They also recommended to “maintain active
vigilance” over Tymoshenko’s conditions.

Yanukovych, whose 2004 victory in a presidential ballot was
overturned amid the Orange Revolution that Tymoshenko helped
lead, has accused her of involvement in crimes including a
murder, claims she denies. He defeated Tymoshenko to become
president in 2010 after serving two stints as premier.

‘Clearly Fears’

“Yanukovych clearly fears releasing Tymoshenko” before
presidential elections in 2015, Luis Costa, an emerging-markets
strategist at Citigroup Inc. in London, said by e-mail. “It’s
time to partially take profits in Ukrainian bonds for those who
bought at the lows a couple of months ago.”

That means the EU’s ambitions to cement Ukraine’s place in
its orbit fell victim to the trading bloc’s maneuvering, said
Alexei Pushkov, head of the foreign-affairs committee in
Russia’s lower house of parliament. Ukraine halting preparations
to sign the pact is “logical,” with the Tymoshenko demand
representing “a mine the EU laid itself,” he said.

“Setting Tymoshenko free would have given the EU a chance
to work against Yanukovych in 2015 elections, and ‘‘for a
political leader, this is suicide,’’ he said by phone.

Demonstration Planned

Yanukovych trails world heavyweight boxing champion Vitaly Klitschko in polls for the presidency. Opposition parties are
organizing a demonstration for Nov. 24 to back stronger EU ties.

Regardless of the political backdrop, Ukraine’s actions may
be a negotiating ploy to help garner financial aid, according to
Liza Ermolenko, an emerging-markets analyst at London-based
Capital Economics Ltd.

‘‘There have been some suggestions in the media that policy
makers are just trying to raise the stakes,’’ she said by e-mail. ‘‘The key in all this is that until the summit next week
there’s not much point trying to guess what Ukraine is going to
do.’’

Still, time may be running out. EU Enlargement Commissioner
Stefan Fule canceled a planned trip to Kyiv yesterday, the DPA
news service reported, citing his office.

Yesterday’s decision ‘‘puts a large question mark over the
general direction of Ukraine’s foreign policy,” Tatiana Orlova,
an economist at Royal Bank of Scotland Group Plc in London, said
by e-mail.

To contact the reporters on this story:
Daryna Krasnolutska in Kyiv at
dkrasnolutsk@bloomberg.net;
James G. Neuger in Brussels at
jneuger@bloomberg.net

To contact the editor responsible for this story:
Balazs Penz at
bpenz@bloomberg.net