Why is the war in eastern Ukraine still going on?

We republish here the presentation of the Ukrainian socialist Marko Bojcun to the conference The Politics of Plunder East and West: what is to be done? held at the London School of Economic

In February 2014, Russian forces seized Crimea and then began supporting the separatist insurgency in eastern Ukraine. This intervention transformed the conflict between the Maidan and Viktor Yanukovych’s regime into an international one, and brought Ukraine and Russia into a state of war.

The ongoing crisis clearly has many complex causes that need to be tackled if it is to be overcome. But among the most important causes at the international level has been the contest between two grand projects of regional integration for the labour, natural resources and markets of Ukraine.

These are the European Union, on the one side, and the Russia-led Eurasian Economic Union on the other. Both of them serve as engines of capital accumulation and expansion for the transnational corporations and banks situated in their respective metropoles. Both have institutions of collective governance and military security. These two integration projects met face to face on the territory of Ukraine in the years following the 2008 international financial crisis, and their failure to recognise Ukraine’s need to engage productively with both of them contributed enormously to the escalation of the domestic conflict between the Maidan and the Yanukovych regime into an interstate war.

Two years on, many thousands of civilians as well as combatants are dead, two million are displaced and impoverished, and a ballooning public debt and harsh austerity measures afflict Ukrainian society. Russia’s economy is in a deepening recession as a result of the costs of supporting breakaway statelets in eastern Ukraine, western sanctions and collapsed oil prices. The question that must now be answered is: why is the war in eastern Ukraine still going on? Are these hardships simply not sufficient reason for the leaders of Russia, Ukraine, the EU member states and USA to urgently seek a diplomatic solution?

I contend that they are not — because these states are also guided by the interests of their biggest corporations and banks. The latter have found ways of living with the war and factoring it into their strategies of survival, recovery and eventual expansion. This war will not end until the state political representatives of Russia, Ukraine and the European Union find a way to reconcile the competing interests of big business on the territory of Ukraine and are ready to impose a political settlement to that effect onto the people of Ukraine.

There are several developments that deserve deeper examination and linking up in order for us to understand better why this war continues to drag on. Neither Russia, nor Ukraine have declared war on each other. Why not? One reason is that this is not simply a war, but a hybrid war-and-peace in which the adversaries fight each other with lethal weapons while continuing to trade and negotiate with each other.

Ukrainian firms in Crimea

While Ukraine’s parliament and president Petro Poroshenko dragged their heels in adopting laws to assist the people displaced from Crimea and Donbas, they rather quickly adopted a law on a free economic zone in Crimea, over which they no longer have any control. Law no. 1636-VII, which came into force on 27 September, 2014, defines the peninsula as an offshore zone and so absolves Ukrainian owned businesses operating there of any taxes on their profits.

Trade and capital flows are being restored across the borders of Russia, Ukraine and the European Union despite the war and western sanctions

The Russian State Duma also adopted laws making Crimea a free economic zone. So Ukrainian citizens who have registered their business in Crimea under Russian law can take advantage of its tax breaks as well — zero tax on profits, reduced import duties on goods brought into Crimea (including from Ukraine), and duty free export of their products into Russia and other member states of the Customs Union.

The Russian government has expropriated the businesses of Ukrainians who actively oppose its annexation of Crimea and welcomed those who don’t. The intent of these taxation laws is to keep Russian-controlled Crimea open to Ukrainian business, war or no war.

The Russian government’s direct administration of the Donetsk and Luhansk People’s Republics

From middle of 2015, Russia moved to take more direct control of the so-called “Donetsk People’s Republic” and “Luhansk People’s Republic” (DNR and LNR) in order to stabilise them economically and remove those military leaders who continued to prioritise their territorial expansion. Russia started to pay out pensions after Ukraine refused to pay them to its citizens there unless they registered for them on territory still controlled by the Ukrainian state. The banking system was partially restored and transactions started to be made in Russian roubles. It has since become the dominant currency.

Management of the DNR and LNR passed in October 2015 from the Vladimir Putin’s Presidential Administration to the Russian Council of Ministers, with Sergei Nazarov, deputy minister for economic and regional development, put in charge. Nazarov heads up a working group that includes the relevant Russian state agencies, leaders of the breakaway republics… and representatives of Ukrainian big business.

The still-operating companies have thus been allowed to continue working. The Ukrainian coal and power corporation DTEK, owned by Rinat Akhmetov, has been given permission to repair the state-owned railway so that it can transport coal produced in its mines in the occupied Donbas by rail to its power stations in free Ukraine.

All in all, these developments mark an important shift in Russia’s strategy towards its conflict with Ukraine, from exerting military pressure on the Kyiv government through the separatist entities to preparing them for reincorporation into the wider regional economy spanning the borders of Russia and Ukraine.

State level agreements in energy trade

A set of interlocking agreements have been made between Russia and Ukraine to trade coal across the border between Russia and eastern Ukraine and electricity between mainland Ukraine and Crimea.

The trigger for these agreements was the dire shortage of thermal coal experienced by Ukrainian electricity generating stations in 2014 and 2015 as a result of the country’s loss of its most productive coal mines to the DNR and LNR. The Ukrainian government eventually agreed to buy coal from Russia to make up the shortfall.

Russia, in turn, used Ukraine’s difficulties to its advantage in three ways: as mentioned above, by permitting DTEK to supply the coal from mines it owns in the occupied territories, thus generating some income to offset the considerable Russian subsidies needed to support these territories; secondly, by registering the most valuable Donbas anthracite coal as Russian in origin and selling it on overseas markets; and thirdly by successfully pressuring the Ukrainian ministry of coal and electricity generation to supply electricity to Crimea, and at a reduced tariff. Crimea depends on Ukrainian power stations for 90% of its electricity needs.

At the same time, the Ukrainian government, under pressure from the IMF to cut state budget expenditures, set its sights on closing down the remaining coal mines still under its control. Thus, it opened itself up to still deeper dependency on Russia for coal — and therefore electricity, half of which its power stations generate from coal today, while already being almost completely dependent on Russia for its gas supplies.

In the process the government incurred the bitter opposition of Ukrainian coal miners who saw in these decisions a betrayal of their livelihoods and of national security in a time of war.

Contraband trade

Black markets have flourished on the borders of the separatist republics in diesel, vodka, medicines, meat, fish, tobacco and scrap metal.

Ukraine’s blockade of the DNR and LNR from the western side, the taxes imposed by their authorities on goods legally imported from Russia and already priced at double their market value in Russia, have made the black market trade extremely profitable.

It grows on the long established criminal networks of Russia and Ukraine, which established themselves long ago on the basis of trafficking drugs, weapons and people. Today, the expanding black markets are steadily replacing the open regulated markets destroyed by the war.

War and debt

Ukraine is now tied to the Russian economy principally through fuel and energy imports. Its own arms and aerospace exports to Russia are prohibited by Ukrainian law and its food exports there blocked by a retaliatory Russian trade embargo.

On the other hand, Ukraine’s ties to western, principally European, economies are increasingly dominated by debt as a result of the 2008 financial crisis, the ensuing global contraction of trade in its primary goods exports, and since 2014 by the war in eastern Ukraine. In 2015, Ukraine’s state and government guaranteed debt reached $65 billion, equivalent to 80% of GDP. Over 70% of the debt was owed to external creditors, mainly western governments, banks and international financial institutions like the IMF and the EBRD.

When a political settlement has been reached between Russia and the west, Ukraine’s leaders will be given a choice they simply won’t be able to refuse

Now international financial institutions, in which western governments are the main shareholders, are prohibited from lending to countries at war. And that is the other reason the Ukrainian government has declined formally to declare war on Russia. Yet the IMF has taken a lead in extending loans to Ukraine and has co-ordinated efforts to restructure its now huge debts. In turn, western shareholders of this debt have gained enormous leverage over Ukraine’s domestic and foreign policies.

With respect to domestic policies they have insisted on deep cuts to health, education and welfare budgets, new rounds of privatisation of state owned assets, a more flexible labour market and equal national treatment of foreign investors. With respect to foreign policy, western loans to insolvent Ukrainian state, whose national economy is still haemorrhaging, allow that government to keep fighting its war with Russia.

But they also allow western governments to turn off the tap and call on Ukraine to unilaterally withdraw from the war. Of course, they will not do so publicly. But when a political settlement has been reached between Russia and the west, Ukraine’s leaders will be given a choice they simply won’t be able to refuse.

Sanctions against Russia

Two powerful impulses lie at the heart of EU-Russia relations: on the part of the EU, to co-operate within a rules based interstate order rooted in treaties and common institutions for trade, security and human rights; for Russia, to exchange its abundant natural resources for European capital and technique for the purpose of development of its corporate champions.

When these two impulses are satisfied both parties expect to grow their economies and remain at peace with one another. Russia went against the first impulse when it seized Crimea and intervened in eastern Ukraine, violating several international treaties it had signed guaranteeing Ukraine’s sovereignty and territorial integrity. The European Union and the USA then imposed economic sanctions against Russia in the energy, financial and defense sectors.

The expectation of the Europeans and Americans was that sanctions would restrain further Russian aggression and to bring Russia into negotiations to withdraw its support to the separatist republics.

Clearly they did not: Russia has steadfastly denied any involvement in the war. It sees itself as an intermediary, not a participant. Yet Russian forces and munitions supported new offensives by Ukrainian separatist forces in 2014 and 2015, which recovered and then expanded the territory under separatist control. It was the hardening Ukrainian resistance to this expansion, not international sanctions, that forced the Russian leadership to rethink its strategy vis-à-vis the separatist republics.

With respect to the sanctions, which undoubtedly have damaged its economy, Russia has taken the position that they damage equally their European partners and that it can hold out longer than they will.

Efforts to evade and finally to end the sanctions are mounting. These developments show that the common interest of west European, Ukrainian and Russian capital is to restore transnational links

It has a point. Germany is Russia’s most important partner among the EU member states. It has the biggest investment in Russia of any country in the world — some 80 billion euros worth, and Germany has become the channel for significant Russian inward investment into the EU.

The two countries are linked by the Nordstream gas pipeline running under the Baltic Sea, built to circumvent countries troublesome to the Russian gas trade, like Ukraine. While the German government under Chancellor Merkel led the way both in EU sanctions against Russia and efforts to negotiate with Putin, German big business led by Siemens, the engineering giant, fought to keep the trade and investment channels open.

Siemens has ploughed ahead with plans to deliver electricity generating gas turbines to Crimea via Krasnodar, a nearby Russian province. Agreements were signed between Gazprom and a consortium of EU energy firms to double the throughput of gas down the Nordstream pipeline.

These efforts to resist the sanctions have persisted and brought together a powerful lobby of German, Austrian, Italian, Belgian and French corporate and political leaders pressing for an end to them. They will almost certainly begin to be lifted at the end of 2016, regardless of the state of negotiations on the Minsk II accords.

Meanwhile, some Russian businesses are managing to evade the sanctions in financial services and trade with Crimea. The Moscow Times reported in December 2015 that Deutsche Bank had identified suspicious transactions by its Russian clients amounting to $10 billion, including “mirror trades” using roubles held in Moscow to purchase securities in London denominated in euros and dollars.

There is also the wide field of unregulated financial services, among which Mossack Fonseca (of Panama Papers fame) has featured lately, which provide transnational channels for the concealed movement of funds to and from the Russian economy.

Conclusion

Trade and capital flows are being restored across the borders of Russia, Ukraine and the European Union despite the war and western sanctions.

Efforts to evade and finally to end the sanctions are mounting. These developments show that the common interest of west European, Ukrainian and Russian capital is to restore transnational links, and this interest is steadily taking priority over the urgent need to end the suffering caused by the war.

A definitive restoration of transnational links will require a negotiated settlement between Russia and the European Union on their terms of engagement with Ukraine, where their ambitions of expansion have collided and remain unreconciled. This kind of agreement will be imposed on the government of Ukraine, whose biggest capitalists are, after all, considerably smaller and weaker links in the chains of transnational capitalism through the continent than Russian and German ones.

Want to know more about the post-Crimea world order and offshore authoritarianism? Check out our Politics of Plunder series here.

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