Slabs of red hot steel sit in a cooling facility at the Alchevsk Iron & Steel Works’ metallurgical plant in Alchevsk, Kiev. Smarting from Ukraine’s U-turn towards Europe, Russia is likely to employ every weapon in its economic arsenal to ensure its neighbour’s road to financial recovery is as painful as possible.

Reuters/Kiev

Smarting from Ukraine’s U-turn towards Europe, Russia is likely to employ every weapon in its economic arsenal to ensure its neighbour’s road to financial recovery is as painful as possible, even when paved with billions of dollars in Western aid.

Russia has “the right to use selective protective measures against Ukraine if it creates a free trade zone with a third government, or for example with the European Union,” a Russian economy ministry spokesman said in response to a question from Reuters, citing the terms of a 2011 agreement.

He gave no details of what the measures might entail.

After months of anti-government protests and the overthrow of a government blighted by corruption and economic mismanagement, Ukraine is on the brink of bankruptcy, running wide external deficits and a current account shortfall of over 9% of gross domestic product.

On Thursday, the International Monetary Fund threw a financial lifeline, agreeing to stump up $14bn-$18bn as part of a two-year bailout package in exchange for tough economic reforms. The deal, combined with Kiev’s signing of a
co-operation pact linked to closer trade ties with the European Union, represents a serious blow to Russian President Vladimir Putin’s dream of Ukraine joining a Eurasian Union of former Soviet states.

Moscow will not make it easy and Ukraine is already feeling some consequences from its break with Russia.

Prime Minister Arseny Yatseniuk said on Wednesday the price the country would pay for Russian gas, which accounts for over half of Ukrainian gas imports, would soar by almost 80% from April 1 as the seizure of Crimea had rendered a cheaper gas deal obsolete.

Russia’s Gazprom has suggested a new conflict over gas payments and supplies – like disputes in 2006 and 2009 that halted supplies to Ukraine and onward to Europe – could break out, though it added it had no interest in a resumption of such disputes.

“The better off Ukraine is under the new government, the more likely it will integrate into the West,” said Nicu Popescu, senior analyst at the EU Institute for Security Studies (EUISS).

“So disrupting the Ukrainian transition in political and economic terms is probably Russia’s primary foreign policy goal in the foreseeable future.”

Putin’s annexation of Crimea, which Kiev and the West say is illegitimate, is likely to push Ukraine’s gross domestic product (GDP) down by 5% in 2014, according to Simon Mandel, Vice President for Emerging Europe at New York-based brokerage Auerbach Grayson.

While the tens of thousands of Russian troops thought to be massed on the border show no immediate sign of entering other parts of Ukraine, Russia has already flexed its trade muscles to upset the Western-backed Ukrainian recovery plan.

Last year Putin showed he was prepared to wield restrictions or bans on Ukrainian exports as punishment for attempts by the country of 46mn to move out of Moscow’s orbit.

With exports to Russia accounting for nearly a quarter of Ukrainian external trade and contributing around 8% of GDP, further moves could significantly inhibit the country’s bid for economic renaissance.

It would take a lot of “blood and sweat” for many Ukrainian companies to withstand any Russian trade ban, Vice President of the European Bank for Reconstruction and Development (EBRD) Andras Simor told Reuters.

“They will need to be flexible if circumstances create a need for adjustment,” he said. “We will be there to try and help them as much as possible.”

Cementing Kiev’s historic shift away from Russia, a bilateral free-trade agreement between Ukraine and the European Union is due to come into force later this year, and Russian trade officials have expressed concerns over closer Ukrainian association with the European bloc.

Russia’s milk union has asked for a ban on Ukrainian dairy products, and while no bans are in the works, imports from Ukraine are being monitored closely, according to the assistant to the head of Russia’s veterinary oversight agency Rosselkhoznadzor. “There are no plans to impose restrictions on trade, but we must be prepared for the fact that we will impose restrictions if Ukraine is not able to fulfil its obligations due to the political situation in the country,” Rosselkhoznadzor’s Alex Alexeenko told Reuters.

Dairy products account for only a fraction of Ukraine’s sales to Russia, but all Ukrainian exporters will be anxiously eyeing Russia’s trade stance, particularly industrial producers in the east.