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EU proposes tough sanctions on Moscow as Ukraine rebels advance

By Robin Emmott and Richard Balmforth

BRUSSELS/KIEV (Reuters) - European officials proposed sweeping new sanctions on Tuesday to starve Russia's companies of capital and technology as punishment for Moscow's intervention in Ukraine, where Kiev officials said Russia was bolstering an "invasion" force.

Western countries accuse Moscow of sending armoured columns of troops into Ukraine, where the momentum in a five-month war shifted last week decisively in favour of pro-Russian rebels, who are now advancing on a major port.

Russia denies its troops are involved in fighting on the ground, in the face of what Western countries and Ukraine say is overwhelming evidence.

According to the United Nations, the war, in which pro-Russian separatists are fighting to throw off rule from Kiev, has killed more than 2,600 people and driven nearly a million from their homes in east Ukraine.

European leaders asked the EU on Saturday to draw up new sanctions to punish Moscow, which are expected to be unveiled on Wednesday and adopted by Friday. The United States is also planning new sanctions but is keen to maintain Western unity by not getting in front of its European allies.

Outlining the new proposals on Tuesday, European diplomats described a number of mainly technical measures that would have the combined effect of making it harder for companies in Russia's state-dominated economy to obtain overseas financing.

U.S. and EU sanctions steadily tightened since March have already made it hard for many Russian firms to borrow, scaring investors and contributing to billions of dollars in capital flight that has wounded the Russian economy. Moscow has responded by banning most imports of Western food.

"We need to respond in the strongest possible way," said the EU's newly named incoming foreign policy chief, Italian foreign minister, Federica Mogherini. "Things on the ground are getting more and more dramatic. We speak of an aggression, and I think sanctions are part of a political strategy."

A summit of European leaders has been dominated by events in Ukraine. According to Italy's La Repubblica newspaper, outgoing European Commission president Jose Manuel Barroso said Russian President Vladimir Putin had told him he could take Ukraine's capital within two weeks. The Kremlin said any such remarks were taken out of context and criticised Barroso for the leak.

SANCTIONS

Still, it is by no means clear that the sanctions will pass in their proposed form: the 28 EU member states must all agree on any measures, and several have openly expressed scepticism.

Czech Prime Minister Bohuslav Sobotka said he would study ways to reduce the harm to his country from sanctions, and seemed unconvinced by the entire strategy.

"The problem is that if sanctions are escalated now, there will be a reaction from Russia and we are not able to estimate at this point what impact the next wave of sanctions by Russia against EU countries will have," he said.

Slovak Prime Minister Robert Fico has also expressed concern, calling sanctions "meaningless and counterproductive".

The measures described by EU diplomats all build on earlier sanctions imposed in July, which hit Russian business broadly for the first time.

The new proposals on the table would widen a ban on Russian state banks raising capital in EU markets to cover all Russian state-owned firms. The capital markets borrowing ban would be extended to include syndicated loans from EU banks, and a ban on sales in Europe of Russian debt instruments for periods of less than 90 days would be reduced to 30 days.

Bans on sales of energy technology and technology with dual military and civilian uses would be tightened. And the 28-member bloc could also consider more symbolic measures, like adding Russia's defence minister to an EU travel ban list and possibly even limiting future sport and culture exchanges.

The European Union also opened a pipeline that could supply Ukraine with 20 percent of its natural gas needs, important aid for a country that depends on Russian energy. Kiev has been burning gas reserves since Moscow cut it off two months ago.

The International Monetary Fund, which is supporting Kiev with loans, said it would need a bigger bailout if war goes on.

"INVASION"

In an interview with Reuters, Kiev's governor for the Donetsk region, now operating out of the province's second-biggest city Mariupol while the regional capital Donetsk is in rebel hands, described the Russian presence as an "invasion".

Western leaders including U.S. President Barack Obama and German Chancellor Angela Merkel, mindful that the Russian forces they say have crossed into Ukraine still represent just a fraction of Moscow's potential might in the area, have so far avoided that word, instead calling it an "incursion".

"A huge amount of weapons are unfortunately crossing the Russian border. They (the Russians) bring them to Ukraine to bring death and destruction and they try to annex part of Ukrainian territory," the governor, wealthy industrialist Serhiy Taruta, told Reuters. "So it is very difficult to qualify it any way other than as an invasion."

Russia annexed Ukraine's Crimea peninsula, where most of the population is ethnic Russian, in March. Since then, rebels in the east, where most people identify themselves as ethnic Ukrainians who speak Russian, have declared independence.

At talks this week, the rebels have offered to consider some kind of special status formally within Ukraine, while Putin said their status, including "statehood", should be negotiated.

Kiev has refused to discuss political issues with armed rebels it says are proxies of Moscow.

The rebels have been steadily advancing in recent days after weeks in which they had appeared to be on the verge of collapse while government forces besieged them in two provincial capitals, Donetsk and Luhansk.

Government forces pulled out of Luhansk airport on Monday. On Tuesday, military spokesman Andriy Lysenko said they had destroyed the runway before leaving to make it unusable.

He also said the government was reinforcing Mariupol, a port of around half a million people, and the next big city in the path of a rebel advance that began last week with the sudden capture of the small town of Novoazovsk.

"Soon we will build a second line of defence at a distance further out of 15-20 km from the town," Lysenko said.

Lysenko said Russian trucks, painted white, were now being used to deliver arms to the rebels.

"Last night four white trucks came ... and after an hour went back again. It's not the first time that white trucks have unlawfully crossed the border accompanied by off-road vehicles and guards," he told journalists.

Months ago Mariupol rallied behind Kiev after the region's main employer Metinvest, the industrial firm of Ukraine's richest man Akhmet Rinatov, sent steelworkers into the streets to push out rebels.

At a Metinvest smelter, Alexander Ilarionov, a manager, said the employees were keeping production going despite being cut off from raw materials. If the rebels arrive, the workers will defend the city, he said.

"We resisted, we organised and we will do it again."

(Additional reporting by Aleksandar Vasovic in Mariupol, Gabriela Baczynska in Donetsk, Adrian Croft and Jan Strupczewski in Brussels, Jan Lopatka and Jason Hovet it Prague, Pavel Polityuk and Kiryl Sukhotski in Kiev and Mark Trevelyan in Moscow; Writing by Peter Graff; Editing by Giles Elgood)

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