* Devaluation would give competitive boost
* But financial turmoil would increase financing risks
* Russian competitors fret about Ukrainian imports
* Barriers to entry to Russia-led Customs Union
By Alessandra Prentice and Douglas Busvine
MOSCOW, Dec 5 (Reuters) - Ukraine's choice of closer ties with Moscow, spurning a trade pact with the EU, could rub its struggling steelmakers up against Russia's own beleaguered metals firms, who will resist Kiev's attempts to export its way out of trouble.
Since President Viktor Yanukovich pulled out of the deal with the European Union, a key market for the steel industry, the former Soviet country of 46 million has been in turmoil, with mass protests in the capital and markets hammered by fears of currency devaluation or sovereign bond default.
The protests will make it harder for Yanukovich to accept President Vladimir Putin's invitation to join a regional Customs Union and the advantages that would bring to its exporters.
Russian steelmakers are also unlikely to feel warmly towards the political rapprochement.
"Steelmakers in Russia certainly see Ukrainian competition as a threat," said Sergey Donskoy, an industry analyst at Societe Generale in Moscow.
Ukraine produced 33 million tonnes of raw steel in 2012 - down 10 million from its 2007 peak - and exported a total of 24 million tonnes of steel mill products, accounting for 28 percent of the country's entire exports.
Russian output, 70 million tonnes last year, has been more stable. The former Soviet Union has the biggest steel surplus of any region and, with global demand depressed, freer trade between the neighbours would only intensify competition.
Russian steelmakers have aggressively lobbied their government to implement measures to defend domestic producers from Ukrainian imports, which exceeded 3 million tonnes last year.
In July, Russia scrapped duty-free quotas on Ukrainian steel pipes, while last month it launched an anti-dumping probe into steel rod imports from Ukraine into the Customs Union that also includes Belarus and Kazakhstan.
"The lack of prospects for domestic demand growth as well as the huge amount of spare capacity will cause Ukrainian firms to boost exports, including to the Customs Union," said a representative for Russia's No.2 steel firm Severstal.
Ukraine is likely to account for around 65 percent of total Russian steel imports this year, the representative said.
"We see a significant rise in imports of construction steel and coated steel. Of course, this affects the growth of the domestic metals industry," he said.
"Such a huge rise in supply volumes can only happen with a serious fall in price ... We're fighting against unfair imports such as the Ukrainian supplies." Severstal estimates that Ukrainian wire rods are being sold into the Customs Union at prices 12.6 percent lower than charged on other markets.
Indebted Russian metals and mining firms - including Mechel and Evraz - recently petitioned their government for financial help so they can restructure and regain competitiveness.
Ukraine is running wide external deficits, with a current account shortfall of 7 percent of gross domestic product, reflecting the fact that it pays a high price for Russian gas imports, while prices for steel exports are depressed.
This has drained the Ukrainian central bank's reserves to around $20 billion - just 2-1/2 months of import cover - fuelling speculation that a devaluation of the hryvnia currency may be in the offing.
Devaluation would give its steel exporters a boost to their competitiveness, but metals traders say they would struggle to capitalise on it as the financial turmoil would make it harder to raise trade financing from banks typically used to complete steel purchases.
"A depreciation of the currency is absolutely possible," said a senior executive at a European steel trading firm with strong ties to Ukraine.
"Depreciation of the currency, defaulting on the bonds are all issues which affect the steel industry's ability to borrow but ultimately makes them more competitive."
Global steel prices have recovered from a three-year low hit in June, but the rise has since stalled in Europe, while prices in Asia softened in November.
Players whose costs are chiefly denominated in the local currency would benefit from a cheaper hryvnia, such as London-listed iron ore miner Ferrexpo, said Boris Krasnojenov, a sector analyst at Renaissance Capital in Moscow.
Ferrexpo has said, however, that a hryvnia-denominated tax credit that it holds, now worth $300 million, would also take a hit if the currency was devalued.
Ukraine's largest steelmaker, Metinvest, controls about 50 percent of Ukraine's steel market, while the biggest foreign player is ArcelorMittal, the world's largest steelmaker, which has 12 percent. Both firms' Ukrainian operations are vertically integrated, meaning they supply much of their own scrap, iron ore and coking coal rather than having to buy inputs on the market at dollar prices.
If Ukraine did join the Customs Union, that would give its steelmakers greater market access but would also increase pressure for cross-border consolidation to achieve economies of scale and upgrade their outdated facilities.
Metinvest, with production of 12.5 million tonnes in 2012, ranks behind Russian producers Evraz (15.9 million), Severstal (15.1 million), NLMK (14.9 million) and MMK (13 million). All are dwarfed by ArcelorMittal's 93.6 million tonnes. Severstal's main owner and CEO, Alexei Mordashov, has spoken approvingly of consolidation but given no hints as to who would make a potential partner.
"If Ukraine throws its lot in with Russia, there would probably be a round of consolidation," said a fund manager based in Moscow. "But Yanukovich, politically, can't justify this right now."