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Reform of the energy sector
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It was mainly under the pressure of IMF, World Bank and other international financial donors, that the government under Prime Minister Victor Yushchenko embarked upon a reform of the energy sector in early 2000. Surprisingly, it was Yulia Timoshenko, head of United Energy Systems of Ukraine during 1995-1997, who became the vice prime minister responsible for energy. While being Prime Minister, Pavel Lazarenko gave United Energy Systems in 1996 monopoly rights and a tax break for five years. This gave the company and Lazarenko, who is now prosecuted in the United States for money laundering, hundreds of millions of dollars profit.
The energy sector reform was aimed at boosting cash receipts for the energy producers and distributors by forbidding barter trade and forcing the settlement of energy deals through special, government controlled accounts in the Oshchad bank. All consumers must deposit electricity payments into special accounts at Oshchad bank. Subsequently the cash is distributed among oblenergos and energy generators.[xlii]
The impact of these reforms is difficult to assess given contradictory information from government sources. When Timoshenko presented before parliament figures about payments in the energy sector, in October 2000, she told parliament that cash payments of energy consumers increased considerably since the onset of reforms. She claimed that tax authorities received much more in 2000 compared to 1999. However, these claims were denied by the tax authorities and a commission investigating these conflicting claims came to the conclusion that Timoshenko misinformed parliament. It was stated that payments to the budget from the side of actors in the energy consumers did not increase in 2000. Debt for electricity deliveries rose in 2000, according to tax authorities. [xliii] The consumer debt to Naftogaz was up from 2.6 to 4.4 billion hryvnas in the first 9 months of 2000.[xliv] Electricity supplied by state owned generators was only half paid in cash
Conflicting figures were, among others, based on the fact that Timoshenko allowed oblenergos to offset debts owed to energy providers with tax debts of these energy providers. The Cabinet of Ministers permits mutual settlements of government financed entities' energy debts.[xlv] Also, government ordered Oshchad bank to provide government backed loans to oblenergos to allow them to pay for energy supplies. In this way, the payments record of oblenergos was artificially boosted. The World Bank expressed concern about this.[xlvi]
Moreover, Yevhen Marchuk, the director of the national security service, accused Yulya Timoshenko that she used credits of Oshchad bank to purchase expensive energy from offshore companies.[xlvii]
Oblenergos started to pay more to electricity providers, but do not collect any more from their customers.[xlviii] With Lvivoblenergo. the collection rate increased from 60 to 70 per cent from 1999 to 2000. However, there are cash flow problems because of increased payments to the energy providers. Therefore, there is less money for salaries and basic supplies. Formerly, energy providers were paid with goods and promisory notes.
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The energy producers profited from the energy reforms and received initially more cash that was used to pay wage arrears. The financial situation of coal mines improved. Cash payments for electricity supplied by state generators was 50 per cent paid for in cash during the first nine months of 2000, while it was only 19 per cent during the same period in 1999.[xlix] Government figures show that, on paper at least, losses of coal mines gradually diminished over the first 10 months of 2000 and turned into profits in July and August. During the first three months approximately half of all payments was in cash, but this ratio declined subsequently to approximately 8 per cent in October 2000. The share of mutual settlement rose to 10-20 per cent during July-October 2000. The share of barter rose from approximately 50 per cent of all payments during the first three months of 2000 till approximately three quarters during August-October 2000.[l]
Also, it seems that households are paying more, The population paid 75 per cent of housing services in Jan-Sept 2000, while it was 48 per cent for the same period in 1999. However, in some oblasts, like Kharkiv, the collection rate went down.[li]
One part of the reform of the energy sector is the privatisation of oblenergos. Early 2000 six oblenergos have been privatised. However, the effect was that privatised oblenergos paid only 7 per cent of delivered electricity while state owned oblenergos paid 60 to 98 per cent (also with help of the government- see above).
Energorynok, that got the role of state owned electricity wholesaler and overseeer of the electricity market, profited from the new arrangement.
The ban on barter hit the energy traders who based their shadowy profitable deals on barter trade. Many members of parliament derived profits from energy trade and energy traders financed the re-election of president Leonid Kuchma. Therefore the energy reforms were under continuous attack and reform efforts were undermined by the state bureaucracy and parliament. Moreover, the judiciary failed to tackle corruption in the energy sector. Yulia Timoshenko complained that the general prosecutor failed to instigate criminal proceedings against embezzlement in the energy sector.[lii]
Generally, the situation in the energy sector continued to deteriorate, owing to insufficient liquidity and political disagreement. In autumn 2000, Ukrainian government had to resort to external borrowing to secure energy supplies. 100 million dollars was provided by the EBRD for the purchase of fossil fuels, while 300 million dollars was provided by the bank Credit Suisse First Boston. [liii] Total debts of the fuel and energy sector increased during the first 9 months of 2000 by 1.1 billion hryvnas and totalled 13.6 billion hryvnas in October 2000. [liv]
Power outages are occurring more frequently, often blamed on bad weather. Large part of customers in Ukraine is regularly disconnected from the energy supply.
Although Timoshenko urges for enhancement of payment discipline, she said that she would not allow electricity cut offs to the population.[lv] This may be related to the fact that households are not the worst offenders with respect to non-payments of energy. Nevertheless electricity cut offs occurred, for example in Kharkiv.
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Also, 42 per cent of energy indebted enterprises continued to function.[lvi]
The position of the thermal power stations worsened as they were forced to pay more for coal deliveries. As a result, their payments for gas deliveries worsened. In September, Itera told that thermal power stations paid for only 27.4 per cent of the gas supplied.[lvii]
Nevertheless, Timoshenko claims that, due to more cash payments. 178 million dollars has been paid for fresh fuel for nuclear power stations, and half of the gas debt for Turkmenistan has been paid while the debt to Itera has been slashed by more than 40 per cent.[lviii]
Although the energy reform was half hearted and obstructed by many in the energy sector, oligarchs who made their fortunes with energy trade felt threatened and tried to undermine the position of the Yushchenko government and more in particular Yulia Timoshenko. Her husband has been arrested, being accused of embezzlement. Also, the Russian prosecutor opened a case against her involving bribes in dealing with Russian officials. This is noticeable as it happens so many years after the assumed bribing took place (1996). Some argue that Russia is not interested in energy reforms and market oriented reforms in Ukraine as this may allow Ukraine to turn to the West. The argument is that Russia can better deal with a non-reformed Ukraine.
The attempts to reform the energy sector show how deeply rooted vested interests are that profited from the non-reformed energy sector, based on barter trade.
Energy imports
During the 1990s, on average half of domestically consumed energy was imported and between 35 and 50 per cent of imports consisted of energy, mainly delivered by Russia.
During 1991-1994, Ukraine had great difficulties in paying for delivered oil and gas and Ukraine accumulated debts with Russia despite the fact that Russia continued to deliver gas and oil below world market prices and on favourable conditions. Nevertheless, Russia tried to use its leverage and linked energy deliveries to political demands, especially during 1993-1994 when interruptions of energy deliveries led to closures of enterprises and schools. October 1993, the energy crisis had forced the closure of half of Kyiv's industrial enterprises. Through the winter of 1993-4, most public buildings were not heated, most streetlights were turned out and Ukrainian television began operating on a reduced schedule in order to conserve energy. [lix]
In the early 1990s, Ukrainian government put priority in developing coal mining and nuclear power in order to diminish energy dependence.
Ukrainians decided not to give in to Russia's demands and refused, among others, the hand over of a majority stake in the transit gas pipeline. From mid 1994 the situation began to stabilise and Western lending to Ukraine helped Ukraine in paying its energy bill. Especially the USA realised that Ukrainian independence was at stake. In the meantime, Russia enhanced further the price of delivered gas. The average price of Russian gas increased from 45.2 dollars per 1000 cubic metres in 1993 to 80 dollars per 1000 cubic metres in 1996.
Ukraine did not react by reforming the energy sector and despite Western assistance, difficulties arose around securing energy supplies from Russia, although Russia was pressed by the West to be lenient towards Ukraine. Russia accepted barter arrangements that were not always favourable for Russia.
Gazprom accepted in 1994 and 1995 settlement of gas debts worth 1.4 million dollars with the delivery of paper.[lx] Later, gas was delivered in exchange for eleven strategic bombers and food. Payment arrears were accepted.
The fee Russia paid for the transit of Russian gas had declined since 1996 to offset a drop in gas import prices.[lxi] Ukrainian service surplus in 1999 had fallen by more than 50 per cent since 1996.
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Since the advent of president Vladimir Putin, in December 1999, Russia became less lenient towards Ukraine and demanded higher prices for delivered gas. Prompt cash payment was expected. Also, a value added tax was levied on the export of oil and gas (a 30 per cent excise duty on gas, per 1 June 2000). Russia protested against the unauthorised siphoning of gas. Russian vice prime minister Viktor Khryshenko complained about the fact that 'Russia practically subsidises Ukrainian industry'.[lxii]
According to media reports in March 2000, Russia proposed in the negotiations about settling the outstanding gas debts, to offset debts with stakes in strategic Ukrainian enterprises. According to the Eastern Economist, Russian vice prime minister Kasyanov handed over a list with Ukrainian enterprises.[lxiii] In December 2000, this issue surfaced again.
It became more difficult to negotiate a settlement about gas deliveries with Russia. The main negotiator in 2000 was Yulia Timoshenko. United Energy Systems, that she headed in 1995-97, had an outstanding debt with Gazprom worth 334 million dollars. As a minister, Timoshenko tried to settle this debt.
From 1999 onwards, Ukraine siphoned of large quantities of gas destined for Central, Western Europe and Turkey. According to President Kuchma, during the first nine months of 2000, 700 million m3 have been stolen [lxiv] It caused great problems. Altogether, for 1.4 billion dollars worth of gas was siphoned of in 1999.
For example, in 1999, Turkey got 40 per cent less gas from Russia than foreseen. Three big power stations had to stop working and big industrial enterprises had to interrupt production. Turkey protested with the Ukrainian government.[lxv]
At the same time, Ukraine continued to re-export gas. In 1999, 8.5 of Ukraine's exports consisted of fuels. Ukraine Russia protested against this re-export (17 November 2000).
Ukrainian government was unable to prevent the unauthorised siphoning of gas by Naftogaz, despite the fact that Itera, an Ukrainian-Russian joint venture, got the exclusive right to buy gas from Gazprom. Ukraine reached an agreement with Russia that siphoned of gas would automatically be added to the state debt of Ukraine.[lxvi]
Ukraine responded to Russia's demands by trying to diversify gas and oil deliveries. This was difficult because earlier Ukraine failed to pay for gas from Turkmenistan. May 1999 Turkmenistan halted gas deliveries to Ukraine due to non-payment of gas worth 315 million dollars. Mid 2000, President Kuchma secured a gas deal with Turkmenistan, to be delivered through a gas pipeline passing Russia. Under this deal, former gas debts were settled and new gas would be delivered by immediate payment in cash, goods and investment projects, through Naftogaz. (40 per cent in cash, 60 per cent in goods and investments).[lxvii]
In December 2000 it has been agreed in Minsk that in 2001 30 billion cubic metres of gas will be provided by Russia (including gas delivered as transit fee) and another 30 billion cubic metres by Turkmenistan. Turkmenistan is interested in joining the GUUAM group, consisting of a group of CIS states that want to distance from Russia (Georgia, Azerbaizjan, Moldova, Ukraine, Turkmenistan). On the other hand, Russia founded recently the Eurasian Economic Community, consisting of Russia, Belarus, Kazachstan, Kyrgysistan and Tajikistan.
Russia responded to the continuing stealing of gas by Ukraine by proposing a gas pipeline through Belarus, bypassing Ukraine. Re-routing gas supplies to Western Europe through Belarus would deprive Ukraine of transit fees, worth one third of the natural gas consumed by Ukraine. It would it also make easier to cut gas supplies to Ukraine all together. Nowadays this is very difficult given the fact that gas destined for customers in Western Europe has to go through Ukrainian pipelines.
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Ukraine reckons with the co-operation of Poland that is interested in diminished Russian influence in Central Europe. However, also Poland suffered from the stealing of gas by Ukraine, destined for Poland. The European Union expects a doubling of gas imports from Russia and EU firms are involved in plans for a new pipeline through Belarus. The pipeline could be laid within two years. It means that within two years Ukraine could be faced with a loss of transit fee worth 18 billion cu m3 annually.
Hitherto, it seems that Russia has not been able to use its leverage with respect to energy dependence of Ukraine adequately. Ukraine did not concede to Russia's demands with respect to handing over shares in the transit pipeline, improved payments discipline and the Russian wish to acquire major stakes in strategic Ukrainian enterprises. However, it seems that with the new gas pipeline bypassing Ukraine, the Russian leverage may increase significantly.
Ukraine pretends to be at the crossroads of Europe. However, increasingly transporters try to avoid Ukraine. The Odessa-Brody oil pipeline that would connect the Black Sea with Poland was for 85 per cent ready in 1996 but was never finished due to lack of funds. This is another missed opportunity. There appears to be no interest from the side of foreign investors. This makes it more difficult to diversify oil supplies. In 1999, almost all oil imports originated in Russia (8.5 million tonnes) and Kazachstan (1.37 million tonnes). [lxviii]
End 2000, energy reforms are obstructed by the presidential administration, state bureaucracy and major players in the energy market and, moreover, undermined by inconsistent government policies.
Conclusion
During ten years of regular reductions of energy supplies from Russia and continuous shortfalls of energy supplies, especially during winter time, Ukraine has done very little to promote energy conversation measures that could diminish energy dependence significantly and has done very little to reform the energy sector, that could free billions of hryvnas yearly.
The energy reform, embarked upon early 2000, was half hearted and failed to raise significantly collection rates of energy payments. It highlighted bottlenecks in the energy sector and deeply rooted vested interests that block energy reform.
Under President Putin, Russian attitude towards accumulating energy debts of Ukraine and non-authorised siphoning of gas by Ukraine became tougher. Diversification of energy supplies is rendered difficult by the bad payments record of Ukraine. This is making import prices of gas higher. Lack of reform in the energy sector will further undermine Ukrainian sovereignty while giving Russia more economic leverage.
Literature
Bojcun, M. (1999) The Ukrainian economy since independence.
Clover, C. (2000), 'Le Donbass: une йconomie de prйdation', Le courrier des pays de l'Est. Nr 1002, February.
Cornelius,P.K.,Lenain,P. (Eds) (1997) Ukraine: Accelerating the Transition to Market. Washington: IMF.
D'Anieri, P.J. (1999) Economic Interdependence in Ukrainian-Russian Relations. Albany: State University of New York Press.
Hirschhausen, C. von, Lunina, I., Vachnenko, T. (1997) ‘Die Energiewirtschaft der Ukraine - Bestandsaufnahme und Reformbedarf zur Unternehmisierung’, in Hoffman, L. and Siedenberg, A., pp. 144-62.
Hirschhausen, C. von, (1999) ‘Gas Sector Restructuring in Ukraine: Analysis of Import Dependence, Price Formation and Socio-Economic Effects’ in Hoffmann, L. and Siedenberg, A., pp. 391-408.
Hoffman, L. and Siedenberg, A., (1999) Ukraine at the Crossroads. (Berlin: Physica Verlag.
International Monetary Fund (1997), Ukraine - Recent Economic Developments. Staff Country Report, no 97/109.October.
Ukraine u tsifrax u 1999 rotsi. (2000) Kyiv.
Zon, Hans van (2000) ‘The political economy of independent Ukraine’ MacMillan, UK.
Zon, Hans van; Batako, Andre; Kreslavska, Anna (1998), 'Social and Economic Change in Eastern Ukraine - the example of Zaporizhzhya’, Ashgate. UK.
Notes
[i] During the first half of 2000, 50.2 of Ukraine imports consisted of fuels.
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[ii] Households pay a fixed amount for housing services related to the number of persons living in the house and the useful living space. For example, a household, with one adult and one pensioner, that owns a house that formerly belonged to Zaporozhstal in Zaporizhzhya and still profits from its housing services regime, with discount, with 31 square meters useful living space, pays for housing services (tax, electricity, gas, warm water and central heating) 37 hryvnas (approximately 7 dollars) per month. A household with two children, one adult and on top one pensioner with discount, with 66.4 square meters living space, pays 26.5 hryvnas a month for hot water and 38.5 hryvnas for central heating. On top of that 24 hryvnas is paid if 200 kWh electricity is consumer (payments for electricity varies between 24 and 48 hryvnas a month. (December 2000). It means that this family pays for energy between 89 and 113 hryvnas (between 17.8 and 20.5 dollars). It is obvious that in the first case mentioned amount, if paid, can not cover real costs of energy consumption. Still many houses fall under special housing services regimes. In the second case, when energy costs are based on commercial calculations, in most cases families can not pay the full bill.
An average household in the UK consumes 250 cub. m of gas a month, and pays for it 40 pounds, i.e. 58 dollars. Assuming the average consumption per household in Ukraine is also 250 m3, charging 80 dollars per 1000 cubic metres, means 20 dollars per month, i.e. 110 hryvnas.
[iii] Energobiznes, Nr 34-35, 5 September 2000.
[iv] EIU, Ukraine Country Report, October 2000, p. 29
[v] World Development Report 1999/2000, p. 249.
[vi] The Day, 13 June 2000.
[vii] Hirschhausen, C. von, et al, 1997, p. 159. According to the World Bank, the energy intensity of production in Ukraine was in 1995 even 0.2 dollar per kg oil equivalent.
[viii] IMF, 1997, p.11.
[ix] Kyiv Post, 28 March 1999.
[x] Kyiv Post, 18 May 2000.
[xi] IMF, April 1999, p. 19.
[xii] Eastern Economist, 22 May 2000.
[xiii] The Day, 22 February 2000.
[xiv] The system of regionally based gas monopoly rights that Prime Minister Lazarenko created is still in place and protected by President Kuchma. Kuchma vetoed a law that would give rights to the accounting chamber to inspect budget revenues, so protecting the gas traders who suck the Ukrainian economy, giving nothing in return but allowing these traders to transfer huge sums on foreign bank accounts.(Financial Times, 27 October 2000)
[xv] d'Anieri, 1999, p. 73.
[xvi] Eastern Economist, 24 February 2000.
[xvii] Subsidies to coal mining amounted in 1992 to 2.29 per cent of GDP, in 1993 3.36 per cent of GDP, in 1994 3.02 per cent, in 1995 0.66 per cent, in 1996 1.55 per cent, in 1997 2.01 per cent (Zerkalo Nedeli, 6 February 1999).
[xviii] Kyiv Post, 28 March 1999.
[xix] BBC/SWB, 5 January 1999.
[xx] Hirschhausen, C. von, et al, 1997, p. 155.
[xxi] Kyiv Post, 30 December 1998.
[xxii] According to P. McInally, coal mining engineer working as consultant for TACIS in Donetsk. 30 January 1999.
[xxiii] According to a report of the European Investment Bank, The Guardian, 17 February 1999. According to Kyiv Post 6 April 1999, 18 per cent of industrial enterprises pay their energy bill in cash. Only half of the delivered energy remained unpaid. According to BBC/SWB, FSU, 26 March 1999, during January-February 1999 power stations paid only 1.6 per cent of the value of coal consumed.
[xxiv] In 1996, residential natural gas prices were at 77 per cent of international prices, residential coal prices at 85 per cent and industrial coal prices at 93 per cent (World Bank, 1996, Ukraine - The Real Economy and its Sectors; Kyiv).
[xxv] BBC/SWB, FSU, 12 March 1999.
[xxvi] Radio Free Europe, 3 June 1998.
[xxvii] Golos Ukrainy, 11 February 2000
[xxviii] Clover, C.,2000, p. 29.
[xxix] Zerkalo Nedeli, 12 June 2000.
[xxx] Hirschhausen, C. von, 1999, p. 404.
[xxxi] Zerkalo Nedeli, 8 May 1999.
[xxxii] EIU, Ukraine country report 1999, 4th quarter.
[xxxiii] Bojcun, M. 1999.
[xxxiv] The Day, 13 June 2000.
[xxxv] Eastern Economist, 12 June 2000.
[xxxvi] Kyiv Post, 17 February 2000.
[xxxvii] Zerkalo Nedeli, 4 November 2000.
[xxxviii] The Day, 22 February 2000.
[xxxix] Kyiv Post, 22 June 2000.
[xl] Radio Free Europe, 29 April 1998.
[xli] Zerkalo Nedeli, 4 Augustus 2000.
[xlii] Kyiv Post, 1 November 2000.
[xliii] The Day, 17 October 2000.
[xliv] Zerkalo Nedeli, 14 October 2000.
[xlv] Kyiv Post, 22 November 2000.
[xlvi] BBC, 3 November 2000.
[xlvii] Kyiv Post, 6 November 2000.
[xlviii] Kyiv Post, November 2000.
[xlix] Kyiv Post, 16 October 2000.
[l] Zerkalo Nedeli, 9 December 2000.
[li] Zerkalo Nedeli, 20 May 2000.
[lii] Radio Free Europe, 11 October 2000.
[liii] EIU, Country Report Ukraine, October 2000, p. 26.
[liv] The Day, 17 October 2000.
[lv] Kyiv Post, 11 September 2000.
[lvi] Zerkalo Nedeli, 10 June 2000.
[lvii] Kyiv Post, 2 October 2000.
[lviii] Kyiv Post, 16 October 2000.
[lix] D'Anieri, 1999, p. 80.
[lx] Kyiv Post, 17 November 2000.
[lxi] EIU, Country Report Ukraine, October 2000, p. 31.
[lxii] Eastern Economist, 6 June 2000.
[lxiii] Eastern Economist, 24 February 2000.
[lxiv] Radio Free Europe, 12 October 2000.
[lxv] Zerkalo Nedeli, 14 October 2000.
[lxvi] The Day, 21 November 2000.
[lxvii] Kyiv Post, 4 October 2000.
[lxviii] Zerkalo Nedeli, 14 October 2000.
Hans van Zon
School of Humanities and Social Sciences
University of Sunderland, UK
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