UKRAINE: ENERGY MINISTERS ON NEW GOVERNMENT'S

C O N F I D E N T I A L SECTION 01 OF 04 KIEV 003128

SIPDIS

SIPDIS

DOE FOR LEKIMOFF, CCALIENDO

E.O. 12958: DECL: 08/11/2016
TAGS: EPET ENRG PREL PGOV PBIO RS TX UP
SUBJECT: UKRAINE: ENERGY MINISTERS ON NEW GOVERNMENT'S
PLANS FOR GAS TRADE, PIPELINES, AND NUCLEAR ISSUES


Classified By: ADCM Michelle Logsdon; Reasons 1.4 (b) and (d)


1. (C) Summary. In August 10 meetings with Ambassador,
Deputy Prime Minister Andriy Kluyev and Minister of Fuels and
Energy Yuriy Boyko made clear that the new GOU was determined
to reach a good outcome in dealings with Russia and
Turkmenistan on natural gas supplies. Boyko was confident
that Ukraine would be able secure such an outcome through
"strategic cooperation" with Gazprom. Kluyev was short on
details but promised transparency in any future dealings,
while Boyko was unapologetic about the January 4 deal and the
role it accorded RosUkrEnergo (RUE). RUE's task, Boyko said,
remains to supply Ukraine with sub-$100/tcm gas, apparently
by any means possible. Neither official expressed a
preference on what form a potential International Gas
Consortium would take, though Kluyev hinted that the
Consortium's might include activity within Russia. Both
Kluyev and Boyko said economic and commercial factors should
determine the future of the Odesa-Brody pipeline. Both
supported Holtec's project to build the Central Spent Nuclear
Fuel Storage Facility and said they would urge Rada approval
of the building site. Kluyev hoped for a quick and
definitive resolution from the EBRD's investigation of the
flawed Chornobyl Shelter tender. End Summary.


2. (SBU) In separate meetings on August 10, Ambassador
discussed the new GOU's approach to energy issues with Deputy
Prime Minster Andriy Kluyev, and with Minister of Fuel and
Energy Yuriy Boyko (former head of Ukraine's oil and gas
monopoly, Naftohaz). Kluyev noted he was responsible for
Ukraine's real economy sectors, to include the Ministries of
Agriculture, Industrial Policy, Energy, Coal, Emergencies,
and Environment. Boyko was accompanied by his colleague from
the tiny Republican Party -- Ukraine's former Ambassador to
the U.S. Konstantin Hryshchenko, who, Boyko said, would soon
be heading up a Ukrainian think tank.

The Gas Deal
--------------


3. (C) Ambassador asked both Kluyev and Boyko for their
thoughts on the prospects of revising the notoriously
non-transparent January 4 gas deal. The U.S., Ambassador
said, would support efforts to revise the deal in order to
make it more transparent and to enhance Ukraine's energy
security. DPM Kluyev said his office was still reviewing all
the documents, and while it was too early to make a final
decision, the GOU had a path forward and would find a way to
ensure a stable gas supply for Ukraine and stable gas transit
system to Europe. (Note: Kluyev did not share details on this
path forward. End Note) Next week, Kluyev said, Ukraine
would begin bilateral consultations with Russia and
Turkmenistan on 2007 gas supply. Kluyev vowed that
transparency would be a primary condition for any future
deal, since he knew the prestige of Ukraine was at stake.
(Note: These points on transparency were repeated in a press
release on the meeting issued by Kluyev's office August 10.
End Note.)


4. (C) Minister Boyko (along with Kluyev a key architect of
the 2004 gas contract that had guaranteed Ukraine the right
to buy Russian gas at $50/tcm for six years) laid out the
history of energy middleman RosUkrEnergo (RUE). RUE, Boyko
explained, was Ukraine's way out of the situation created in
April 2003 when Turkmenbashi signed a contract to sell all
Turkmen natural gas to GazProm. At the time, this implied an
end to direct Ukrainian purchases of Turkmen gas. Ukrainian
president Kuchma tasked then NaftoHaz Chairman Boyko to
secure Ukraine's gas supplies. The solution, Boyko found,
was to create a Ukrainian-Russian joint venture -- RUE. A
key component of the deal was to finance an expansion of
pipeline capacity in Uzbekistan and Kazakhstan to increase
Turkmen gas exports to Russia. RUE partner Dmytro Firtash
took care of these finances, Boyko said. Russia, in turn,
agreed to in-kind payments of cheap Turkmen gas to Ukraine in
return for transit of its gas exports to Europe.
RosUkrEnergo, for its efforts, would be able to recoup its
financing of the Central Asia-Center pipeline expansion by
then re-exporting some of this Turkmen gas from Ukraine.


5. (C) The situation was more difficult now, Boyko said.
Turkmenistan's President Niyazov wanted $100 per thousand
cubic meters (tcm) at his border. Adding transit costs, the
price would be $150/tcm at the Ukrainian-Russian border. At
present, Ukrainian law prohibited gas supplier to sell to
industrial consumers at prices more than $110/tcm. The
chemical industry would come to a standstill if the price
went higher than $120/tcm, Boyko claimed, while the metals

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industry could survive with a price no greater than
$190-200/tcm. Boyko said the GOU was talking to RUE and to
Turkmenistan on how to address this issue. "RUE's job,"
Boyko said, "is to deliver gas to Ukraine at less than
$100/tcm; I don't care how they do it." He explained that
RUE's gas sales to European customers would make this
possible.


6. (C) Ambassador pointed out that having European customers
essentially subsidize Ukrainian energy consumption was not
sustainable. The GOU should be trying to move the country
gradually to world prices. Boyko agreed that the current
solution had to be temporary, but countered that the GOU's
task was to purchase gas at the lowest price possible. As he
had told Gazprom, Ukraine would need two or three years
(which Boyko later in the meeting lengthened to three to four
years) to adjust. When Ambassador asked if Gazprom had
agreed to this time frame, Boyko said "we will be able to
find a compromise through our strategic cooperation." When
asked what this cooperation would entail, Hryshchenko piped
in that it was too early to discuss such matters. The new
GOU had been in office less than a week, Hryshchenko said,
and the answer to this question would be much clearer once PM
Yanukovych returned from his meetings in Moscow the following
week.

International Gas Consortium
--------------


7. (C) Kluyev expressed no preference on what form a
possible International Gas Consortium (IGC) would take. The
ruling coalition would first consult and pass any consortium
concept to the Rada for approval. Kluyev said that the views
of Yushchenko's Our Ukraine, which originally opposed the
IGC, would also matter if, as he expected, the party joined
the ruling coalition in September. In principle, Kluyev said
he supported a consortium that included companies involved in
gas supply and consumption, but said he would perhaps expand
the consortium's activities to include Southwestern Russia.


8. (C) Comment: Boyko did not mention the IGC, but his
allusion to "strategic cooperation" with Gazprom could be a
hint that the GOU would make tradeoffs in order to achieve
its objective of cheap gas. One such tradeoff could be some
measure of Russian participation in management of future or
existing Ukrainian pipelines. Another possibility is
Kluyev's reference to possible Ukrainian involvement in
Russian production. Kluyev may have been referring to
Astrakhan, located on the edge of the Caspian Sea on the
Volga river delta. In May 2006 press reports indicated
Dmytro Firtash's RUE had purchased a 74.87% stake in
Astrakhan Oil and Gas Company. Astrakhan government
officials confirmed the deal, while Firtash denied it.
Astrakhan Oil and Gas Company has estimated reserves of 220
bcm of gas and 20 million tons of oil. End Comment.

Energy Advisors
--------------


9. (C) Ambassador noted that the USG had funded advisors to
work with the past two governments on energy matters, and
inquired whether the GOU would be interested in continuing to
receive this advice. Both Kluyev and Boyko said the GOU
still needed to discuss this issue, but noted they had worked
with one of the experts in the past. Boyko agreed to meet
with the advisors when they were next in Kiev September 5 -

9. Kluyev merely noted that the advisors had his phone
number.

Off-Shore Tenders
--------------


10. (C) Kluyev did not comment on whether there would be
additional tenders for off-shore oil and gas exploration,
saying his office had not yet looked into this topic. He
acknowledged the importance of passing Production Sharing
Agreement (PSA) legislation that would enable American
company Vanco, which had won the March off-shore exploration
tender, to begin drilling. The legislation would also apply
to other companies working onshore or offshore in the
extractive sectors. Kluyev expected the new Rada would pass
the necessary legislation this fall. Ambassador noted that
USG was providing a PSA consultant to review existing
legislation and draft new implementing legislation, and
offered additional technical assistance if needed. Kluyev
replied that most of the work was already done, though if a
consultant had some good ideas, the GOU would of course
consider them.

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11. (C) When Ambassador raised the question of PSA
legislation with Boyko, the Minister responded that he would
meet with Vanco and explain what potential problems they may
face. Although Boyko did not elaborate on what these
problems might include, Hryshchenko quickly interjected that
the biggest challenge would be getting the PSA legislation
through the Rada. Boyko said he would order his deputy
minister (and former Ambassador to Turkmenistan) Vadim
Chupron to help Vanco as the company's designated "curator."


Odesa-Brody
--------------


12. (C) Kluyev said there was too much talk about the
Odesa-Brody pipeline; action was needed either to build its
extension into Poland or to accept that its operation in the
northern direction was not operationally feasible. Kluyev
stated that Odesa-Brody's future should be based on its
commercial prospects, noting that when politicians got
involved in building projects the results were "stillborn
babies." There was a normal, commercial way to go about
developing pipeline projects; simply putting a pipe in the
ground for the sake of supply diversification was not a
serious approach, Kluyev said. Kluyev continued that in
April 2004 Ukraine and Poland had signed an agreement to
extend the pipeline into Poland, but nothing had been done
since. The GOU would consult with participant suppliers and
consumers and then make a decision on the pipeline and its
direction, Kluyev said.


13. (C) When asked about Odesa-Brody's future, Boyko
digressed into the past, claiming that the 2004 reversal to
ship Russian oil south rather than Caspian oil north to
Europe was a technical step to keep the pipeline from
deteriorating. He echoed Kluyev's view that the key
uncertainty concerned extending the pipeline across Poland.
He said he thought there was still great interest both in
Poland and on the part of Chevron and even BP-TNK to use the
pipeline, and that north-bound shipments of oil through the
pipeline now made economic sense. (Comment: Although Boyko
is thought to have been the key player in executing the 2004
pipeline reversal, he does not seem to have had recent
dealings on this issue. He conceded that his conversations
with the Poles, Chevron, and BP took place two years ago. End
Comment.)

Nuclear Issues
--------------


14. (C) Kluyev said he was well acquainted with Holtec, the
company selected to build a central spent nuclear fuel
storage facility, having met with them in the past. He said
he would support their project and urge the Rada to approve
the storage facility's building site during the Rada's
September session. Kluyev was also aware of Holtec's work to
complete the Chornobyl Interim Spent Nuclear Fuel Storage
Facility. Boyko said he had a high opinion of Holtec and
agreed to meet with the company on the building site issue.


15. (C) Neither Kluyev nor Boyko appeared aware of the
non-proliferation program which the U.S. funds through the
IAEA to remove highly enriched uranium from the Sevastopol
University for Nuclear Energy and Industry for return to
Russia for storage. (Note: CabMin approval of the shipment
of uranium to Russia is required.) DPM Kluyev pledged to
look into this project, while Boyko's associate Hryshchenko
claimed it was not an issue for the Minister of Fuels and
Energy.


16. (C) Kluyev shared his opinion that the Chornobyl Shelter
tender had not been conducted according to the tender's
rules, and noted that information on the tender process was
in his office at the Cabinet of Ministers. (Note: U.S.
company CH2M Hill filed a formal complaint about tender
improprieties and EBRD has been investigating the matter.
The first meeting of the committee investigating this issue
was held on August 10. End Note.) Kluyev hoped the project
would begin as quickly as possible following the successful
resolution of the EBRD investigation.

Bio Notes and Comment
--------------


17. (C) With the appointments of Boyko and Kluyev, the
Yanukovych government seems to be trying to recreate the
Kuchma-era style of managing energy issues -- through

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personal relationships in the former Soviet Union and
back-room deals. Kluyev is returning to a position he held
from 2003-2004 under Kuchma, though now with a slightly wider
portfolio including agriculture. Beginning in 2005 he was
head of the Rada's Fuels and Energy Committee. In our
meeting Kluyev's manner was at times curt and brusque, just
as he was in a meeting three weeks ago. Gone apparently was
the contriteness and introspection seen from post-Orange
Revolution, oppositionist Kluyev. Kluyev's manner today
seemed to project that he was back in charge and moving ahead
with his plans; and, as for what those plans were, he would
reveal on his terms and at his time.


18. (C) Under Kuchma, Boyko was one of the
architect-proponents of the 2002 International Gas
Consortium, the 2004 Odesa-Brody reversal, and the founding
of RosUkrEnergo. Gazprom has put the International Gas
Consortium back on the table in recent months, suggesting
Ukraine could get cheaper gas prices if it agreed to creation
of the consortium.


19. (C) Early August press reports recall that Boyko managed
NaftoHaz from January 2002 - March 2005 with the
non-transparency characteristic of "developed Kuchmism." At
that time he maintained good relationships with Gazprom and
Turkmenistan's President Niyazov, for whom he translated
Niyazov's book of spiritual musings, the Rukhnama, into
Ukrainian. Kuchma awarded Boyko in 2004 the Hero of Ukraine
medal for negotiating a profitable gas deal with Turkmenistan
that gave Ukraine Turkmen gas for $44/tcm. If Boyko has
maintained his friendships over the past 18 months, another
Turkmen gas deal again may be in the works. Based on past
experience, any Boyko-bartered deal could well be creative
but non-transparent.
Gwaltney