MUNICIPAL HEATING SITUATION IN UKRAINE STILL CRITICAL

UNCLAS SECTION 01 OF 03 KYIV 000993

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TAGS: ENRG EPET ECON UP
SUBJECT: MUNICIPAL HEATING SITUATION IN UKRAINE STILL CRITICAL

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Treat as Sensitive but Unclassified. Not for Internet.


1. (U) Summary: Many GOU agencies and international development
organizations agree on the urgency of improving reliability and
efficiency in the municipal heating and combined heat and power
(CHP) sector, which accounts for about 16% of Ukraine's total
natural gas consumption. Despite the clear need to modernize a
sector where Soviet-era equipment is the rule, the GOU has long
ignored this task, claiming it lacked the funds to take it on. End
summary.

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Alchevsk - Lessons Not Learned
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2. (U) The most striking illustration of the problems of the
Ukrainian heating sector was provided by the southeastern city of
Alchevsk. In January 2006, Alchevsk experienced the worst heat
supply system shortage in Ukraine since the breakup of the Soviet
Union. The 2006 winter was one of the harshest in recent memory, as
outdoor temperatures plunged to -35 C (-31 F). Due to multiple pipe
breakages during the severe cold, 8 schools, 13 preschools, and
apartment buildings that housed 67,000 people were cut off from
heat. Many of the 120,000 inhabitants had to be relocated to other
cities. It took more than a month to restore heat, and a thorough
modernization has not yet been completed.


3. (U) The crisis in Alchevsk revealed several problems endemic in
Ukraine:

-- The heating infrastructure was in a poor state of repair.
Ukrainian energy experts stated the crisis could have been
prevented, if the GOU had taken seriously warning signs that had
been apparent for more than 15 years.

-- The centralized nature of the municipal heating system
exacerbated the situation. Two, enormous, Soviet-built boilers
serviced all of Alchevsk, and when access to both failed, it
affected the entire city.

-- Local leaders were not prepared to respond to the crisis. Rather
than seeking central government assistance, they hoped to resolve
the situation on their own, and kept Kyiv uninformed.

-- Even once the Minister of Emergencies was involved, authorities
were unable to restore heat without the help of an international
relief effort, including a Russian-donated boiler.


4. (SBU) Although, the Alchevsk crisis triggered discussions on the
necessity of reforms in this sector, almost no tangible
accomplishments have been achieved so far. The State 2007 Budget
allocated 4 billion UAH for the communal services sector including
district heating, but these funds will be made available to local
budgets only on the condition of project co-financing and the
introduction of energy-saving technologies in the housing and
communal services arena. The mild 2006-2007 winter both lessened
the GOU's sense of urgency and averted a repeat of the crisis.
During a March, 2007, visit by a US Agency for International
Development (USAID) multi-donor municipal heating modernization
assessment team, several government officials and energy experts
admitted that the next severe winter could easily produce another
Alchevsk. They also conceded that there were no viable plans
underway to address this risk.

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Soviet-Era Heating Equipment and Housing
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5. (U) The majority of Ukrainian municipalities receive heat from
one or more Soviet-era heating systems. Due to high costs, only a
few municipalities have tried to replace this obsolete equipment.
Rather than replacing the old systems with new ones, other
municipalities have attempted to repair and modernize the existing
systems, sometimes by using substandard materials and equipment.
(Note: In 2006, 1649 boilers throughout Ukraine were replaced, or
about 5 % of the total number of boilers; 663 boilers were repaired
or about 2%.) The first priority of all levels of Ukrainian
government has been to keep utility rates low, rather than raise
them in order to finance proper upkeep and replacement.
Disappointed by unreliable services, some apartment building
residents, especially those in smaller cities, have installed
individual heating systems in their apartments. If the number of
such cases grows, it may undermine the viability of municipal
heating companies in the future. In fact, a few cities have
completely replaced district heating with individual boilers and

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shut down their district heating facilities. The hard reality,
however, is that few apartment buildings can be fitted with
individual boilers, so for now the dependence upon municipal heating
remains high.


6. (U) Ukraine's poor heating infrastructure is not only unreliable,
but is also inefficient. Experts estimate that the 30 year-old and
older rusted pipes, covered in tape, lose up to 30% of the heat they
are meant to carry. Municipalities have tried to replace extremely
worn-out pipes, but such replacements can take years due to lack of
financing. Moreover, inadequate housing insulation and low-quality
construction materials, coupled with almost no regular maintenance,
compounded this inefficiency.

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Uncertain Gas Prices
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7. (SBU). Rising natural gas prices add urgency to Ukraine's need
for improved energy efficiency in the heating sector, which depends
on imported rather than domestically produced gas. Gas Ukraine's
Head of Natural Gas Sales Department Yuri Kardash told us that 100%
of the gas used to fuel district heating plants is imported.
Ukraine currently pays $130 per thousand cubic meters (tcm) for
imported gas, and expects the price to increase to more than $180
per tcm in 2008, according to Kardash. Although determined to keep
this price low, Minister of Fuel and Energy Yuriy Boiko, noting that
Poland currently pays $300/tcm for imported gas, has acknowledged
that Ukraine might only enjoy favored pricing over the short term.


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Present Situation Offers No Solutions
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8. (SBU) Local, regional, and national officials we spoke with in
March agreed that the GOU lacked remedies for the problems of the
heating sector. Local officials told us their budgets were
inadequate to fund major investments. National subsidies to local
budgets were not targeted exclusively on energy investment and were,
in any event, scarce and distributed unevenly from oblast to oblast.
(Comment: From our observations, the oblasts that were less
dependent on central government budget subsidies seemed more likely
to take the initiative in revising utility rates and implement
reforms. Those which relied heavily on such subsidies appeared to
be awaiting direction from the center. End Comment.)


9. (U) According to these officials, the district heating companies
were not in a position to finance investment themselves; most were
in poor financial condition. Many were in debt to the energy
companies, just as their own customers were in arrears on their
heating bills. Although many cities reached collection levels of
90-100% before the current winter, rate increases necessitated by
the gas price spike resulted in collections as low as 30% in some
cities, and even the best cities dropped to 70%. Nonpayment was
accelerated this winter when some national political leaders
challenged those cities with cost-recovery rates to justify the new
rate levels, and told consumers not to pay their bills. As a result,
some cities were compelled to roll back their rates to
below-recovery levels. The issue became highly politicized, and the
central government had not set a clear nationally unified rates
policy.



10. (U) Some GOU entities, including local and oblast governments
have sought help from donors such as the World Bank (WB) and the
European Bank for Reconstruction and Development (EBRD). USAID has
brought government officials and donors together, and itself has
considered offering technical assistance to improving municipal
energy efficiency. Donors' goals for Ukraine's heating sector
include helping it become financially viable, adjust to rising gas
prices, tackle the problem of debt within the system, and assist low
income households in paying higher costs.

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Metering and Energy Accountability
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11. (U) The USAID assessment team noted that an effective way of
improving energy efficiency would be the installation of proper
metering and regulating systems for consumers of heat and other
utilities. It would also require significant adjustments to the
regulatory and legal framework for effective meter usage. Although
all Ukrainian households are equipped with electricity meters, only
60% have gas meters, some have water meters and almost none have

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heat meters. EU Commission Energy Efficiency Project Manager for
Ukraine, David Ceschia, pointed to Poland and Romania as examples of
European nations which had benefited greatly through programs to
improve metering. By forcing individuals to take fiscal
responsibility for their own heat usage, the programs had
significantly lowered overall consumption, he said.


12. (U) A few cities and oblasts have, however, actually taken steps
on their own to increase energy efficiency. USAID assessment team
leader, Ira Birnbaum noted that leaders in Ivano-Frankivsk oblast
and the city of Lviv, both in western Ukraine, had supported the
creation of condominium associations that transfer the
responsibility for building maintenance and improvements to the
owners instead of the municipalities. Leaders from these western
areas have reported greater energy efficiency as condo owners took
more responsibility for their buildings. Even though local leaders
in Lviv have had some energy efficiency success, they acknowledged
that they still have many areas to improve, and they also underlined
the real urgency for implementing change in the municipal heating
sector immediately.

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Comment: Consensus, But Little Action
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13. (SBU) Even though the GOU readily acknowledges the need to
reform the municipal heating sector, signs of progress are few. To
try to address this long-term inactivity, USAID plans to encourage
the formation of a regular roundtable of Ukrainian officials and
international donors in order to begin implementing municipal
heating development programs as soon as possible. Without
multilevel governmental and legislative support from Ukraine for
such international projects, it is doubtful that the current
municipal heating sector could become reliable, let alone
efficient.
TAYLOR