UKRAINE: SENATOR LUGAR HEARS THAT ENERGY ISSUES

C O N F I D E N T I A L KYIV 000194

SIPDIS

SIPDIS

E.O. 12958: DECL: 01/25/2017
TAGS: PREL ENRG ECON PGOV UP
SUBJECT: UKRAINE: SENATOR LUGAR HEARS THAT ENERGY ISSUES
HIGH ON NEW GOVERNMENT'S AGENDA


Classified By: Ambassador for reasons 1.4(a,b,d).


1. (C) Summary: In Kyiv meetings with Senator Richard Lugar
(R-IN) January 15-16, President Yushchenko, PM Tymoshenko,
opposition representatives and local business leaders all
discussed the importance of energy issues for Ukraine.
President Yushchenko talked in detail about ways to transport
Central Asian and Azeri oil and gas to Europe via Ukraine and
the importance of energy diversification in other areas. He
urged the USG to send a senior-level official to participate
in a May 22-23 energy summit in Kyiv. In her meeting, PM
Tymoshenko focused more on the political aspects of energy
policy, expressing concern about dependence on one source
(Russia) and the existence of "shadow deals" regarding energy
supplies. The opposition noted the importance of keeping the
flow of Russian gas through Ukraine at a high rate, and local
business leaders working in the energy field stressed the
existence of both opportunities and challenges in Ukraine's
energy market. Senator Lugar's discussions on NATO and the
U.S. biological threat reduction program were reported
septels.

President Focuses on Energy Details
--------------


2. (C) In his meeting with Senator Lugar, President
Yushchenko said that it was important for energy to be on
Ukraine's agenda with the U.S. and that Ukraine was ready to
work with us. In March, Ukraine would deliver oil by rail
and then through the Druzhba pipeline (and by rail) to the
Czech Republic. U.S. companies could play an important role
in transporting oil to Slovakia via Ukraine. On January 14,
Yushchenko and the Slovak President had agreed to a test in
February to send 20,000 tons of oil to Slovakia. (Embassy
Note: Post has seen an announcement of this test. However,
we do not know if any batching equipment, which we believe
would be necessary for such a test shipment, has been
installed in the pipeline. End Note.) Ukraine had reached
agreement with Poland to transport oil via a to-be-built
pipeline from Brody and was ready to negotiate with U.S.
private companies to encourage the transport of Caspian oil
via this route. He anticipated 10-11 million tons of oil
from the Ukrainian side to use this pipeline; and by the end
of the year, Odesa-Brody,s capacity would be up to 20
million tons. (Embassy Note: Yushchenko's meaning about the
Ukrainian contribution was not clear, although most likely he
was referring to proposals to adapt two refineries in western
Ukraine to process Caspian crude. End note.) The Ukrainians
wanted to expand this route in concert with U.S. partners,
and Yushchenko stressed that this was a very sensitive and
important issue for Ukraine. Yushchenko noted that
negotiations would take place in April/May to reverse the
direction of the Odesa-Brody pipeline. He also urged senior
U.S. officials to attend the upcoming energy summit May 22-23
in Kyiv in order to discuss possible transit options and the
Odesa-Brody pipeline. Senator Lugar responded that he had
just been in Kazakhstan, Turkmenistan and Azerbaijan and that
there was great interest in these countries to find oil and
gas routes to Europe via Ukraine.


3. (C) Yushchenko said that Ukraine was very interested in
finding ways to help transport Central Asian and Azeri oil
and gas to Europe, and that he would ask for U.S. support to
organize the process. Yushchenko argued that there was no
doubt regarding the reliability of Ukraine as a transit
country -- "we have a unique system of transport and we are
willing to modernize it." However, politics, namely Russia,
was a major factor and this made it hard to protect Ukraine's
independence. According to Yushchenko, Russia wanted to
disrupt the route through Ukraine by questioning the
reliability of the system. However, Ukraine's system was as
"reliable as any Russian system," and the President noted
that all of Russia's pipeline and compressors were
Ukrainian-built, and 60% were serviced by Ukrainians. Russia
had monopolized Central Asian gas; Central Asia's interest in
transporting gas via Ukraine to Europe was a key issue for
Kyiv. Otherwise, Central Asian gas would end up going to
China, India and Afghanistan, which was not good for Europe.
Russia was offering alternatives to Ukraine's transport
system and "we want to minimize Russia's role." With regard
to Azerbaijan and Georgia, Yushchenko asked for U.S. support
to ensure that Ukraine could be a short cut to Europe. Lugar
responded that these countries wanted to see Ukraine as an
alternative, but that they feared Russia's and in some cases
Iran's reaction. Turkmenistan's new President was open to
cooperation with the U.S. and others, but it would be a real
leap. Yushchenko acknowledged that Russia dominated this
policy, but that plans to send Caspian gas via the Black Sea
to Italy were vague and therefore, Ukraine would have to
continue to struggle.



4. (C) With regard to nuclear energy, Yushchenko expressed
interest in working with U.S. companies on mining and
processing uranium. He referred to recent Ukrainian
decisions regarding the creation of a spent nuclear fuel
depot and power generation. Re Chernobyl, he said that there
would be a review of operations during the first six months
of 2008 and noted that additional technical assistance would
be needed. Construction of a new sarcophagus would begin in
April/May and plans were underway regarding the storage of
dry nuclear (waste) spent fuel (Holtec). Lugar pledged to
work with Ukraine on nuclear facilities and Chernobyl, and
also noted that U.S. firms were ready to work with Ukraine on
the disposition of spent nuclear fuel. He expressed
appreciation for all of Ukraine's work under the Nunn-Lugar
program and said that the next phase of more sophisticated
work -- the disposition of nuclear fuel -- was about to
begin. Lugar emphasized that the U.S. would continue to be a
good partner. Yushchenko said that Ukraine had "big
prospects" in the nuclear area with regard to the
construction of new power units, the processing and enriching
of ore and fuel supplies. Ukraine's best cooperation in this
area was with the U.S. Two new power plants would start
(construction) next year.

PM's Emphasis is on Energy Independence
--------------


5. (C) After Senator Lugar described his discussions in
Georgia, Azerbaijan, Kazakhstan and Turkmenistan about the
importance of alternative energy sources, the PM noted
Ukraine's difficult situation of being dependent on one major
source of energy -- Russia. She said that in her view,
energy independence equaled political independence and her
government was committed to finding ways to make energy
security more reliable, including by removing
"non-transparent" methods of gas supply. According to the
PM, the previous government had "destroyed" Ukraine's
relationship with Turkmenistan and, in principle, had no
arrangements in place at all with Kazakhstan and Uzbekistan.
She believed that the project to supply Turkmen gas through
the Caspian to Ukraine and on to European consumers was a
good project that deserved U.S. support. It was also
important to modify existing laws regarding exploration in
order to attract foreign investment.


6. (C) Energy conservation was also an absolute priority,
according to Tymoshenko. In addition, Ukraine needed to
focus on the development of its own plentiful source -- coal
-- and the diversification of nuclear fuel supplies. The PM
said that the orange coalition was committed to "breaking the
artificial shadow dealings in the energy field." Time was
needed to do this, but all the coalition members believed
that this was important. Tymoshenko said that small steps
would be taken first, but that Ukraine shared the U.S.
concerns about the effect of energy supplies on foreign
policy issues, economic growth and the agricultural sector.

Opposition Focus on Maintaining Russian Transit Levels
-------------- --------------


7. (C) During a meeting with opposition shadow foreign
minister Konstantine Gryshchenko, Lugar noted that during
previous visits to Kazakhstan, Turkmenistan, Georgia and
Armenia, he had stressed that each country should focus on a
more balanced energy portfolio. The aim was not to interrupt
the energy relations with Russia, but provide alternative
sources and transmission conduits. He noted that these
countries saw these decisions in the context of their
relations with Russia and Iran and wanted a sense of level of
support from US. Gryshchenko noted that during the tenure of
the previous government, the U.S. company Vanco had received
substantial piece of shelf for exploration and development in
the Black Sea and that Marathon oil was in a joint venture
for energy exploration in eastern Ukraine. He also
underlined that the Nuclear Fuel Qualification Project with
Westinghouse would provide an alternative nuclear fuel source.


8. (C) Gryshchenko mentioned the importance of keeping the
transshipment of Russian-origin gas through Ukrainian
pipelines to the EU. Currently 80% of Russian gas came
through Ukraine; he wanted to keep that level. In
Gryshchenko's view, it was important to have open dialogue
with Moscow and to ensure that pipelines were maintained and
upgraded. Access to and shipment of Iranian gas via Ukraine
was a future issue. Gryshchenko also noted the need to work
on coal extraction and reducing dangerous methane levels in
the mines. Lugar agreed that it was important to keep
Ukraine's pipelines maintained. Some in the EU (Germany)
were looking for direct access to Russian gas. The U.S. was

also looking to nuclear energy with smaller, safer plants.
Spent nuclear fuel would be an issue for both the U.S. and
Ukraine. Lugar suggested that Ukraine as an agricultural
country could also benefit from new developments in biofuel
technology.

Business Sees Potential, but also Challenges
--------------


9. (SBU) During a meeting with Senator Lugar and his
delegation, U.S. and international businesses working in
Ukraine with a focus on energy issues said they saw good
potential in Ukraine, but stated Ukraine remained a very
difficult environment for business, primarily because of
corruption. Michael Bleyzer of the investment firm
SigmaBleyzer noted concerns about increasing lack of fiscal
discipline in the Government. Oil and gas companies said
there is a clear need for international expertise, and this
is recognized on the technical level by Ukrainian industry,
since most of the easy-to-get hydrocarbons are gone, and
remaining reserves are more challenging. However, the senior
management of the Ukrainian oil and gas industry is very
politicized, which impedes investment. Legal structure is a
problem for oil and gas development; several noted that
Ukraine has legal vehicles that might work, but the
Ukrainians often do not use them. Given how long it takes to
develop oil and gas resources, Ukraine needs to move quickly
if it is to address energy diversification, but this is not
happening. Ukraine's nuclear sector has opportunities for
diversification via fuel supply and storage of spent fuel,
but the Government needs to seize these chances soon, or they
may not reappear.


10. (SBU) In general, the business representatives felt
private interests continued to impede progress on national
priorities, and many government leaders, fear of losing
control was getting in the way of allowing foreigners in,
including via privatizations, to help develop a number of
sectors.


11. (U) Senator Lugar did not have the opportunity to clear
this cable prior to departing Kyiv.


12. (U) Visit Embassy Kyiv's classified website:
www.state.sgov.gov/p/eur/kiev.
Taylor