UKRAINE: BOIKO DISCUSSES YANUKOVYCH'S ENERGY

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E.O. 12958: DECL: 02/25/2020
TAGS: ENRG ENRL UP RU
SUBJECT: UKRAINE: BOIKO DISCUSSES YANUKOVYCH'S ENERGY
PRIORITIES

Classified By: Ambassador John F. Tefft for Reasons 1.4 (b) and (d).


1. (C) Summary. In an introductory call with the Ambassador
on February 23, Yuriy Boiko, a leading energy player in the
Party of Regions, said that Yanukovych would be focused on
reducing Ukrainian dependence on Russian gas imports,
securing a better gas contract with Gazprom, and establishing
a gas transit consortium with Russian and European partners.
Boiko also addressed, limitedly, the need for domestic energy
price reform and underlined that Ukraine must improve its
investment climate to develop its oil and gas fields. Boiko,
formerly Minister of Fuel and Energy, Chairman of Naftohaz,
and one of the founders of RosUkrEnergo, will likely play a
key role in energy policy under a new government. His, and
Regions' generally, commitment to transparency and reform in
the energy sector remains to be seen. End summary.

Reduce Dependence on Russian Gas Imports
--------------


2. (C) Yuriy Boiko, former Minister of Fuel and Energy,
chairman of Naftohaz and one of the founders of shady gas
intermediary RosUkrEnergo (RUE),told the Ambassador in a
February 23 meeting that newly elected President Yanukovych
would work to strengthen Ukraine's energy independence.
Boiko said that in the past two years Ukraine has become more
sensitive to energy disruptions because of its growing
dependence on Russian energy sources. As President,
Yanukovych would work to increase Ukraine's coal mining
output and develop its own natural gas fields to reduce
dependence on Russian gas imports. Boiko noted that
Yanukovych had begun a program to develop Black Sea oil and
gas deposits during his time as Prime Minister.


3. (C) Boiko said that Ukraine should develop a climate that
would attract international investment in its oil and gas
deposits, especially in the Black Sea. Boiko stressed that
Ukraine needs political stability and better legislation to
attract much needed investment in the sector and suggested
that Azerbaijan's legislation could serve as a model for
Ukraine. Boiko also suggested that Ukraine should consider
developing LNG capacity, with a regasification terminal in
Odesa with a capacity of 4.5 billion cubic meters per year.
Boiko noted that Ukraine has developed good contacts with
Libya and Egypt, which could serve as potential suppliers of
LNG. In addition to developing LNG capacity, Boiko said that
Ukraine should restart its cooperation with Turkmenistan. He
noted that prior to the January 2009 gas contracts with
Russia, Ukraine had imported a large share of its gas from
Turkmenistan and argued that it had, therefore, not been as
dependent on Russian gas.

Renegotiate Gas Contracts with Russia
--------------


4. (C) Yanukovych's second priority, according to Boiko,
would be to renegotiate the January 19, 2009 gas supply and
transit contracts with Russia. The contracts are the most
damaging to Ukraine since its independence, Boiko contended.
Boiko claimed that Ukraine is paying 40% more for gas imports
than Italy and 20% more than Germany. Ukraine also is being
underpaid for transit, Boiko said, alleging that transit
rates in Slovakia and Hungary are two times what Ukraine is
paid. While not only crippling the state-owned gas company
Naftohaz, the gas contracts have severely harmed Ukrainian
industry, especially the chemical sector, Boiko stated.
Boiko said that Ukraine must find a model under which it pays
Russia less for the gas it imports.


5. (C) Boiko did not elaborate on how Yanukovych would secure
agreement for a lower gas price from Russia but suggested
that the Russians could agree to lower prices in exchange for
participation in a gas transit consortium. Boiko also said
that Ukraine would raise with Gazprom that other countries
pay less for Russian gas than Ukraine does. He concluded
that Ukraine does not need a low price for Russian gas but
rather "transparent, understandable prices."

Establish a Gas Transit Consortium
--------------


6. (C) Establishing a transit consortium would be the third

main priority for Yanukovych, Boiko said. Boiko noted that
Russia's plans to build North and South Stream undermine the
competitiveness of the Ukrainian gas transit system (GTS).
Boiko said that South Stream especially was a real danger for
Ukraine and that a top priority of a new government would be
to stop plans for South Stream. Ukraine must attract
international partners to its GTS in order to remain
competitive, Boiko argued. While Boiko first stated that
Ukraine must work with all of its partners, including
Turkmenistan, Kazakhstan, and Uzbekistan but not listing
Europe, Boiko later underlined that the key to establishing a
gas transit consortium would be to secure European agreement.



7. (C) Boiko said that Yanukovych would raise the transit
consortium idea with the European Union during his first trip
to Brussels on March 1. Boiko noted, though, that when
Ukraine first proposed the idea of a transit consortium in
2002, lack of interest from European companies halted its
development. Boiko suggested that Ukraine study the Caspian
oil consortium as a possible model for a gas transit
consortium. In a separate conversation on February 26, Iryna
Akimova, Deputy in Yanukovych's newly-formed Presidential
Administration told Acting Economic Counselor that some
German firms had expressed initial interest in participating
in a consortium and that the EBRD may be willing to provide
financing. However, she said that it would take time to
determine whether there was serious interest from EU firms.

Preventing Corruption
--------------


8. (C) Asked by the Ambassador how corruption could be
prevented in the gas trade, Boiko again stressed the
importance of international partners. Boiko argued that
corruption could be minimized by having international actors,
who would demand international standards for audits. Boiko
acknowledged that a consortium would be very controversial in
Ukraine and that it must be done in an "almost" transparent
and legal manner. (Comment: Boiko believes he speaks better
English than what he does. One would hope that his statement
was a language mistake and not a harbinger of what is to
come. End comment.)


9. (C) Boiko also said that under Yanukovych, the March 23
Brussels declaration between the EU and Ukraine would be
strengthened and implemented. Naftohaz would be "unbundled"
with separate entities handling production, transit, and
retail operations. Ukrtransgaz, he said, would be the
transit operator, while Naftohaz would become a trading
company.

Need to Raise Domestic Gas Prices
--------------


10. (C) Boiko admitted, after being asked by the Ambassador,
that Ukraine would have to raise household and heating
company gas prices. Boiko said that the new government would
also develop a targeted subsidy system to assist those unable
to pay higher prices. Boiko estimated that if Ukraine raised
gas prices to 20% more than what Russians pay for gas,
Naftohaz would earn an extra $3 billion per year. (Note:
Russian gas prices averaged $85 per thousand cubic meters
(tcm) in 2009 and are expected to be $96/tcm in 2010.
Households in Ukraine are charged, on average, around
$60/tcm, and heating companies pay $88/tcm. End note.)
Boiko said $1 billion of the extra revenues raised from
higher gas prices would be used to fund the targeted subsidy
program. Boiko also noted that raising gas prices would
create a more favorable investment climate for development of
Ukraine's gas deposits.

Open to American Investment in Nuclear Sector
-------------- -


11. (C) On nuclear issues, Boiko noted that he was the first
in Ukraine to negotiate with Westinghouse and said that
Yanukovych's team was "ready" to cooperate with Westinghouse
again. He argued that Westinghouse's previous proposals
failed in Ukraine because the company did not offer as
attractive conditions as its Russian competitors did. Boiko
said Ukraine would consider building American nuclear

reactors.


12. (C) Comment. Boiko's focus on renegotiating the gas
contracts and establishing a gas transit consortium, over
needed domestic energy reforms, echoes what other top
Regions' officials have told us. However, securing lower gas
prices from Russia alone will not save the financially
crippled Naftohaz. Nor will the company secure needed
support from international financial institutions, without
energy reforms. Establishing a gas transit consortium is
clearly a key priority for Yanukovych. Whether a share in
the Ukrainian GTS is enough to convince Russia to renegotiate
the January 2009 gas contracts remains a question. Boiko
also did not address how European energy companies' need for
transparency and international accounting standards would be
matched with Gazprom's likely desire for less openness in the
gas trade. Boiko's suggestion that Ukraine again turn to
Turkmenistan for gas supplies fails to take into
consideration that those supplies would still need to transit
through Russia. Boiko was coy about what role he might have
in a new government, but many here expect him to play a key
role in energy policy, perhaps again being named Minister of
Fuel and Energy. Unfortunately, his past role in RUE raises
concerns about Party of Regions' true commitment to
transparency and rule of law in the energy sector. End
comment.
TEFFT