Ukraine Tackling Gas Corruption Means Potatoes for Poor: Energy
Galina Pavlik barely scrapes by on
her monthly pension of $290. Like many Ukrainians, the 73 year-old Kyiv resident depends on gas to heat her three-room
apartment. The bill swallows about a sixth of her income.
The new Ukrainian government will soon need people like
Galina to pay even more for power and gas as it wrestles with
protracted economic and political crisis. In the wake of a
diplomatic showdown between the West and Russia over Crimea’s
March 16 vote to secede from the country, Ukraine’s future now
depends in large part on its ability to secure $35 billion in
U.S. and EU aid. Cutting energy subsidies, considered
economically wasteful and a magnet for corruption, will be key
to getting that help, even if it means more pain for households.
“I will have to eat only potatoes and the cheapest
sardines to be able to pay more for gas,” said the pensioner,
who has supported the interim cabinet headed by Arseniy Yatsenyuk that replaced the Russian-backed government of
President Viktor Yanukovych. “I can’t afford to pay more.”
Ukraine’s system of subsidies for household gas has long
been abused. Typically, distributors buy government-alloted gas
at low prices intended for families and resell it for a far
higher prices to businesses. Analysts estimate that the scheme
robs hundreds of millions of dollars a year from state coffers
in added subsidy costs, further destabilizing Ukraine’s economy,
which is already teetering on the verge of default.
The average gas price for families in the Kyiv region was
$76 per 1,000 cubic meters last month, while industrial clients
paid about $447. As much as 2 billion cubic meters a year is
lost to fraud, estimated Dmytro Marunych, co-chairman of the
Energy Strategies Fund in Kyiv.
Extraordinarily Corrupt
“The Ukrainian energy sector is extraordinarily corrupt,”
said Judy Dempsey, senior associate at Carnegie Europe.
“There’s been no kind of attempt whatsoever to tackle this
issue because the country’s oligarchs controlled it. The new
government will have to bite the bullet.”
Press officials at state energy company NAK Naftogaz
Ukrainy didn’t respond to repeated requests for comment.
At the same time the government is grappling with
corruption at home, it is being hit with higher import prices
from an increasingly hostile Russia.
More than half of Ukraine’s gas consumption is covered by
imports from Russia, which canceled the 33 percent discount in
the gas price granted to Yanukovych late last year and
threatened to cut supply. Ukraine will have to pay Gazprom about
$368.50 per 1,000 cubic meters of gas in the second quarter, one
of the highest prices in Europe, Ukrainian Energy Minister Yuri Prodan said on March 10.
Foreign Aid
Prime Minister Yatsenyuk is struggling to convince the
International Monetary Fund that the former Soviet republic is
serious about overhauling an economy that regularly tops global
rankings of corruption.
“The discount has to be removed,” Ukrainian Economy
Minister Pavlo Sheremeta said in an interview in Kyiv, referring
to gas subsidies. “It’s obvious we have to deal with it because
we don’t have any other options.”
Not only is gas intended for households diverted to gas
filling stations or industrial clients enriching corrupt
middleman, the practice can also cause shortages in villages and
towns, according to Vitaliy Radchenko, a coordinator of energy
projects at CMS Cameron McKenna in Kyiv.
‘Sick Animal’
“Naftogaz is clearly incapable and inefficient,”
Radchenko said. “It’s like a sick animal.”
To turn things around, Ukraine will also need to improve
efficiency — the economy requires 10 times as much energy to
produce goods and service as the average industrial economy,
according to the International Energy Agency. A complete
overhaul of Ukraine’s energy sector would require an investment
of as much as 170 billion euros ($236 billion) over the next two
decades, the agency estimated.
Previous Ukrainian governments, including that of Yulia Tymoshenko, haven’t encouraged indigenous production of the
country’s proven gas reserves, estimated at 1.1 trillion cubic
meters by the EIA. Production-sharing agreements signed with
Royal Dutch Shell Plc (RDSA) and Chevron Corp. for exploration of shale
gas by Yanukovych’s government marked the first major effort to
bolster domestic production.
Domestic Production
The fate of Ukraine’s offshore Black Sea projects coveted
by Exxon Mobil Corp. and Eni SpA (ENI) is now unclear. A March 16
referendum in Crimea last weekend supported seceding and joining
Russia. While the vote was condemned as illegal by the EU and
U.S., it’s not clear if the government in Kyiv will retain
control over oil and gas licenses in the Black Sea.
Still, there’s a large potential for domestic production.
Soviet Ukraine was a net exporter of gas to Russia until the
discovery and development of the giant gas fields in western
Siberia in the 1970s. It ranks 24th on the list of countries
with proven reserves of natural gas.
“We’re dealing with potentially a very rich country,”
Dempsey said. “But the energy infrastructure has been
completely neglected.”
Until that changes, impoverished Ukrainians like Galina
Pavlik are stoic about the prospect of more hardships to
overcome next winter. “We’re not going to riot,” she said. “I
will have to come up with some plan to pay for it.”
To contact the reporters on this story:
Ladka Bauerova in Prague at
lbauerova@bloomberg.net;
Eduard Gismatullin in London at
egismatullin@bloomberg.net
To contact the editors responsible for this story:
Will Kennedy at
wkennedy3@bloomberg.net
Rick Schine