Oleksandr Kharchenko can reel off example after example of suspected corruption in Ukraine’s vital energy sector that saps the nation’s wealth.
In Zhytomyr, a city of 265,000 residents roughly 140 kilometers west of Kyiv, the local regional gas distribution company installed meters on 118 large apartment complexes in the city. So the mayor invested city money into installing meters in every apartment, as dictated by Ukrainian law.
But a month later, the city discovered that the company’s meters recorded 35 percent more consumption than the sum of the apartment meters. In other words, Kharchenko explains, the local distribution company — or oblgaz in Ukrainian — was allegedly using the meters to steal money from the public.
Corruption in the energy sector is an issue that Kharchenko, who heads the Energy Industry Research Center, has written about as a contributor to the Atlantic Council’s Ukraine Alert blog. He’s used the platform to sound the alarm about the dangers posed by the monopolistic oblgazes. He criticized the government of Prime Minister Volodymyr Groysman for stalling reforms in the energy sector.
His organization, a private consulting and research center with 15 employees, has worked with virtually every major player in Ukraine’s energy market.
However, it cut its ties with billionaire oligarch Rinat Akhmetov’s DTEK energy company due to a principled objection to the so-called Rotterdam+ coal pricing formula it has used, he says. That formula, which sets coal prices artificially high, is reputed to have made energy companies major — and to critics, unjustified — profits.
Skeptics suggest Kharchenko is too close to Ukrainian state gas company Naftogaz, which, by and large, he speaks of favorably. But Kharchenko also paints a complicated picture of the industry and attempts to reform it.
“I believe that things are not going well,” Kharchenko says, but: “They are going better than before.”
Old inefficiency
Ukraine’s energy sector has long enriched well-connected businesspeople and politicians, from exiled billionaire oligarch Dmytro Firtash — currently fighting extradition to the U.S. on corruption charges that he denies — to the former prime minister and current presidential candidate Yulia Tymoshenko.
In September 2017, American energy expert Edward Chow pithily told the Kyiv Post that Ukraine’s biggest problem is that its tycoons are too busy carving up the existing energy pie rather than seeking to enlarge it.
For all his criticism of the way that the energy sector is run, Kharchenko may be an optimist. He notes that public knowledge of renewables, one of his organization’s priorities, has increased significantly. And the Ukrainian government is finally taking steps to bring gas prices closer to market levels.
For much of its post-independence history, Ukraine has maintained different prices for industrial consumers, domestic consumers, and local heating companies providing utilities to private citizens. Gas for domestic consumers and heating companies was sold at a particularly low price.
This led to a corruption scheme in which subsidized gas “officially” used by domestic consumers was illegally resold to industry. Such schemes also blunted the drive for energy efficiency. “The people who organized all this were interested in pushing private citizens to use as much gas as possible,” Kharchenko says.
Now, as more consumers face higher prices, Ukrainian individuals and businesses are thinking about how to save gas and money.
Firtash’s monopoly
Despite this new enthusiasm for efficiency, Ukraine’s energy sector is still weighed down by the same old problems. On the regional level, the distribution network is owned by the state, but gas distribution is de facto controlled by the oblgazes, which have a contract to manage the network.
The oblgazes were created during the presidency of Viktor Yanukovych, who was ousted by the EuroMaidan Revolution on Feb. 22, 2014. According to Kharchenko, the idea came from an individual close to Firtash, who currently owns or controls over 70 percent of the oblgazes.
Despite his status as a suspect in a criminal case in the United States, Firtash’s businesses are flourishing in Ukraine. His Ostchem company has a virtual monopoly in the mineral fertilizer market, his Inter television channel remains one of the country’s top media, and Firtash was described as one of two wealthy backers of the Russia-friendly Opposition Bloc party until it split into two factions in November.
Firtash’s Group DF declined to comment for this story.
The oblgazes are accused of siphoning gas meant for domestic consumers and selling it to industry for a much higher price.
Moreover, the three-tier system of gas distribution — made up of Naftogaz on top, oblgazes, and then consumers on the bottom — has led to another serious issue: heavy indebtedness.
By law, Naftogaz must supply gas to any oblgaz that has ordered it. The oblgaz, in turn, is required to supply the gas to the end user and receive payment for it. It should then pass payment along to Naftogaz.
But, according to Kharchenko, two issues derail this process. First, some of the oblgazes simply don’t pay.
Second, many oblgazes don’t supply Naftogaz with information about end users, making it exceedingly difficult to even check whether the oblgaz ever supplied the gas.
All this makes it unclear exactly why debt to Naftogaz is accumulating.
However, others say the blame should not fall entirely on the oblgazes. Firtash’s Group DF has pointed at local heating companies that provide centralized heating and alleged that Naftogaz is trying to force the oblgazes to take responsibility for nonpayment by these local enterprises.
But Gennady Kobal, director of the ExPro consulting firm, told the Kyiv Post in August that the issue has deeper roots: the heating companies are poor and “have a social burden.” There have been serious debts for many years, but it only became an issue as gas prices increased, Kobal added.
Kharchenko doesn’t disagree about the heating companies, but says there must be a transparent database of consumers that is open to Naftogaz, the oblgazes, prosecutors and others. This will be especially important starting in March, when Ukraine will monetize subsidies to help lower-income households pay for gas.
“If you provide full information about every end consumer, then it will be a transparent situation,” he says.
That would clarify whether the problem is that the oblgazes aren’t passing the money along or that the heating companies truly cannot pay.
Misgovernment
At the core of many problems in the energy industry is failure by the Ukrainian government, says Kharchenko.
Since April 2016, when Arseniy Yatsenyuk was sacked as prime minister, there has been virtually no progress on reform in the energy sector, he says. In line with Europe’s Third Energy Package, Ukraine is supposed to separate its gas transmission company, UkrTransGaz, from Naftogaz, a process widely known as unbundling. However, this was never accomplished.
In April, Naftogaz CEO Andriy Kobolyev requested that Prime Minister Groysman delay the process for two years. According to Naftogaz, the reason is that it cannot carry out unbundling without amending its contract with its Russian counterpart Gazprom. And the Russian state-controlled gas company is not inclined to do that — particularly after Naftogaz won nearly $2.6 billion in compensation from it in a Stockholm arbitration court.
Kharchenko also says that Firtash and his associates “are extremely not interested in this unbundling happening.” This is a recurring theme in Kharchenko’s analysis: In a March 2018 column for the Atlantic Council, he alleged that $2 billion — including a World Bank loan and International Monetary Fund aid intended to help provide gas to Ukraine’s poorest — had not reached their intended targets and fallen into Firtash’s hands.
Group DF denied these charges, calling Kharchenko’s column “full of lies, insinuations, and slanderous statements.”
Election risk
Kharchenko fears things can get worse in the energy sector. With the Ukrainian presidential election rapidly approaching on March 31, several candidates have campaigned against increasing gas prices for domestic users.
Most prominently, Tymoshenko — one of three frontrunners — has promised voters Ukrainian-produced gas at half the current price should she be elected president.
Kharchenko is worried that the country’s accomplishments could be washed away by any new president. “Everything could be reversed very quickly,” he says.
The energy analyst says he read Tymoshenko’s campaign booklet “A New Course for Ukraine.” Judging by that document, she supports energy reform and will advance it as quickly as possible.
“It’s 100 percent (contradictory) to her slogans about gas being two times cheaper,” Kharchenko says. “What is true? I don’t know.”
Areas of achievement
Kharchenko’s fears are not without merit. Despite the slow pace of reforms, since 2014 there have been legitimate accomplishments that should not be lost, he says.
Today, Ukraine has a free and transparent market for gas for industrial usage. With prices high, businesses are looking to economize.
This has led businesses to creative ideas like using pellets of wood and straw to heat their enterprises. These pellets are alternative energy resource, and straw is produced in enough quantities in Ukraine to effectively replace gas for heating, Kharchenko says.
Compared to 10 years ago, he says, Ukraine today is full of stories of biogas plants, pellet boilers, and wood boilers. “Everything that could create an alternative to gas in the private and industrial sector is (taking off) like a rocket.”
Moreover, in 2015, the Ukrainian government launched a program called “Warm Loans.” If Ukrainians take loans from state-owned banks PrivatBank or OshchadBank and use them for energy efficiency — for example, better doors and windows or new furnaces in their homes — the state covers up to 70 percent of the loan.
But in 2018, the Ukrainian government allocated only Hr 800 million ($29.5 million) for “Warm Loans,” meaning it ran out quickly. Kharchenko suggests that if the government were to allocate Hr 8 billion ($295 million), the program could definitely make the country more energy efficient.
Still, the popularity of the program shows that energy efficiency is both important and widely understood in Ukrainian society, Kharchenko suggests. And after the Ukrainian government began increasing gas prices for domestic consumers — they now stand at roughly 65 percent of the market level — virtually everyone is looking to save.
“I believe it’s the best possible version of the energy efficiency popularization when you have an understanding that this is your money,” he says.
