I have just had a chance to sit down and have a glance over the Coalition Agreement signed on Friday afternoon between the political movements of President Poroshenko, Prime Minister Arseniy Yatsenyuk and three smaller parties in order to form a new Ukrainian Government.
The challenges for the new government are many and numerous – from implementing wide-ranging political reforms in order to guarantee the independence of the country’s governing structures from Russia to rebuilding the country’s shattered economy. The challenge that appears to have gained the most attention over the past months has been that of ensuring energy security.
In this respect, the Coalition Agreement strikes a pragmatic and reasonable tone: recognising the necessity of importing energy from external sources (read: Russia) alongside the need to put in place a framework that reduces over-reliance upon individual suppliers and reforms designed to ensure the right kind of regulatory framework is in place to provide for competition and investment in the sector.
The whole document can be read here but there are some particularly noteworthy segments that are worth paying particular attention to.
1.1.1 – “Conducting comprehensive NAK Naftogaz restructuring and GTS operator certification in order to separate natural gas extraction, transportation, storage and supply activities and provide transparent and uninterrupted access to gas transportation infrastructure” and 1.1.3. – “ensuring natural gas transportation and distribution separation from other activities conducted on gas market”
This step will provide for the separation of the country’s gas supply and gas extraction sectors, reducing the power of either entity to pursue policies designed to either favour or disadvantage particular sectors. By separating the two functions, it will be far more difficult for corruption in the energy sector to flourish in comparison to the single supplier/extractor model which was hugely vulnerable to malign political intervention.
2.1. – “Gradual cross-subsidizing elimination (multi-level tariff system) by setting prices and tariffs for all consumers, including population, on commercially grounded level at the same time shifting to targeted subsidies to vulnerable layers of population… Imposing, by law, moratorium on offering new reduced electricity and gas prices and tariffs for certain industries and consumers”
A sensible move that ensures the central government is not able, as it was during the Yanukovych era, to target unreasonable subsidies at businessmen and business sectors favourable to the President and his cronies, while still protecting the ability of the country’s many millions of poor and elderly citizens to receive energy supplies at favourable rates.
3.1. – “Ensuring, by passing respective law, energy industry regulator’s independence in accordance with Third Energy Package requirements to ensure relevant level of transparency on monopoly markets and effective monitoring of compliance with competition rules”
A clear statement of intent that the government will seek to integrate the country’s energy markets with those of the European Union. While the Third Energy Package is far from perfect, it is the regulatory framework with which the twenty-eight EU member states must work with and the background to the bulk of strategic investment decisions that are taken. If Ukraine’s large energy sector is to continue growing and achieve its full potential, it will need to be compatible with the EU’s own regulatory framework in respect of both energy and financial regulations. This brings it closer to that goal.
3.4. – “Performing inventory of oil and gas extraction industry joint activity agreements with state companies’ participation and performing comprehensive audit of subsoil use licenses application by both state-owned and private oil and gas extraction application in order to cancel those licenses that are not fully applied in terms of work program execution”
A sensible piece of due diligence that ought to ensure that contracts previously awarded on corrupt terms are terminated. This could also bring significant benefits in respect of the country’s overall tax-take, with the true value and profitability of certain contracts finally bring brought out into the open.
4.1. – “Ensuring fiscal regime stability and permanence for hydrocarbon production industry to attract significant foreign investments under Tax Code of Ukraine” and 5.1.2. – “Formalize, by law, exhaustive list of the reasons for suspending or canceling licenses, as well as natural resources explorer’s priority right on production… simplification of land allocation procedure for the purposes of geological exploration activities, field development and completion, laying pipelines and power lines… increasing initial license price calculation transparency, namely introducing diversified approach depending on the target work designation (exploration or production), geological data reliability degree (reserves or resources) and type of deposit depending on the difficulty of production (conventional or unconventional)”
These provisions are all about stability and ensuring investor confidence. Under the Yanukovych, Yushchenko and Kuchma Presidencies, there was a “make it up as you go along” approach towards issues such as the awarding of licences for energy exploration (or indeed anything else), while taxation arrangements were left purposefully opaque. This should provide international businesses wishing to invest in Ukraine with greater confidence that their operations are on a solid legal footing, as opposed to being personal cash cows for politicians. The requirement for greater use of data and assessments when identifying areas for energy exploration and production should also be welcomed. How, after all, is it possible for the state to extract or plan for appropriate tax revenues from energy producers if statistical data as to the likely amounts of deposits does not exist?
7.1. – “Increase gas import from EU by increasing North-South European gas transportation corridor technical capabilities”
This is little more than a restatement of the new government’s general geopolitical reorientation away from Russia and pursuit of stronger links with European Union countries. The expansion of North-South gas corridors ought to allow for Ukraine’s state gas firm Naftogaz to more easily receive supplies from more reliable partners such as Norway’s Statoil, as opposed to being solely reliant upon Russian gas. This does not appear to be an attempt to replace Russia as a supplier (which is, regrettably, impossible) but a move towards diversification.
7.3. – “Gradual implementation of the requirement that the amount of natural gas, oil/oil products and coal import to Ukraine by a single source cannot exceed 30%”
Pure common sense. For too long, Ukraine has been far too reliant upon Russia for its energy supplies. While part of this is a legacy of the Soviet Union, in which central planning procedures did not foresee the need for Ukraine to be anything other than reliant upon neighbouring Russia for its energy, Moscow has actively disincentivised Ukraine’s post-independence leaders from pursuing this path via a mixture of providing cheap loans for public spending and making explicit political threats. The result of this reliance upon Russia as a single energy supplier has made Ukraine, a country of 45 million, economically and politically dependent upon Moscow while Georgia, a country with a tenth of the population, has been far freer due to its pursuit of hydro-electricity projects independent of Kremlin interference. Mandating, by law, that no one single source can provide for more than 30% of a certain energy type ought to provide the government with the benefits of both political independence and free market deal-making.