Image: Trypilska thermal power plant near Kyiv. Credit: Tovstonog Dmitri, CC BY-SA 4.0. 

In the past few weeks and months, Ukrainian media has been peppered with diametrically opposed pieces of analysis and commentary on energy pricing and energy subsidy reform. On one side, the central government, with the support of international donors, as well as Naftogaz, the national gas supplier, is running an information campaign on why energy subsidy reform is a much-needed move for Ukraine. On the other side, there are continued reports of city councils and populist parties' activists protesting against the “unconstitutional” decision of the central government to increase tariffs for gas and electricity according to an accelerated schedule.

The tariff increase was decided on 27 April 2016 and was one of the first resolutions of the new government led by Volodymyr Groysman, in a move to reduce the budget deficit and meet International Monetary Fund (IMF) requirements. In energy policy, as well as in other spheres, Prime Minister Groysman and his Cabinet of Ministers are pursuing the reforms initiated by Ukraine’s previous Prime Minister, Arseniy Yatsenyuk.

The adjustment set gas prices at the same level for households and industry—and increased this price to an “import parity” level. In other words, this is market pricing, without any subsidies. 

Importantly, the price of gas determines the price of space heating and hot water for households and state-funded institutions. Starting from 1 May, the retail price for gas was established at UAH 6,879 (US$ 277) per 1,000 cubic metres. [1] This equals an almost twofold increase in household tariffs for gas: before 1 May, the tariff was at UAH 3,600 (US$ 145) per 1,000 cubic metres, if consumption was within a so-called “social norm” of 1,200 cubic metres per heating season. 

Adjustments have also been made to the price of other energy products. On 1 July, central heating and hot water supply tariffs were approximately doubled depending on the region and particular fuel mix (coal-based generation is cheaper). In addition, electricity prices are on a schedule for a stepwise increase, based on the Yatsenyuk government’s decision of 2015, with the next planned increase due on 1 September 2016.

Back in 2015, the Yatsenyuk government mitigated the impact of subsidy removal by increasing budgetary expenditure on a targeted support programme for low-income households. Every household received an application form to apply and during the 2015-2016 heating season about 36 per cent of households received social support for utilities payments. The system largely worked as planned, although there were some administrative problems. 

Since coming to power, Prime Minister Groysman and other government officials have reassured the public that households would not pay more than 15-20 per cent of their cumulative income for  utility bill, and those living on minimal pensions will pay even less than that. This has led to estimates that 50 to 75 per cent of households will require targeted support due to the recent increase of tariffs. The government realizes that it would be very difficult to handle such a huge number of targeted support recipients administratively and considers this to be a temporary challenge. It is hoped that the number of eligible households will decrease in the next 2-3 years as the economy recovers and social welfare improves.

Other mitigation measures are also expected to help manage the transition to market-level gas prices. The Cabinet of Ministers cancelled the tax on pensions lower than UAH 10,700 (USD$ 431) and increased the minimum wage by 6 per cent from 1 May and by 10 per cent from 1 December. These steps will ease the burden of increased tariffs for households and also decrease the number of applicants eligible for targeted support.

Moreover, the Government is currently working on draft laws to “de-shadow” salaries (the shadow economy is estimated at 40 per cent of Ukraine’s GDP) and collect additional funds for social needs. There is also significant potential to reduce utility bills through full metering of heat consumption and energy efficiency measures in the housing sector. Currently, only about 50 per cent of households in block-houses have building-level heat meters installed. The rest pay their bills based on normative consumption of heat per square meter, which is often higher than the amount of actually provided service.

As winter is approaching, concerns increase that non-payment for utilities will become a problem and calls for lower energy prices are heard more often.

Increases of gas and other energy tariffs have always been unpopular with the public in Ukraine, as they have in other countries. Hence, it is not surprising that any move in this direction faces resistance. Despite all the efforts to explain the need for reform by some political leaders and relevant ministers, there is still a huge mistrust of such decisions due to high levels of corruption in the country. According to a study by the Kyiv International Institute of Sociology, as much as 83 per cent of Ukrainians consider the tariff setting mechanism to be unclear and non-transparent. At the same time, only 7 per cent believe that tariffs are increased for objective reasons, while 84 per cent perceive corruption to be the main reason. 

Populist politicians are highly aware of this situation and are trying to use it to build popularity among their constituencies. “Batkivschyna” party and “Radical party” have filed lawsuits against the Cabinet of Ministers and the National Commission for State Regulation of Energy and Public Utilities (NCSREPU). Kyiv City Council imposed a moratorium on increase of tariffs by 1 October 2016—a move that was replicated by the City Council of Dnipro, another big city. 

This is a vivid illustration of a striking gap in the way that Ukraine’s energy pricing needs are understood by the government and the expert community, on the one hand, and the general public, on the other. 

On 25 April, the Global Subsidies Initiative contributed to the expert workshop on energy subsidies at the Ukrainian Parliament, co-organized by the Organisation for Economic Co-operation and Development (OECD) and the Parliament’s Energy Committee. At this event, it was clear that a great deal of thought had been put into designing the reform and that political commitment was very high. But translating this thinking into the language that Ukrainian consumers can understand—and, most, importantly, trust—remains a major challenge. Winter 2016-2017 will be a real test to Ukraine’s energy subsidy reform.
 

[1] This is based on the wholesale European gas price of EUR 177 per 1000 m3 (US$ 196), weighted average transportation costs within the country and distribution tariffs, as well as a trade margin for Naftogaz, the gas supplier.