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Cablegate: Embassy Kyiv

VZCZCXRO4840
RR RUEHIK RUEHLN RUEHPOD RUEHVK RUEHYG
DE RUEHKV #0196/01 0300857
ZNR UUUUU ZZH
R 300857Z JAN 08
FM AMEMBASSY KYIV
TO RUEHC/SECSTATE WASHDC 4814
INFO RUEATRS/DEPT OF TREASURY WASHDC
RUCNCIS/CIS COLLECTIVE
RUCPDOC/DEPT OF COMMERCE WASHDC
RUEHZG/NATO EU COLLECTIVE
RHEBAAA/DEPT OF ENERGY WASHINGTON DC
RUEHLMC/MILLENNIUM CHALLENGE CORP WASHDC

UNCLAS SECTION 01 OF 05 KYIV 000196

SIPDIS

SENSITIVE
SIPDIS

DEPT FOR EUR/UMB,EEB/EEC/IEC-GALLOGLY/WRIGHT
DOE FOR LEKIMOFF, CCALIENDO, EMCGINNIS
DOE FOR NNSA: CHUNSAKER, NCARLSON, ABIENIAWSKI, JCONNERY
TREASURY FOR LEE
DEPT PLEASE PASS USTR FOR CKLEIN/ PBURKHEAD
DEPT PLS PASS OPIC FOR BCHRISTALDI
USDOC FOR 4231/ITA/OEENIS/NISD/CLUCYK
MCC FOR DUTKEVYCH

E.O. 12958: N/A
TAGS: ECON EFIN ETRD EINV EIND UP
SUBJECT:UKRAINE: NEW GOU PROMISES SWIFT ACTION ON VAT, OPIC

Ref: A) Kyiv 156; B) 07 Kyiv 2985; C) 07 Kyiv 2531

KYIV 00000196 001.2 OF 005


Sensitive But Unclassified. Not For Internet Distribution.

1. (SBU) Summary: In an exceptionally timely visit, Special
Representative Frank Mermoud and Commerce DAS Paul Dyck received a
well-coordinated and consistent message from the new GOU during
their January 23-26 meetings in Kyiv. The GOU will improve
transparency, attack corruption and address the USG's top economic
and commercial concerns immediately, they heard repeatedly. The GOU
promised to pay VAT arrears to U.S. companies within 30 days (and
followed up on January 29 with initial payments of $25 million),
settle the OPIC claim, and strike a deal with Westinghouse for the
delivery of nuclear fuel in time for a possible POTUS visit in
April. Deputy Prime Minister Nemyrya announced the creation of a
"Tymoshenko Transparency Initiative," and said he hopes to create a
working group that would travel to Washington soon to solve
outstanding issues with the USG. Nemyrya sought USG input for an
investors' council that would advise PM Tymoshenko on how best to
improve Ukraine's investment climate. Our visitors received a
consistent message that GOU and Rada would act swiftly to complete
WTO accession. The GOU confirmed that it will host the next Energy
Security Summit of regional heads of state on May 22-23.
Preparations for the 2012 European soccer championships are still
advancing slowly, yet the new government clearly understands the
challenges it faces in meeting the timeline for the mass spectacle.


2. (SBU) Comment: The new GOU has unleashed a broad agenda, made
many promises and set tight timelines for itself. Without question,
the program is overly ambitious, and we should expect that the
government will not deliver on all that it has promised. At the
same time, however, the meetings documented that the GOU is
coordinating its message to us, and that it is listening to our
concerns and taking them seriously. We should use the new
government's energy and eagerness to advance agenda items where
quick progress is possible, such as settling the OPIC claim, getting
started on paying VAT arrears, and facilitating efforts to create an
investors' council. We should also offer incentives to keep the new
GOU focused when its elan invariably collides with the complexities
of Ukrainian politics and reality. Well-timed high level visits
would help us keep the new government on track to improve the
investment climate and address the outstanding problems in our
bilateral commercial and economic relations. End summary and
comment.

Value Added Tax (VAT)
---------------------

3. (SBU) Serhiy Buryak, the new Chairman of the State Tax
Administration (STA), told Mermoud, Dyck and the Ambassador on
January 23 that VAT arrears due to U.S. grain exporters would be
paid back within 30 days. Buryak said $80 million in VAT refunds
was overdue to U.S. companies. (Comment: On January 29 the STA paid
back $25 million to Cargill and Bunge. After these payments, VAT
arrears owed to Cargill and Bunge are $43 million and $50 million
respectively, according to the companies. This is still more than
what the STA said was owed to the companies. The difference may
partially be due to differing definitions of when VAT is overdue.
End comment.) Amendments to the budget that the GOU plans to pass
by March will address VAT arrears, Buryak said. Thereafter the GOU
will work on a long-term solution to the many problems in Ukraine's
VAT system. Buryak and other interlocutors told Mermoud and Dyck
that VAT fraud linked to exports was widespread, forcing the GOU to
examine exporters' VAT refund claims carefully. In any case the GOU
planned to re-define its relationship with U.S. companies and base
the interaction on partnership, Buryak said.

OPIC
----

4. (SBU) Deputy PM Nemyrya told Mermoud and the Ambassador that he
hoped to lead a working group to Washington in the near future to
discuss the OPIC claim and other outstanding bilateral economic and
commercial problems. The USG side welcomed Nemyrya's initiative,
but the Ambassador added that the GOU should go with a proposed OPIC
solution in hand. The goal of the visit should be to reach

KYIV 00000196 002.2 OF 005


consensus with OPIC, he told Nemyrya. The two sides agreed that the
visit could take place in late February or early March. Separately,
Minister of Economy Danylyshyn indicated to the USG visitors that
the new government was prepared to continue working on the proposed
OPIC solution that the USG had discussed with the Yanukovych
government. He said the issue would be under his personal control,
and announced that Deputy Economy Minister Oksana Slyusarenko, who
headed working level efforts on OPIC under the outgoing government,
would remain in office and continue to lead the GOU efforts to find
a solution.

Clear Sailing for WTO Accession
-------------------------------

5. (SBU) Mermoud and Dyck congratulated their interlocutors on the
January 25 approval of Ukraine's WTO Working Party Report. The WTO
General Council is scheduled to vote on Ukraine's accession on
February 5. Several interlocutors were optimistic that the Rada
would ratify WTO accession long before the July 4 deadline requested
by Ukraine. Both Nemyrya and Danylyshyn said the Cabinet would send
drafts of the final legislation for accession to the Rada by the end
of January, and reiterated that Ukraine would implement all its WTO
obligations. Valentina Zavalevska, Deputy Minister of Agriculture,
said the GOU recognized that the continued zero VAT on agriculture
in the new budget violated the commitments the GOU made in its
accession negotiations. She confirmed that the draft legislation
would reintroduce VAT for farmers. The issue was a difficult one
for Ukraine, she claimed, because producers would lose UAH 7 billion
(about $1.38 billion). She said the GOU would introduce a
WTO-compliant scheme for compensating the farmers' losses, but did
not elaborate. Party of Regions Rada deputy Iryna Akimova, who is
also the opposition's Shadow Minister of Economy, told Mermoud and
Dyck that broad partisan support for WTO membership existed in the
Rada, even among many Communists. She was confident that the Rada
would pass the necessary legislation in a timely matter. The only
risk, she said, could arise if Tymoshenko tried to insert other
agenda items into the draft legislation. Akimova would not
speculate whether the Party of Regions would vote with the governing
coalition when the ratification comes up in the Rada.

6. (SBU) The new government appears to have no consensus on how to
implement its obligation, codified in Ukraine's bilateral WTO
agreement with the U.S., to remove grain export quotas upon
accession. Zavalevska said the government could increase the quotas
to 3.5 million tons through the end of the marketing year (June 30);
currently, however, the quota remains at the 1.2 million ton level
established on January 1. She did not indicate when, or if, the GOU
would fully abolish quotas, and repeated during the course of her
meeting with Mermoud and Dyck that Ukraine needed to regulate the
grain market to guarantee adequate supplies for the domestic market,
and to ensure that food price inflation does not spiral out of
control. Separately, Deputy Minister of Economy Natalia Boytsun
told EconOff that her ministry had pressed hard to accelerate the
liberalization of grain export quotas, yet the Ag Ministry remained
stubbornly opposed and only conceded the figures that Zavalevksa had
announced. Boytsun said that market circumstances should allow the
GOU to abolish quotas for some grain exports, such as corn.

FTA Negotiations with EU to Begin Soon
--------------------------------------

7. (SBU) Sergiy Korsunsky, Director General for International
Economic Cooperation at the MFA, told Mermoud the EU has already
offered to launch formal negotiations on a free trade agreement on
February 7, two days after the WTO General Council approves
Ukraine's membership. Nemyrya told Mermoud and the Ambassador that
the FTA negotiations with the EU will be challenging. The GOU hoped
to reach an agreement in two years. Such a time frame was chosen
deliberately to ensure that Ukraine did not create any unrealistic
expectations that it could not fulfill.

Investors' Council
------------------

8. (SBU) Nemyrya said the new GOU planned to create an investors'
council to advise it on how best to improve the investment climate.
Nemyrya said he envisaged two levels for the council. The first

KYIV 00000196 003.2 OF 005


level would consist of CEOs from companies already present in the
Ukrainian market and from firms not yet in Ukraine but contemplating
an entry. This group would advise the Prime Minister directly. A
second level would consist of several working groups focusing on
particular sectors. The working groups would develop policy
suggestions for the top level. Nemyrya said the GOU would work with
the AmCham and the European Business Association to identify
possible members, and asked for Embassy's support and
recommendation. The Ambassador applauded the initiative and said it
would ask both the AmCham and the U.S. Ukraine Business Council to
submit recommendations directly to Nemyrya.

Corruption and the "Tymoshenko Transparency Initiative"
--------------------------------------------- ----------

9. (SBU) Transparency was a mantra that Mermoud and Dyck heard
repeatedly. They attended a hastily-called gathering with the
international and Ukrainian business community on January 24 in
which Prime Minister Tymoshenko and Nemyrya discussed the new
government's plan of action to reform the economy, attack corruption
and boost transparency in public life. The GOU published the plan
on the CabMin website and plans to submit it to the Rada in early
February. At the event, Nemyrya announced what he called the
"Tymoshenko Transparency Initiative" or TTI. In a US-friendly
gesture, he specifically recognized Special Representative Mermoud
"and his delegation" who were in Kyiv for meetings with the new
government. In his bilateral meeting with Mermoud and the
Ambassador, Nemyrya said TTI would be an across-the-board program
involving all ministries, and aimed at changing the way the
government worked.

10. (SBU) Both Deputy PM Nemyrya and Economy Minister Danylyshyn
asked the USG side for increased engagement by the Millennium
Challenge Corporation (MCC). Danylyshyn asked whether the MCC could
also support economic reform in Ukraine. The Ambassador reminded
him that the MCC Threshold program was focused on combating
corruption. Nemyrya promised that the new GOU would reconstitute
the MCC Threshold board in a timely manner.

11. (SBU) Valeriy Khoroshkovskiy, Chairman of the State Customs
Service, elaborated plans to improve the efficiency of the agency
notorious for corruption. He said Customs planned to automate
customs procedures and bring them in line with EU standards. In
March, Customs would roll out an electronic customs declaration
system meant to ease the burden on businesses. The system would not
be fully operational, however, until the multitude of other agencies
involved in the customs clearance process got on board.
Khoroshkovskiy said he understood that bureaucratic obstacles were
linked to corruption and added that "reeducation" of Customs' 18,000
employees would be a long-term struggle.

12. (SBU) Khoroshkovskiy confirmed that Tymoshenko would resurrect
the anti-smuggling campaign of her previous premiership that reduced
smuggling and led to a growth of customs revenue. The new campaign
would target both "black goods" -- those smuggled across the border
without being stopped -- and "grey goods" -- those whose declared
customs value is intentionally lowered to avoid customs fees. On
combating the latter, Khoroshkovskiy asked for U.S. assistance in
better sharing customs valuation information so that Ukrainian
Customs could check invoices for imported products against invoices
for the same products when they left their country of origin.
Khoroshkovskiy agreed to Mermoud and Dyck's suggestion to
reconstitute a customs working group with the AmCham.

13. (SBU) Minister of Transport and Communications Yosyp Vinsky
reiterated Tymoshenko's call for transparency in all ministry
dealings and stamping out all forms of corruption. Vinskiy stressed
that the ministry was not afraid to take radical steps at reform to
improve its reputation. Dyck addressed a project to build a new
terminal at Kyiv's Boryspil airport, saying that the USG urged the
GOU to ensure a transparent tender, and added that Bechtel had
expressed interest in the project. Vinskiy promised complete and
clear transparency and said new rules would encourage participation
from a wide range of bidders. He also promised a fair process for
the privatization of Ukrtelecom, which the new GOU hopes to carry
out this year. If Ukraine were serious about integration with
Europe, he said, it must make its business dealings transparent and

KYIV 00000196 004.2 OF 005


fair.

Energy Issues
-------------

14. (SBU) Minister of Energy Yuriy Prodan reiterated the GOU desire,
made during an earlier meeting with the Ambassador (reftel) to
strike a deal with Westinghouse over the delivery of nuclear fuel in
time for a possible POTUS visit in April. He also confirmed that
Ukraine would host the Energy Security Summit on May 22-23 and said
his ministry was planning a "donor conference" for Ukraine's gas
transit system in September. Prodan promised to share a background
paper on the donor conference with Embassy. (Comment: the title may
be a misnomer. Press reporting indicates that the conference will
not focus on gathering donations, but rather target attracting
foreign investment for the modernization of Ukraine's gas transit
system. End comment).

15. (SBU) The MFA's Korsunsky elaborated on the May 22-23 energy
summit in a separate discussion with Mermoud. Like its predecessor
in Vilnius, the summit would focus on the "Baltic-Black Sea-Caspian
Transit Corridor," he said. Planning was in an absolute nascent
stage. Many foreign missions had been informed of the date, but the
GOU still did not have a clear concept, nor had it decided whether
to hold the event in Kyiv or elsewhere. The MFA was tasked with the
planning, but Korsunsky said the Ministry of Energy would need to do
the heavy lifting. Korsunsky said he envisaged one day of high level
meetings attended by heads of state, followed by a day focused on
commercial energy issues and attended by high level private sector
representatives. The commercial component should allow discussion
of a broad range of energy-related issues which have relevance for
energy security in the region, he said. He acknowledged that,
ideally, the summit should not focus on promoting the Odesa-Brody
pipeline, but he added, "unfortunately, that will happen, and it's
something we can't avoid." Korsunsky urged the USG to send a
representative with sufficient seniority to meet with President
Yushchenko. He shared with Mermoud a draft declaration on energy
security which he hoped the visiting heads of state might sign off
on as a "Kyiv Declaration." Mermoud said he would probe USG
interest in supporting such a declaration. (Note: We believe
Korsunsky's declaration is similar to a proposal he floated last
fall (ref C) for possible UNGA action.)

16. (SBU) Energy Minister Prodan reported that the production
sharing agreement (PSA) with U.S-based Vanco was moving forward and
that he would meet with Vanco representatives that same day to
clarify any outstanding issues. He added that the Spent Nuclear
Fuel Storage facility project to be constructed in the Chernobyl
exclusion zone by U.S.-based Holtec was also progressing, and that
public hearings (for the population living near the exclusion zone),
governmental approval of the feasibility study, and ultimate
parliamentary approval for the project would necessary before
construction could begin. Prodan was confident all necessary
approvals would be granted before 2009. Dyck mentioned that
Houston-based Marathon Oil had some concerns about licensing for oil
and gas exploration, joint ventures, and PSAs for both shallow and
deep water exploration. Deputy Minister Volodymyr Makukha said he
would continue to meet with Marathon representatives to resolve any
concerns. Prodan invited Marathon to present any relevant proposals
to the Ministry for amending current laws on licensing, joint
ventures, and production sharing agreements.

Euro 2012
---------

17. (SBU) Yevhen Chervonenko, Chairman of the newly created State
Agency responsible for the 2012 European soccer championships, which
Ukraine will co-host with Poland (ref B), explained at length the
challenges that Ukraine faces in preparing for the month-long
spectacle that is expected to attract about 1 million visitors to
the four cities where games will be held. He confirmed reports of
infighting within the government, and between the government and the
Ukrainian soccer federation led by oligarch Hryhoriy Surkis. Three
billion U.S. dollars will be allocated from the national budget for
Euro 2012 projects, $1 billion from local budgets, and $21 billion,
Ukraine hopes, will come from foreign investors. He and others
said that the GOU hopes to pass a law on public-private partnerships

KYIV 00000196 005.2 OF 005


(PPPs) to allow PPPs to be used for investment projects.
Chervonenko said oligarchs who are soccer enthusiasts will ensure
that the cities that serve as their power base will be ready in time
-- Rinat Akhmetov in Donetsk, Ihor Kolomoyskyy in Dnipropetrovsk
and Oleksandr Yaroslavsky in Kharkiv. Preparations for Kyiv remain
a challenge, where a dispute among oligarchs over construction of a
shopping center may derail plans to host the championship game in
the city's Olympic Stadium. The GOU will also have to move forward
quickly to modernize the country's airports and transportation
infrastructure, he said.

18. (U) Special Representative Mermoud and Commerce DAS Dyck cleared
this cable.

Taylor

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