US embassy cable - 04YEREVAN2224

UNCLAS SECTION 01 OF 02 YEREVAN 002224 
 
SIPDIS 
 
SENSITIVE 
 
STATE FOR EUR/CACEN FOR SIDEREAS, EUR/ACE FOR LONGI, EB/ESC, 
PASS TO USAID EGAT FOR WALTER HALL 
 
E.O. 12958: N/A 
TAGS: ECON, ENRG, AM 
SUBJECT: ARMENIAN GOVERNMENT GIVES ENERGY SECTOR A HALF-FIX 
 
Ref:  YEREVAN 1453 
 
1. (U) This cable is sensitive but unclassified.  Please 
protect accordingly. 
 
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SUMMARY 
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2. (SBU) On October 1, Armenia' Public Service Regulatory 
Commission (PRSC) ended ArmEnergo's reign as the state-owned 
single buyer of midstream electricity, responding to demands 
of the donor community (including the United States as part 
of the most recent US-Armenia Task Force action plan).  The 
GOAM has fulfilled only part of its obligation:  it has 
failed, however, to implement the necessary market rules and 
energy cost adjustment mechanisms to protect the energy 
market from price instability and rent seeking.  Without 
such measures, the dissolution of ArmEnergo makes the 
private energy distributor and generating companies part of 
a market without rules and no secured payment mechanism.  It 
is unclear what will happen if energy input prices rise, but 
the distributor has no right to pass costs onto consumers. 
Sources from the Ministry of Energy point out that the 
Ministry maintained significant control of Armenia's energy 
sector through its ownership of the Vorotan Cascade, 
Armenia's largest hydro-electric plant, Transmission Network 
and Power System Operation.  End Summary. 
 
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WHAT HAPPENS NOW? 
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3. (SBU) Until last week, ArmEnergo acted as a single-buyer 
single-seller mediator of electricity, in effect making the 
Government of Armenia the guarantor of the Armenian energy 
sector.  The Ministry of Energy used ArmEnergo to keep end- 
use prices stable when generation costs fluctuated.  Now the 
privately owned electricity distributor, Electricity 
Networks of Armenia (ElNetArm) must take over the financial 
responsibility for the sector.  This basically has shifted 
the single-buyer responsibility from ArmEnergo to ElNetArm, 
who currently must provide electricity at regulated tariffs 
even if costs rise.  The Public Service Regulatory 
Commission (PSRC) has failed to establish an energy 
adjustment fund or adopt an adjustment clause, which would 
give the distributor the right to raise electricity prices 
for end-users, upon PSRC's review, when the average 
generation costs rise.  The PSRC has prepared a draft Law to 
provide the mechanism for funds flow and tariff adjustment; 
we expect this will come before the National Assembly in 
October. 
 
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MINISTRY TO KEEP CONTROL? 
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4. (SBU) Sources close to the Ministry of Energy say that 
the Ministry intends to maintain its control of the market 
through its ownership of the Vorotan Cascade, a hydro-plant 
that supplies nearly 20 percent of the energy market. 
Because hydroelectricity makes up the cheapest share of 
Armenia's energy, the government has the flexibility to use 
Vorotan's output to trade electricity and influence over-all 
energy costs to the distributor.  The government's control 
of Vorotan also presents opportunities for profits:  the 
GOAM is currently exporting the plant's cheap electricity to 
Iran, to pay the debt on constructing a new transmission 
line and for a substation upgrade used for transactions with 
Iran.  (Note:  Normally Armenia would "bank" this energy in 
an energy swap where Armenia exports electricity in the 
summer to Iran and imports electricity in the winter from 
Iran.  End Note.)  The Ministry of Energy's project will 
likely increase Armenia's need for higher-priced electricity 
(generated in gas-fired plants), for which consumers will 
ultimately pay significantly higher prices. 
 
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COMMENT:  REMOVAL OF ARMENERGO NECESSARY BUT NOT SUFFICIENT 
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5. (SBU) International donors have long sought to separate 
ArmEnergo and the Ministry's functions as a supplier of 
electricity in order to reduce the capacity for corruption 
in the energy sector.  But the Ministry is reluctant to cede 
complete control of the energy sector to private 
enterprises.  The removal of ArmEnergo is a necessary but 
not sufficient step to withdrawing the Ministry from the 
energy sector.  Until the Public Service Regulatory 
Commission establishes market rules governing private (as 
well as public) actors as well as some safeguards to deal 
with energy supply and financial settlements, there will not 
be a viable private energy market.  For now the Ministry's 
involvement in the energy sector will continue to create 
opportunities for rent seeking by those who control the 
government's energy assets. 
RICHTER