diff --git a/Include/pythonrun.h b/Include/pythonrun.h
index 5f6a67f538c..87d78741669 100644
--- a/Include/pythonrun.h
+++ b/Include/pythonrun.h
@@ -9,6 +9,7 @@ extern "C" {
 
 #define PyCF_MASK (CO_FUTURE_DIVISION)
 #define PyCF_MASK_OBSOLETE (CO_GENERATOR_ALLOWED | CO_NESTED)
+#define PyCF_SOURCE_IS_UTF8  0x0100
 
 typedef struct {
 	int cf_flags;  /* bitmask of CO_xxx flags relevant to future */
diff --git a/Lib/test/test_builtin.py b/Lib/test/test_builtin.py
index 2e00632de20..047e93eee6c 100644
--- a/Lib/test/test_builtin.py
+++ b/Lib/test/test_builtin.py
@@ -195,6 +195,8 @@ class BuiltinTest(unittest.TestCase):
         self.assertRaises(TypeError, compile)
         self.assertRaises(ValueError, compile, 'print 42\n', '<string>', 'badmode')
         self.assertRaises(ValueError, compile, 'print 42\n', '<string>', 'single', 0xff)
+        if have_unicode:
+            compile(unicode('print u"\xc3\xa5"\n', 'utf8'), '', 'exec')
 
     def test_complex(self):
         class OS:
@@ -309,6 +311,8 @@ class BuiltinTest(unittest.TestCase):
             self.assertEqual(eval(unicode('c'), globals, locals), 300)
             bom = '\xef\xbb\xbf'
             self.assertEqual(eval(bom + 'a', globals, locals), 1)
+            self.assertEqual(eval(unicode('u"\xc3\xa5"', 'utf8'), globals),
+                             unicode('\xc3\xa5', 'utf8'))
         self.assertRaises(TypeError, eval)
         self.assertRaises(TypeError, eval, ())
 
diff --git a/Python/bltinmodule.c b/Python/bltinmodule.c
index b74e09c26ac..9b1bf55495d 100644
--- a/Python/bltinmodule.c
+++ b/Python/bltinmodule.c
@@ -340,11 +340,32 @@ builtin_compile(PyObject *self, PyObject *args)
 	int dont_inherit = 0;
 	int supplied_flags = 0;
 	PyCompilerFlags cf;
+	PyObject *result, *cmd, *tmp = NULL;
 
-	if (!PyArg_ParseTuple(args, "sss|ii:compile", &str, &filename,
+	if (!PyArg_ParseTuple(args, "Oss|ii:compile", &cmd, &filename,
 			      &startstr, &supplied_flags, &dont_inherit))
 		return NULL;
 
+	cf.cf_flags = supplied_flags;
+
+#ifdef Py_USING_UNICODE
+	if (PyUnicode_Check(cmd)) {
+		tmp = PyUnicode_AsUTF8String(cmd);
+		if (tmp == NULL)
+			return NULL;
+		cmd = tmp;
+		cf.cf_flags |= PyCF_SOURCE_IS_UTF8;
+	}
+#endif
+	if (!PyString_Check(cmd)) {
+		PyErr_SetString(PyExc_TypeError,
+				"compile() arg 1 must be a string");
+		return NULL;
+	}
+
+	if (PyString_AsStringAndSize(cmd, &str, NULL))
+		return NULL;
+
 	if (strcmp(startstr, "exec") == 0)
 		start = Py_file_input;
 	else if (strcmp(startstr, "eval") == 0)
@@ -364,11 +385,12 @@ builtin_compile(PyObject *self, PyObject *args)
 	}
 	/* XXX Warn if (supplied_flags & PyCF_MASK_OBSOLETE) != 0? */
 
-	cf.cf_flags = supplied_flags;
 	if (!dont_inherit) {
 		PyEval_MergeCompilerFlags(&cf);
 	}
-	return Py_CompileStringFlags(str, filename, start, &cf);
+	result = Py_CompileStringFlags(str, filename, start, &cf);
+	Py_XDECREF(tmp);
+	return result;
 }
 
 PyDoc_STRVAR(compile_doc,
@@ -428,7 +450,7 @@ Return the tuple ((x-x%y)/y, x%y).  Invariant: div*y + mod == x.");
 static PyObject *
 builtin_eval(PyObject *self, PyObject *args)
 {
-	PyObject *cmd;
+	PyObject *cmd, *result, *tmp = NULL;
 	PyObject *globals = Py_None, *locals = Py_None;
 	char *str;
 	PyCompilerFlags cf;
@@ -467,14 +489,26 @@ builtin_eval(PyObject *self, PyObject *args)
 			   "eval() arg 1 must be a string or code object");
 		return NULL;
 	}
+	cf.cf_flags = 0;
+
+#ifdef Py_USING_UNICODE
+	if (PyUnicode_Check(cmd)) {
+		tmp = PyUnicode_AsUTF8String(cmd);
+		if (tmp == NULL)
+			return NULL;
+		cmd = tmp;
+		cf.cf_flags |= PyCF_SOURCE_IS_UTF8;
+	}
+#endif
 	if (PyString_AsStringAndSize(cmd, &str, NULL))
 		return NULL;
 	while (*str == ' ' || *str == '\t')
 		str++;
 
-	cf.cf_flags = 0;
 	(void)PyEval_MergeCompilerFlags(&cf);
-	return PyRun_StringFlags(str, Py_eval_input, globals, locals, &cf);
+	result = PyRun_StringFlags(str, Py_eval_input, globals, locals, &cf);
+	Py_XDECREF(tmp);
+	return result;
 }
 
 PyDoc_STRVAR(eval_doc,
diff --git a/Python/ceval.c b/Python/ceval.c
index 0f52a0bb814..801f08d15eb 100644
--- a/Python/ceval.c
+++ b/Python/ceval.c
@@ -3122,7 +3122,7 @@ int
 PyEval_MergeCompilerFlags(PyCompilerFlags *cf)
 {
 	PyFrameObject *current_frame = (PyFrameObject *)PyEval_GetFrame();
-	int result = 0;
+	int result = cf->cf_flags != 0;
 
 	if (current_frame != NULL) {
 		const int codeflags = current_frame->f_code->co_flags;
@@ -3898,16 +3898,27 @@ exec_statement(PyFrameObject *f, PyObject *prog, PyObject *globals,
 				       locals); 
 	}
 	else {
+		PyObject *tmp = NULL;
 		char *str;
 		PyCompilerFlags cf;
+		cf.cf_flags = 0;
+#ifdef Py_USING_UNICODE
+		if (PyUnicode_Check(prog)) {
+			tmp = PyUnicode_AsUTF8String(prog);
+			if (tmp == NULL)
+				return -1;
+			prog = tmp;
+			cf.cf_flags |= PyCF_SOURCE_IS_UTF8;
+		}
+#endif
 		if (PyString_AsStringAndSize(prog, &str, NULL))
 			return -1;
-		cf.cf_flags = 0;
 		if (PyEval_MergeCompilerFlags(&cf))
 			v = PyRun_StringFlags(str, Py_file_input, globals, 
 					      locals, &cf);
 		else
 			v = PyRun_String(str, Py_file_input, globals, locals);
+		Py_XDECREF(tmp);
 	}
 	if (plain)
 		PyFrame_LocalsToFast(f, 0);
diff --git a/Python/compile.c b/Python/compile.c
index 01e961b6910..2b2a9d5389a 100644
--- a/Python/compile.c
+++ b/Python/compile.c
@@ -4206,7 +4206,9 @@ jcompile(node *n, const char *filename, struct compiling *base,
 	PyCodeObject *co;
 	if (!com_init(&sc, filename))
 		return NULL;
-	if (TYPE(n) == encoding_decl) {
+	if (flags && flags->cf_flags & PyCF_SOURCE_IS_UTF8) {
+		sc.c_encoding = "utf-8";
+	} else if (TYPE(n) == encoding_decl) {
 		sc.c_encoding = STR(n);
 		n = CHILD(n, 0);
 	} else {