Download Pricing of Energy Products

IN The Telegraph” of July 31 2006
Confusion in Pricing of Energy Products by S L Rao
We are very short of electricity in India. The reasons are the low levels of
investment and the poor generation of surplus funds within the sector. These are due
to populist pricing so that much power sells below cost, the inability of the political
leaderships to create public opinion to pay costs to serve, high costs of staff and
administration, high inefficiencies particularly in transmission and distribution, and
high levels of theft with collusion from distribution company staffs. However, the
other reason for shortages, which will confront us increasingly in the coming years, is
the shortage of the inputs of fuels or water required for generating electricity. The
present nuclear agreement under negotiation between India and the USA will if
ratified by us and the Americans, enable us to generate nuclear energy and to that
extent diminish the effects of the restrictions posed by high costs of oil and gas.
The major power generation in India is by burning coal and using stored or
running water in hydroelectric projects. Coal has been dominant for many years.
From the time Minoo Masani wrote “Our India” almost seventy years ago, we have
been brought up to believe that India has unlimited reserves of coal, of low quality in
calorific value, high ash, but quite capable to generate as much electricity as we need
for centuries. Recent articles (by TERI researcher S K Chand), not denied by
government, suggest that extractable/recoverable coal reserves are perhaps enough to
meet demand for thirty years ahead, (best estimate of others is sixty), not the hitherto
projected 200 years or more. India imported 13.5 million tones of coal in 2005-06 &
will rise to 40 million tones next year. Global coal prices more than doubled between
2003 and 2004. Oil and gas prices have gone up by more.
In some locations in India there is relative parity between imported coal and
gas. Long-term contracts for gas at lower than present market prices and the higher
calorific value of gas yielding higher energy output in relation to coal are the cause.
However, foreign suppliers are beginning to back out of long-term contracts, as
Iran has just done with us, tempted by the large windfall profit from rising gas
prices. It is not surprising that private gas producers in India are trying to do the
same.
Domestic or imported coal is the better option at present prices in most of
coastal Gujarat, coastal Maharashtra, Karnataka, Kerala and southern tips pf
Tamilnadu). For them, gas is not the optimal option even if available at
$4.50/MMBTU. It is not. Presently the price is almost double. But imported coal
after freight costs, is unaffordable in most of North India.
However, imported gas is not the only choice available to us. There is also
domestic coal and domestic gas. The lesson is that we must not avoid using any
fuel source for generating electricity, since we are short of all fuels.
Indian state governments have put rigid caps on prices of electricity. These are
meant to support the poor and needy, though there is substantial leakage to betteroff groups. Inefficiency and theft raise costs. Neither free or below cost supplies to
some nor theft is going to change dramatically for many years. Yet, we must
generate electricity for economic growth and the well being of our people.
Electricity cannot therefore afford sharp escalations in fuel costs. Escalations will
further raise subsidy costs. Subsidized end prices to some at below costs to serve
them are met largely by higher prices to other electricity consumers. Susidy costs
will remain high in this situation.
How do we resolve the conundrum of capped electricity prices and uncapped
coal and gas prices and yet meet the growing demand for electricity? Prices of
imported gas or coal are not within our control, except when they are from
overseas fields owned by us. We own little and there is little coming from them
today. We do not have control on imported LNG prices except with long-term
contracts. There is not much of that and suppliers might well, like Iran, renege on
contracts to take advantage of the high prices in the market. Profiteering owner
nations rig the international ‘market’ prices for gas. They want to make as much
money as possible, as do refining and distributing companies that want the same.
What we must do is to segment both the supplies and uses of gas in India. This
requires regulation of use, and regulation of energy prices. Fuel usage is and will
be for transportation (small today but will grow for environmental reasons), urban
domestic/household consumption (small today but set to grow), and other uses-by
industry, railways, farmers, etc. LNG is the most expensive. Its use could be
largely confined to uses like transport and household uses. These have no cap on
their end prices. It is possible for pipeline operators to exactly determine whose gas
has gone to which user and so differential pricing for gas is perfectly feasible.
Electricity generation must use domestic and imported coal, and domestic gas
(apart from others like hydro, renewables, etc). Domestic gas must be reserved for
electricity generation. Imported coal will go to such locations for generating
electricity where it is economical. Independent regulation must transparently
approve the input prices of all of them in relation to electricity tariffs. It must also
recognize the huge exploration risks for gas. The returns must provide adequate
margins to allow gas exploration risks to be undertaken.
Imported gas prices have a close relationship to ruling international ‘market’
prices. These are subject to manipulation by a cartel of suppliers and to variation
depending on the international situation. The consequent windfall profits have
made producer countries and foreign companies very rich. We must not allow
Indian firms supplying gas from Indian gas fields to make such windfall profits.
They must sell only in India.
As of now, electricity generation in India is increasingly using coal. In future
years, if the nuclear powers agree, India might also generate more nuclear power.
We must use all possible sources. We must also generate as much electricity at
least from domestic gas as we can, to meet the huge demand for power.
In sympathy with rising gas prices, prices of other fuels like imported coal and
uranium are also rising. There is no option but to prepare Indian consumers to pay
much higher prices for electricity than they are paying today. This is a job for
political leadership. There has been none of that until now. It cannot be postponed
any further.
Energy Pricing Policy for India must have the following features until
electricity retail prices can be uncapped:
a) Claim all gas discoveries in India as national resources and reserve their
use for power generation only.
b) Regulate gas prices in relation to regulated end user electricity prices,
providing adequate incentive to cover future risks in further exploration
and discovery.
c) Reserve the use of gas coming by sea as CNG, primarily for users who can
afford its price. These would be mainly transportation and domestic
household uses, and for these uses domestic gas must not be made
available.
d) Prices of other input fuels, particularly domestic coal for electricity, must
be regulated in relation to electricity prices. The unfortunate turf protection
between ministries (Coal, Power, Petroleum, etc) has prevented this obvious
integration at the level of regulators.
These suggestions are certainly interferences with ‘market’ determined
prices. They are unavoidable in India’s present peculiar circumstances. They
might require legislation and renegotiation of some contracts. Our political
leadership should also together work to change price, supply and demand
constraints (1269)