Column: In no state to subsidise

Updated: Mar 11 2014, 08:57am hrs
In the previous column, Financial Express, Striking a balance,, we dealt with how the Central Electricity Regulatory Commissions (CERC) formula to restore the financial viability of the two power plants, Tatas' and Adani's, at Mundra has hit consumers in five states by increasing tariff by more than 50 paise. In this column, we will examine what is happening to retail tariffs in different states.

Tariff subsidies made headlines recently when the AAP government in Delhi announced subsidies, targeted at consumers using less than 400 units of electricity per month, bringing down the effective tariff to half of what the Delhi Electricity Regulatory Commission had fixed. The move was quickly followed by Maharashtra and Haryana, which announced subsidies to bring down the tariff for identified categories of consumers. Provision of subsidy per se by the state governments is not precluded by the Electricity Act, 2003. However, section 65 of the Act provides that the state governments have to pay such subsidies up-front to the utilities. Despite the provisions of section 65, in reality, neither are the subsidies being paid up-front nor are the booked subsidies being paid by the state governments. Data for the period FY07 to FY12 (Reports of Power Finance Corporation on Performance of State Power Utilities) shows that, on an aggregate at all-India level, the uncovered subsidies (gap between subsidies booked by utilities and subsidies actually paid by the state governments) have ranged from R7.5 billion to R150 billion per year. In percentage terms, the uncovered subsidies have ranged 3% to 24 % of the total yearly losses suffered by utilities. Clearly, there is something beyond mere subsidies that is contributing to the total losses suffered by utilities.

Apart from uncovered subsidies, under estimation of the subsidy amount due to lower than actual estimates of cost of supply to the subsidised consumer categories, regulatory inefficiencies in terms of low tariffs, non-revision of tariffs on a timely basis, tendency to postpone the servicing of the legitimate utility costs by creation of regulatory assets, inability of regulators to rein in aggregate technical and commercial (AT&C) losses or improve energy accounting, as well as non-achievement of the regulator-prescribed operating norms by utilities have largely been responsible for the losses being suffered by utilities. Combined interplay of these factors has meant that the average per unit cost of supply has consistently remained above the per unit average revenue realisation figure.Between FY04 and FY12, the gap between per unit average cost of supply and revenue realised has increased from a level of about R0.36 per unit in FY04 to a level of R1.08 per unit in FY12. This has resulted in taking the accumulated losses to an unsustainable level of over R3,000 billion for the period FY07 to FY12 without taking subsidy paid into account or about R1,900 billion on subsidy-paid basis.

Response to the precarious financial position of utilities has come in the form of Ministry of Powers (MoP) scheme for financial restructuring of state-owned utilities in October 2012 and a November 11, 2011 order of the Appellate Tribunal For Electricity (Aptel). The Aptel order, a standing directive to the state commissions, addresses issues such as timely revision of tariffs, time-bound liquidation of regulatory assets, and timely and regular adjustment of fuel and power purchase costs. MoPs scheme, on the other hand, addresses short-term liabilities of the utilities, with state governments absorbing 50% of the liabilities and the remaining 50% being restructured and then neutralised by the utilities through the tariff mechanism. While the two initiatives are expected to yield positive effects on the long-term viability and sustainability of utilities, they will not be without tariff increases. For example, liquidation of outstanding regulatory assets of over R500 billion, as per the Aptel directive, would likely result in tariffs going up between R0.22 to R0.32 per unit across the entire consumer base of utilities during the three-year period of FY15 to FY17 (the Aptel order directs liquidation of outstanding regulatory assets in three years). This apart, closing the gap between average cost of supply and average revenue realised may well require upward revision of tariffs by as much as 30-32 % if collection efficiencies are not improved and transmission and distribution losses are not reduced. Bringing the utilities back to financial health couldgiven the need to increase the tariffs while not hitting the consumer harddemand provisioning of still higher subsidies by the states.

Since the marginal cost of supply at presentR7 to R7.25 per unitis higher than average cost of supply (about R5-5.25), there will also be a need for upward adjustment of consumer tariffs to service the additional generation, transmission and distribution capacity needed to meet the rising demand. With the private sector's share in generation increasing, timely payment to these generators is a must to maintain viability of their investment. In addition, a host of new issues that will put further severe upward pressure on tariffs are emerging. Dependence on imported coal, to the extent of 30% of the requirement, increasing generation costs by 10-15%; providing sustenance levels of electricity to 50% of the households needing annual subsidisation or cross-subsidisation of about R200-250 billion; limits to the provision of cross-subsidisation by industrial and commercial sector consumers (effective tariff for single-point, high-tension supply in Maharashtra was as high as R13 per unit before the recent subsidy announcement); the inevitability of falling back on high cost gas-based generation to meet peak power requirements in the absence of adequate storage-based hydro capacity; the additional cost of compensatory flexible (gas or diesel or hydro) capacity and/or electricity storage capacity and/or smart-grid capacity to optimally integrate non-firm wind and solar-based electricity generation; additional amounts required for servicing the sub-transmission and distribution capacity being created (under central government grants) under the Rajiv Gandhi Grameen Vidyutikaran Yojana are some such issues.

With the consumer already burdened by high tariffs, pressure on state governments subsidise further will mount and may explode as a major socio-political issue. However, with state governments already burdened with the absorption of 50% of the short-term loan of the utilities under the MoPs scheme as well as with meeting their obligations under the Fiscal Responsibility and Budget Management Act, it would be practically impossible for the state governments to meet any new demand for still higher levels of subsidies. Any solution, therefore, will necessarily have to focus on the cost-side of the power sector.

Effective regulation for efficient operations of utilities in terms of procurement of power by utilities and coal by generators; reduction of AT&C losses; improvement of energy accounting; adoption of demand-side management; use of pre-paid meters, in supply to vulnerable sections, also capable of supply beyond the sustenance level at non-subsidised rates; optimisation of generation by central load dispatcher rather than maximisation; improved power market designs for sharing and amortisation of capacity costs; promotion of cross-border trade of electricity will have to be pursued urgently. This would require firm political willmainly in the statesand competency building initiatives for our power sector institutions, including state government energy/power departments, utilities, state and central generating, transmitting and load dispatch centres, electricity regulators and policy making organisations.

Pramod Deo & Vijay M Deshpande

(Concluding column of a two-part series)

Deo is former chairman and Deshpande is an energy economist and former principal advisor (economics), CERC