The cost of gas pricing reform – Explainer

There is concern that when the price ceiling is removed and prices are linked to the 10% oil slope, gas could become unaffordable for users.

The ceiling of $6.5/mmBtu will drive a cut of 24% in the price of domestic gas on April 1, 2023

The recommendations of the Kirit Parikh panel on gas pricing, tipped to be approved soon, will bring relief to user industries in the short term. However, there is concern that when the price ceiling is removed and prices are linked to the 10% oil slope, gas could become unaffordable for users. FE decodes the impact of the new pricing regime

The recommendations

The Parikh panel has suggested a floor price for domestic gas at $4/mmBtu (million British thermal units) and a ceiling of $6.5 mmBtu with an annual increase of $0.5/mmBtu. It has also said prices should be deregulated within the next 4-5 years, by January 1, 2027, by removing the floor and the ceiling. 

It wants the legacy domestic gas prices to be linked to a 10% slope of crude oil prices.  For HPHT (high pressure, high temperature) gas, it suggests the ceiling be removed, but only from January 2026, so that most of the current HPHT contracts are not impacted. No change has been suggested in the pricing mechanism for gas produced from new and difficult fields; Reliance-BP and state-run ONGC will benefit from this, given their offshore assets in the KG basin.

How these will play out

The ceiling of $6.5/mmBtu will drive a cut of 24% in the price of domestic gas on April 1, 2023, given the prevailing price is around $8.57/mmBtu. Had the existing global hub-based formula 

for APM (administered pricing mechanism) gas been continued, April 2023 would have seen prices move further up by a dollar, or 12%, to $9.6/mmBtu. Hence, at $6.5/mmBtu, the committee’s price cap would provide a much-needed near-term relief to consumers such as city gas distributors(CGDs) for whom CNG (compressed natural gas) prices are currently around `80+/kg. 

The floor price would help cover the cost of gas production by Oil India (OIL) and Oil and Natural Gas Corporation (ONGC). GAIL’s LPG division would also benefit at a time when seasonality affects realisations.

Impact on CGDs

Analysts say the cost of gas for CGDs has risen fivefold since H1FY22. They believe even a price of $6.5/mmBtu would imply the feedstock gas cost would be up a sharp 4.5-5.5 times compared with the cost in September 2021. The recently approved marketing rules for new deep-water gas production and the priority allocation for CNG & residential gas requirements of the city gas sector will reduce their dependence on the volatile global spot LNG market. When the APM gas price went from $6.1 to $6.8/mmBtu, most city gas distributors did not hike prices too much in anticipation of relief. Compared with the required price hikes of Rs 12-14 per kg, IGL raised prices by Rs 3/kg, and MGL by Rs 9.5/kg, while some like Gujarat Gas left them unchanged. CGD players are expected to pass on a part of this cut in domestic gas prices (pre-tax cut of ~Rs 7/kg for CNG).

What are the concerns? Is the recommendation on freeing up prices completely likely to be accepted? 

Analysts estimate that a $2/mmBtu drop in costs can lead to a cut of about `10/kg from retail prices, with cooling spot LNG prices also lending support  (10-15% of priority mix and down to $13-14/mmBtu). At the same time, they are concerned about the removal of the ceiling and linking of the APM price to oil prices from January 2027. If oil prices shoot up, this could, over the long term, make CNG and piped gas more expensive for the consumers. It could also make gas-based power costlier and increase the government’s fertiliser subsidy burden. Free pricing could, however, encourage investments in domestic gas exploration and production. 

The panel has sought to strike a fine balance between “fair price to the end consumer” and the need to bring in “a market-oriented, transparent and reliable pricing regime”. However, given that India’s gas economy hasn’t matured yet, and that domestic supplies are limited, completely freeing up gas pricing could inflate costs across the value chain. While it is necessary to ensure attractive returns for gas producers, cost equations ought to be one of the determinants of gas pricing, till the domestic supplies and LNG import infrastructure are beefed up. 

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First published on: 24-03-2023 at 02:15 IST