Vijay Kelkar | Natural gas reforms key to energy security

Vijay Kelkar | Natural gas reforms key to energy security
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First Published: Tue, Aug 25 2009. 01 15 AM IST

Updated: Tue, Aug 25 2009. 12 02 PM IST
In preparing this lecture, I was mindful of the fact that there is currently a high octane dispute regarding the KG (Krishna-Godavari) basin gas between two companies. This dispute has now gone to the Supreme Court. I have, therefore, made every effort to observe the Lakshman rekha.
India, as I have argued elsewhere, is on a “growth turnpike”. Barring the last 12 months of growth interruption thanks to the global financial crisis, India’s growth rate in recent years had accelerated to 9% per annum, while the manufacturing sector attained double-digit growth rate. Now that the international crisis seems to be waning, I do think we should be able to go back to our earlier dynamism and resume the accelerated growth path. We can do it for the simple reason that there are a number of growth drivers that are available to our economy.
India is going to be the “next growth miracle” of the global economy, and I do see that in the next decade or so, with “better governance and appropriate policies”, it can, in fact, become the fastest growing economy in the world.
Yes, my friends, you must have noticed that I slipped in the words “better governance and appropriate policies”. Inter alia, better governance means greater transparency and fairness, and an efficient justice system in terms of equitable access and speedy delivery.
Click here to read the full lecture (PDF)
Amongst all the policies, reforms of the energy sector will be decisive for accelerating growth as well as for promoting economic security. Within the energy sector, however, I would argue that it is natural gas which will be of strategic importance to our country and, hence, the need for a new natural gas policy.
Gas-abundant: A petroleum rig at Reliance Industries’ KG basin gas block. The country needs a new natural gas policy.
What oil was for the 20th century, natural gas will be for the 21st century. This is due to several compelling reasons.
Worldwide reserves of natural gas at current production rates are of the order of 60-plus years, about 20 years longer than crude oil. This does not take into account non-conventional sources of natural gas such as shale gas, gas hydrates and potential as a result of technological developments to convert coal into natural gas. Once these become technically viable, reserves could increase exponentially.
Compared with the petroleum products, natural gas burns cleanly and efficiently in any fuel application.
The international price of natural gas on heating value basis, including transportation costs, has always been significantly lower compared with petroleum products. For the last decade, it has been nearly half. Almost in every application, natural gas can substitute petroleum products. However, the success of natural gas substituting petroleum products in the transport sector has been somewhat less effective. Some countries with abundance of natural gas, such as Russia, have as much as 50% share of natural gas in the commercial energy basket, compared with a world average of about 25%.
Finally, the availability of natural gas is widespread geographically or less concentrated geographically than crude oil and, thus, enhancing energy security and market stability. This will become an issue of growing importance for our country.
The present policy approach for gas seems to be derived from a mindset that India is relatively “gas-short”, and this scarcity is attempted to be met through rationing or, in other words, allocating available gas through quantitative allocation with its consequent underpricing. Ironically, this approach only reinforces the shortage phenomenon as this discourages supply and enhances demand as prices are not allowed to play their full role.
This policy, which creates “rent” in the gas markets, gets reinforced through the “political economy” factors as a number of important players share these rents. The other conceptual shortcoming of the present framework is that when people think about gas, it is thought of as something distinct from crude oil, while, in reality, both being hydrocarbons, they are close substitutes. The fact that they are close substitutes is vividly reflected by how closely they are tracked in terms of prices in the international markets.
As buyers and sellers usually adopt long-term contracts, our own policies need to be stable and the authorities should always honour explicit or implicit commitments as this reduces policy uncertainties and encourages buyers and sellers to enter into long-term commitments.
The current procedure for determination of gas pricing being somewhat non-transparent, there is an element of uncertainty and enormous variance in gas prices in the same markets in India. For instance, both in Gujarat and Andhra Pradesh, among consumers, gas prices vary by almost 200%. Such price variation ironically discourages anchor customers such as the fertilizer and power sectors, creating further difficulties for making any large investments required for laying the pipeline infrastructure.
In other words, the present pricing policy framework is not leading to more rapid development of the natural gas sector in India—whether in terms of creating supply or demand.
How do we achieve this paradigm shift? Firstly, and most importantly, the policymakers will have to change their perspectives or their mindset by recognizing three important factors. Firstly, both oil and gas being hydrocarbons are close substitutes and these markets move in tandem internationally where the infrastructure for gas is well developed. Secondly, although oil and gas are both hydrocarbons, one is liquid and the other gaseous and, therefore, requires different logistics in terms of supply infrastructure. Hence, these two energy infrastructures create different market structures, which has some regulatory implication.
The third factor is that India is potentially a “gas-abundant” country. I am using the word “abundant” compared with availability of oil and compared with the present projections of demand for gas in the next 20 years. Given the right incentives for producers, it is possible to foresee India as achieving over a decade or so gas output level of more than 500 million standard cu. m per day (mscmd) from current supply level of 120 mscmd. These supply projections may be somewhat speculative, but I would argue these are not without basis.
I have talked to a number of knowledgeable experts, and I think it is possible to argue that from the current gas reserves of 30 tcf (trillion cu. ft), we can increase the reserves to more than 120 tcf within the next decade.
Mind you, I have not added to these reserves either the shale gas reserves or the gas supply possibilities from in situ gasification of the country’s deep coal reserves.
All potentially large gas reserves can become a reality only if we allow incentives to the producers. This requires that our exploration contracts should have transparency and complete stability.
In recent years, there have been instances of unilateral deviations from the stated policy and practices regarding the production sharing contracts, and this needs to be eschewed if we want to make any radical gains in finding new gas which is indeed there to tap. Exploration and production of hydrocarbons is inherently hugely risky, and such policy instability makes it even riskier—thus, discouraging the oil companies.
In addition, we should give freedom to producers to market their gas, provided the price determination is at arms-length and on a transparent basis which avoids transfer pricing or deliberate underpricing. This would mean, inter alia, long-term prices to be linked to international crude oil prices providing transparency like in our liquefied natural gas (LNG) contracts.
As I mentioned, natural gas is different than oil because of its transportation requirements. Large pipelines are required to transport gas, and once such pipelines are created, the market structure can become locally monopolistic. To create a competitive national gas market, we require a national gas pipeline grid, what I call a Natgas grid.
But working of this Natgas grid will have to be supervised by a regulator for ensuring transparency, competition and safety. This inter-state network has to work as a common carrier, and all inter-state pipelines would be built either through public or private sector companies, where construction, sizing, routing and pricing will be done on an open tender basis in consultation with the regulator.
One possible way of promoting gas markets could be that even where the cross-country or inter-state pipelines are under the private sector, 25-30% of capacity of such pipelines can be “crown” capacity, which can be either on “carried interest” or “participating interest” basis, and such capacity will be available to any buyer or supplier of gas with the toll charges which are determined by the regulator. This will enable the development of a gas market in India where third-party suppliers and buyers can use the common carrier.
This way, gas prices all over India will converge, barring inherent transportation costs, a tendency which is already observed in the US gas market which is fully liberalized. This will also vastly improve the bargaining power of our country in organizing large-scale gas imports, whether in the form of LNG or gas through pipelines.
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First Published: Tue, Aug 25 2009. 01 15 AM IST