New Delhi: In an attempt to help state electricity boards (SEBs) improve the state of their finances and, through this, reduce distribution losses, the government plans to set up a national electricity fund which will raise money that can be loaned to these boards at low rates of interest.

The creation of the fund is likely to be announced in the 2007-08 Union Budget.

“The Prime Minister has asked the Planning Commission to work on the details of the fund which will enable Rural Electrification Corp. (REC) and Power Finance Corp. (PFC) to access concessional funds (which they will, in turn, lend) for providing better electricity distribution through the state utilities," said a senior government official who did not wish to be identified.

Most SEBs make substantial losses and are either not able to raise money or can do so only at very high rates of interest. The only organizations willing to lend money to them are PFC and REC, but even their means are limited. The new fund will address this issue. Around 40% of the power generated is lost because of inefficient transmission and distribution; by improving their distribution networks, SEBs will be able to better serve customers.

PFC and REC together account for 60% of all the money loaned to the power sector. These two organizations need to substantially increase their lending portfolio in the five years to 2012 to meet a shortfall of around $100 billion (on a $258 billion, or Rs10.16 trillion, budget).

“The success of the fund will depend upon whether it will be linked to target and performance and there will be effective monitoring," said K. Ramanathan, fellow at The Energy and Resources Institute (Teri). His reference is to linking the performance of SEBs to loans, one way of ensuring that these electricity boards do actually work towards improving their distribution networks.

Apart from the fund, the government may also allow PFC to raise money by issuing bonds which, when purchased by retail investors, will allow them to avoid tax on their capital gains. “We can access cheap funds if we are allowed to float tax free bonds and apply for external commercial borrowings (ECB) minus the withholding tax," said a senior PFC executive who did not wish to be named.

“ECBs offer the advantage to reduce interest rates and are attractive even after hedging," said a senior REC executive who did not wish to be identified.

To raise loans through the ECB route, the companies need to get the approval of the finance ministry and the Reserve Bank of India (RBI).

RBI has generally discouraged ECBs as this adds to the problem of excessive capital inflows into the country, which the bank manages through monetary policy tools to ensure price stability.

While power generation capacity is being enhanced in the country from the present 135,000MW to around 213,000MW (by 2012), inefficiencies in power transmission and distribution are hurting the sector.

The Planning Commission, India’s apex planning body wants states to lower the losses from an average 40-15% by the end of 2012.

Referring to the 40% loss in power due to theft and pilferage, Anil Razdan, the Union power secretary had earlier said: “No system in the world can absorb such a loss."

State electricity boards in Andhra Pradesh, Gujarat, Karnataka, Rajasthan, Haryana, Punjab and Maharashtra depend on subsidies, which, in some instances, are as high as 25% of the annual power revenues accruing to the state.

However, this dependence on subsidies and the political compulsion of providing free power to farmers wreaks havoc with the financials of most SEBs.