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Illustration by Jayachandran/Mint (Illustration by Jayachandran/Mint)
Illustration by Jayachandran/Mint
(Illustration by Jayachandran/Mint)

Burning away India’s energy security

The pincer of inflation and fiscal burden is the end product of the mismanagement of energy prices

India wants to achieve energy independence by 2030. Three recent developments show how far it is from this laudable goal.

Exhibit 1: One of the stories that emerged during the visit last week by US secretary of state John Kerry was intriguing. The US offered priority access to its shale gas output as long as India agreed to cut oil imports from Iran, a country that the US is trying to isolate. The report was not confirmed officially, but it throws light on India’s desperate search for energy sources and security, even at the cost of an independent foreign policy. It is another matter that New Delhi has mismanaged its energy production and pricing in a dramatic fashion in recent years. Instead of looking for illusory solutions abroad, the country and the government need to first fix the broken system at home.

So far, the government has largely been unable to solve the problems that plague the energy sector. These can be put in two buckets—getting its energy mix right and letting the markets determine energy prices. The lynchpin of stability and growth in the sector is getting the prices of energy products right. India has failed spectacularly on this count.

Exhibit 2: A recent Bloomberg report highlighted how India’s coal-fired power plants burnt up the scarce resource at their fastest pace in 31 years. While India has abundant reserves of coal (its reserves to production ratio at the end of 2012 was close to 100%), the gap between what it produces and what it consumes has grown at a rapid, if not alarming, pace in recent years. For example, in 2012-13, India consumed coal equivalent to 298 million tonnes (mt) of oil—a figure that grew by 10% over the previous year. Its production stood at just 229 mt, implying a consumption and production gap of 69 mt.

The vast bulk of this gap is now being met by expensive imported coal. In fact, analysts predict that India’s insatiable demand for coal is likely to fuel the fortunes of big international natural resources companies such as BHP Billiton and Indonesia’s PT Adaro Energy. If anything, India is likely to overshadow China as the world’s biggest importer of coal. Finance minister P. Chidambaram has often warned that the growing coal imports will add to the pressure on India’s balance of payments.

The bulk of India’s coal consumption is for power generation. This is in spite of the fact that the country is blessed with abundant hydropower potential. But delays, red tape and environmental concerns have nearly killed that source of power. Normally, this would have led to some diversification towards coal- and gas-fired power plants. But a combination of mis-pricing and an inability to rein in large private producers of natural gas—who are now in a position to dictate terms to the government—has skewed consumption in favour of coal.

Which brings us to Exhibit 3, mis-pricing of energy resources at both production and consumption ends. A good example of this is how the government has dealt with the pricing of natural gas. On Thursday, a cabinet committee doubled the price of natural gas from $4.2 per million metric British thermal units (mmBtu) to around $8.4 mmBtu. It’s interesting that this amounts to an administered price increase for the production of natural gas in the private sector. The benefits of this price increase, which was opposed by the power ministry, will accrue to a few companies. A better way to organize prices would have been to permit an independent regulator to determine the prices or organize a natural gas exchange where spot and forward prices are determined by demand and supply. Instead, the government relied on a rather non-transparent politico-administrative mechanism to do the job.

All this has cascading effects at the end of the consumers. On the one hand, where a pass through of prices to consumers is possible, either because companies have pricing power, or, equivalently, have a set of captive consumers, a price increase leads to inflationary consequences. On the other hand, where increased prices cannot be charged from consumers—say, politically sensitive constituencies—the price hikes only end up bloating the losses of the companies concerned. If these happen to be in the public sector, the government’s fiscal burden rises. Either way, the pincer of inflation and fiscal burden is the end product of this mismanagement of energy prices.

Should energy prices be determined by the markets or fixed by the government? Tell us at views@livemint.com

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