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| Ashwini Chitnis & Shantanu Dixit: No short cuts to power reform | |
| Diluting the competitive bidding process in power generation is no solution to sectoral inefficiencies | | Ashwini Chitnis & Shantanu Dixit / September 28, 2011, 0:52 IST | |
 Power Minister Sushil Kumar Shinde recently said that private sector participation in power generation would go up from 29 per cent today to 52 per cent by 2017. Indeed, over the last five years, a capacity of over 42,000 Mw has already been contracted through the bidding process. However, most of these projects have yet to commence operations, and many developers of future projects claim that they may be unable to meet contractual obligations. What seemed like a murmur of complaint from some developers has now spiralled into a clamour for diluting the existing bidding framework. This does not bode well for the power sector, given the severe shortfall India faces.
Developers contend that they cannot adhere to the Power Purchase Agreement (PPA) mainly for two reasons. One, monopoly government agencies like Coal India Limited do not ensure timely and adequate supply of coal. Two, the price of imported coal fluctuates and/or the terms of contract for procurement have changed. The developers claim that the tariff proposed by them in the PPA cannot, therefore, be met since it jeopardises the viability of the project itself. Essentially, they are asking that any additional costs owing to factors they may not have considered at the time of bidding be passed on to consumers. However, such a move would keep the tariff open-ended and bring back the vices of the Memorandum of Understanding route, negating the benefits of competition. This article analyses the bidding framework to explain why such an eventuality would develop.
The rationale for introducing competition in power generation is based on the assumption that the private sector, by virtue of its entrepreneurial skills, is best suited to handle various risks if the right incentives are provided. Such incentives necessarily include a level playing field along with legal provisions to safeguard the sanctity of contracts. Accordingly, the Electricity Act (2003) lays out a policy and regulatory framework to encourage private investment. Current bidding guidelines provide the bidder sufficient flexibility through a multi-part tariff structure that allows them to quote escapable (or indexed) as well as non-escapable components for both capital charges (fixed) and fuel charges (variable). This framework has succeeded in attracting investments to the tune of Rs 1.6 lakh crore, with more projects in the pipeline.
The framework allows developers to (entirely) pass on escalations in the fuel price for both domestic and imported coal. However, the risks associated with ensuring fuel availability, and managing risks in the country from where imported coal is sourced, should essentially be borne by the developers. Accommodating uncertainties beyond the current framework can potentially free developers from accounting for even controllable risks associated with fuel, and set a precedent for passing through inefficiencies on account of bad planning. This may, in turn, encourage developers to bid based on risky and uncertain fuel supply arrangements. Dilution of contracts and guidelines to allow pass through of such risks may also lead to various gaming possibilities, thus eroding the very essence of competition. Further, there could be bidders who may have been prudent in their fuel risk assessment but lost in the bidding process. Revising tariffs to pass through risks that were willingly accepted by the winning bidder is not only unfair and unjust but it is also completely at odds with the logic of introducing competition.
PPAs also allow sellers to meet their obligations by supplying power from alternative fuel or generation sources. For the last year or two, short-term market rates for power have been comparatively low and fluctuating within a narrow band, barring exceptional events such as elections. So in the short run sellers can meet their obligations by sourcing power from exchanges or other sources. More importantly, we must remember that economic utilisation of resources does not necessarily imply viability of all projects.
It must be highlighted that currently a strong case is being made for amending contracts and guidelines to accommodate fuel sector inefficiencies. However, if the fuel sector undergoes changes in the next few years (because of, say, auctioning of captive coal blocks, efficient mining practices, increased imports, a pooled pricing mechanism, or changes in global fuel prices), and if developers succeed in procuring fuel at lower rates, it is unlikely that there will be a similar push to pass on such gains. In fact, it will be asserted that the “sanctity of contracts” must be maintained and “regulatory certainty for encouraging investments” should be ensured. It will be very difficult for distribution companies, consumers and regulatory commissions to keep track of how fuel sector developments are impacting a particular project, and to prevent the possibility of windfall profits in such cases. Curiously, developers aggrieved by fuel sector inefficiencies have been proposing changes in bidding guidelines rather than forcefully demanding fuel-sector reforms. For example, there does not seem to be an adequate push from developers and other stakeholders to demand better governance of the coal sector.
Finally, it can’t be denied that constraints and inefficiencies in the domestic fuel sector are currently a major hurdle in further optimising generation costs. The sector today faces the dilemma of whether it should take the easy route of passing through these inefficiencies by modifying the bidding framework or take the harder route of improving fuel sector governance. Nothing captures this predicament better than the maxim: “the easy road leads to the hard life and the hard road leads to the easy life.” A long-term holistic view of the power sector makes it imperative to take the harder route of establishing a tradition of strong enforcement of contracts and improving fuel sector governance by implementing long-neglected policy measures.
The authors are associated with Prayas Energy Group
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