Power reforms need an urgent push

Power regulation is failing India and needs to be overhauled

India’s power consumption has historically grown in tandem with its gross domestic product (GDP). That is, for every one per cent growth in GDP, power consumption has grown by a similar rate.  But this equal relationship will not continue in the future, with electricity consumption expected to grow faster than economic growth. 

This increase in power consumption is highly desirable and is the outcome of policy success in many domains. For one, close to universal electrification and greater purchasing power have contributed to faster growth in household power consumption. India is embarking on a long electric vehicle (EV) journey, with many gains to be achieved by the expansion of cleaner, more efficient, and cheaper electricity-driven transport options.   

Even agriculture’s need for power is rising, going beyond the requirements of irrigation as we expand cold supply chains and build a more climate-resilient agricultural logistics ecosystem. In the manufacturing sector as well, greater automation and a shift away from fossil fuels are important, both from productivity and environmental perspectives. Then there are the emerging criticalities, such as those related to data centres.  The growth is going to be massive and the current baseline estimates for 2030 range between 25 and 30 Gw, from insignificant levels currently. 

While both market forces and policies are pushing towards rapid electrification, at the core of India’s electricity ecosystem lie the power distribution companies or discoms. It is well known that these entities have been making large losses for some time.  Consequently, their accumulated losses and debt run into many trillions of rupees. And this is after the central government has stepped in many times in the past and written off their debts. 

If inefficiencies, losses and debt were present in a few discoms, we could compare them with better performing ones and identify specific failure points.  But if poor financials exist in most state-owned discoms, clearly, they are a symptom of a deeper problem.  And what might that be? 

All discoms in the country are regulated entities, and the regulators are set up at the state level. The regulatory mechanism is similar across states in that they use cost-plus principles in deciding what the discoms can charge their customers. As anyone can guess, cost-plus pricing should ensure that all costs are covered.  So, then, why do we have such high losses among discoms? Is the problem with the regulator that they are not following cost-plus pricing principles?  Or is it a problem with the discoms in that they waste resources in inefficiencies that regulators across India don’t let them charge for? Many believe that state governments are reluctant to let discoms charge higher prices and, therefore, influence the state regulators to go slow on allowing price enhancements.  

Studies have shown that challenges exist in many areas. These include state governments inadequately compensating discoms for subsidies; discoms inadequately sharing their costs with regulators; and regulators not allowing past cost-revenue imbalances to be covered by future prices, among others. All of this points to problems with each of the key actors, namely, state governments, discoms, and even state power regulators, being responsible for various components of the larger problem.

However, in any regulated sector, the regulator plays many roles, and it is the job of the regulator to correct systemic problems. In other words, the role of state power regulation is not merely to ensure low prices but also to ensure long-term systemic improvements and maintain economic fairness principles. Regulators need to be the voice of the industry as well, need to take the case of their industry to the government. The Reserve Bank of India is a classic example. Its proactive efforts have helped power India’s financial sector growth. 

The key problem in India’s power sector, therefore, is not weak discoms; they are merely a symptom, but the state power regulators and those who control them. It is obvious that they are unduly influenced by state governments and are not independent as they were intended to be. This makes it difficult for them to withstand pressures that emanate from the urgencies that politicians have to face.  This is the central problem in any regulated system; benefits of regulation cannot be realised in the absence of regulatory independence. 

And, therefore, state-level power regulation is failing. And while the Union government may step in to fill the short-term needs of supplementing state discom budgets, it will need to correct the core problem at some point. This core problem is regulatory reform in the power sector. 

There could be many different solutions to this problem, and each may work depending upon how we enable the supporting ecosystem. These alternatives range from mandating the independence of state regulators through laws, to greater agency of discoms over pricing, and reverting to a centralised regulator.  Significantly, privatisation in the absence of such reforms will not solve the problem.  

Alternatives exist and need to be built upon.  One solution is to ensure state-level regulatory independence from state governments.  To do this, the mechanism of choosing and managing professionals for state power regulators needs to be assigned to the central regulator and not state government. But, of course, no state government will agree easily. The second, increasing discom agency over pricing in a regulated environment, will require highly nuanced regulation that balances cost control with operational flexibility. But this requires state regulators to possess very high quality expertise. The third, reverting to a centralised regulator, as was the case in the past, will need difficult legal reform and perhaps a Constitutional amendment.  

Privatisation by itself also does not solve this problem because private investors will require some control over pricing, or certainty that cost-plus principles will be maintained over the investment horizon. The endemic delays in the judicial system removes the possibility of enabling this through credible long-term contracts.   

But the need is great. Globally, and in India as well, access to high-quality and low-cost power requires massive investments not just in generation, but in transmission, distribution, metering, balancing and pricing. The current mechanism of short-term political goals driving electricity pricing decisions will not work. India’s economy needs a more farsighted approach.   

 

The writer heads the Centre for Social and Economic Progress. The views are personal