Sunday, June 7, 2015

Unfettering Stranded Capacity

Government can't control market forces, but can and must fix regulatory issues.

First, the good news: the government does appear to be making serious efforts to tackle stranded capacity and stalled projects, as in the instances below. Such issues need to be resolved because of their effect on future investment and employment. Now, the bad news: one part is that some problems need solutions which are fraught with political risk. We want reforms, but don't want to pay for them. For instance, coal-based power needs additional investment to lower emissions. While beneficial, it will not be popular. Worse, sometimes even the path to resolution may not be clear, yet new ways have to be found, because business-as-usual along the paths taken is unsustainable going forward. This becomes evident in considering issues such as electricity distribution, where states have key responsibility and authority for some of what needs to be done. Concerning spectrum and coal allocation, there's widespread mistrust about operators getting something for nothing, sort of an East-India-Company syndrome, despite user benefits from lower rates and better services if there is appropriate regulation. We'll have to get over this mindset to stop doing ourselves in. This holds regardless of which party rules and at what level - the Centre, state or local government - or what their philosophy might be: rightist, leftist, something in between, or simply pragmatist.

The most prominent category of stranded capacity is where capital has been invested, but the capacity is unusable for some reason. Examples abound in infrastructure, in manufacturing, and in residential and commercial development, as detailed in the Economic Survey. But there are other categories of stranded capacity which are more difficult to address, because they are in the nature of opportunity costs rather than invested capital. They deserve equal attention because an opportunity loss, or benefit foregone from paths not taken, can result in as much detriment as from a stalled investment. But before we get into examples of opportunity costs, consider the more straightforward case of investments in power generation that are infructuous.

Stranded Power Generation

An estimated Rs 60,000 crore is unproductive in stranded power generation projects which stopped operating because fuel was unavailable. About a quarter of this relates to 31 gas-based plants of over 14,300 MW, nearly 60 per cent of the total gas-based capacity of 24,150 MW. Another 23 per cent or 5,500 MW is operating at below the 30 per cent plant load factor required to just cover costs. The government has devised a scheme using the Power System Development Fundto import liquefied natural gas to run some of these projects at 30 per cent capacity. Operators must compete through reverse-bids with a fixed tariff of Rs 5.50 per unit. The lowest bidders win PSDF support, which will be paid to distributors. There is a ceiling of Rs 3,500 crore to gas-based projects, and plants aggregating 8,000 MW had submitted bids by early May.

Regarding electricity distribution, press reports suggest that states buy only 20-30 per cent of their requirement at the prevailing low spot rates in the last three months,ranging from Rs 2.56 to Rs 2.82 per unit. This is because of the distributors' committed power purchase agreements as well as their weaker finances. In some cases as in Delhi, some old plants incur highoperating costs, and power from clean, gas-based plants costs more.2

Another serious problem is that of "regulatory assets" in Delhi. This euphemism covers under-recoveries because tariffs were set too low for years in response to popular demand. There was a crisis last year when NTPC refused to supply power until the distributors paid their dues, while the state owed the distributors Rs 20,000 crore. The problem is ongoing; meanwhile, the regulator has increased tariffs, but not enough to recover past losses. While a number of states have begun transmission and distribution reforms,
3 it's already evident with rising generation that unless financial and distribution capacity are built on sound principles, electricity supply cannot stabilise for users. We must grasp the nettle of a disciplined, responsible approach.

On a broader front, the government has been coordinating meetings between government officials, banks, and the RBI, seeking to resolve problems affecting some Rs 3.51-lakh crore in stressed projects in steel, cement, power and transport.

Opportunity Losses (or The Road Not Taken)
The regulations on radio frequency spectrum show how administrative rules can deprive us of readily available benefits. The most glaring example is the prevention of roaming using 3G spectrum. The resource was available, and was allocated to operators for various locations, but their roaming agreements were disallowed. This doesn't help us, whether from the perspective of government's increased share of revenues from greater usage, or the denial of user benefits from a better service offering. Instead, this approach constrains capacity by an arbitrary rule. Such issues need to be reviewed and rationalised to unfetter latent capacity towards attaining Digital India.

Another instance is that of limitations imposed on spectrum sharing which have nothing to do with technology. The reason exclusive spectrum allocations were introduced years ago was to prevent radio frequency interference. Now, imposing arbitrary limitations on spectrum usage results in denying ourselves available capacity. More radical and complex alternatives like pooling spectrum and facilities, and common carrier access for certain services, deserve consideration for exactly the same reasons: increased productivity and benefits from investments already made. Otherwise, it is like stranded capacity in stalled projects.

The same issues apply to the auction of mineral rights for core industries in domestic manufacturing. Any ingenuous fascination with free-market principles in allocating resources that overlook the fundamental requirements of a strong manufacturing base in a large country, or that don't comprehend the realpolitik of how free-market dogma is selectively argued, will leave us farther behind on the road to prosperity.

                                                  shyam (no space) ponappa at gmail dot com

1. Details of all stalled generation projects are at:, Annex-I, Annex-I(a) and Annex-I(b).