IPPs and capacity payments

Let me ask some basic questions to start the discussion. What is the main issue with the Pakistani economy? Is it not the trade imbalance? Is it not a fact that our exports are less than our imports? Is it not correct that we earn fewer dollars and need more or spend more?

Is it not a fact that our economy is largely intertwined with the USD? Is it not true that when the demand for a particular thing increases, it has a direct impact on its price? Is it not true that the USD appreciates, and the PKR depreciates when both public and private sectors need more dollars than are available to Pakistan?

Who develops power policies including the concessions and returns on investment; the government or the private sector? Why are power policies and concessions offered or needed anyway? Are power projects not capital intensive? How many large power projects have been set up in developing and underdeveloped countries like Pakistan without off-take arrangements on a take-or-pay basis?

During the first 60 years of our independence, we set up circa 20 GW of power capacity. In the next 15 years, we almost doubled that capacity. Most of those projects cannot be termed as IPPs! Public sector projects like those done by WAPDA, the Pakistan Atomic Energy Commission (PAEC), the RLNG ones, and the CPEC projects contributed significantly to the current aggregate installed capacity in the country, and the resultant capacity payment burden.

Gohar Ejaz, a former interim minister, has been highlighting this issue in the recent past. Jamaat-e-Islami and others have joined the bandwagon. Ejaz himself says that out of nearly PKR 2 trillion in capacity payments, the IPPs’ share is approximately 15%. He correctly distinguishes between IPPs and CPEC projects, the latter essentially being G2G projects.

Let us do a root cause analysis to understand the capacity payment trap. The root causes of the current high capacity payments and electricity tariffs are as follows:

1. Trade imbalance: Constant pressure on the PKR results in depreciation, leading to inflation. Since most components of the economy are linked with the USD directly or indirectly, the rates of all commodities necessarily increase. Like everything else in the country, both capacity payments and energy payments have increased massively due to PKR depreciation.

2. Poor decision-making: The decision-makers either lack good intent, capability, or both, as deemed necessary by experts for formulating policies or making major decisions with far-reaching consequences. We note that businessmen spend a lot of time and money conducting feasibility studies before making investment decisions. In contrast, governments sometimes decide overnight. How did we allow the capacity to almost double in 10-15 years without considering our economy and the buying power of our people? Why did the government allow the concurrent development of WAPDA projects, Genco projects, PAEC projects, RLNG projects, CPEC projects, along with regular IPP projects in such a short period? Why did the government not listen to experts who were forewarning about the capacity payment trap? Between 2013-2019, no less than 9,000 MW capacity was added based on imported fuels (imported coal and imported RLNG). These are brand new projects, yet their utilization factor has been low and is likely to be even lower during 2024-25. It appears several misconceived decisions were taken for political mileage. The country is now facing the brunt of those decisions.

3. Power Availability: For the poor and low-middle class populace, what is the lesser evil? Highly expensive power or inexpensive power available for less than 24 hours a day? Did the government consider the very low energy demand during winter? How did the government plan to pay capacity payments during winter?

4. Major leakages: What steps have been taken to address other issues that significantly impact the energy tariff, such as high technical losses, theft, and chronic non-payment? The aggregate financial loss under these heads is greater than the aggregate capacity payments being made to the IPPs.

Yes, the power policies should have been formulated with thorough deliberation and consultation. The concessions and returns on both debt and equity should have been optimized. New capacity should have been added after taking into consideration all aspects of the economy, including its unholy linkage with USD. Some government officials would say hindsight is 20/20; however, if the decision-makers take credit for what they achieve, they should equally accept the blame for creating a mess.

Certain people are trying to politicize the IPPs and their returns on investments. Even if all IPPs set up under the 1994 and 2002 power policies mutually terminate their PPAs and those set up in the recent past agree to waive 100% of their return on equity, the aggregate reduction in capacity payments would only be fractional.

So, why so much noise? Every time we make noise like this and take some coercive action to meet popular demand, we make new investments in Pakistan even more expensive. This is how the investors react.

Had the PKR stayed at 100 to a USD, the capacity payments would be approximately one third, i.e., PKR 750 billion as against PKR 2.1 trillion. Had the government added newer capacity wisely and after due diligence, the capacity payments would further be halved. Had the government dealt with the technical and non-technical losses via privatization of distribution companies or otherwise, the power tariff would be even lower.

In the subsequent article, I shall further discuss these issues and offer potential solutions.

Copyright Business Recorder, 2024