The narrative dominating Pakistan’s discourse on electricity prices has painted Independent Power Producers (IPPs) as the villains responsible for the country’s escalating energy costs. Media outlets and public opinion frequently accuse these private entities of profiteering through capacity payments without delivering corresponding electricity.
However, a closer examination reveals that these accusations oversimplify and misrepresent the complex dynamics at play in Pakistan’s energy sector. To understand the root of the problem, it is essential to delve into the history of energy policy decisions and the regulatory framework governing IPPs.
Historical context: Shift to IPPs
In the pre-1990s era, Pakistan’s government directly funded and managed electricity generation projects, including significant hydroelectric dams. These projects were developed under the federal government’s Public Sector Development Programme (PSDP), and the generated electricity was provided without the immediate pressure of financial returns. However, a pivotal policy shift occurred in the late 1980s when the government decided that future electricity generation projects would be financed and constructed by IPPs. This move was part of a broader strategy to attract private investment and alleviate the fiscal burden on the government.
Regulatory framework and government control
The energy sector in Pakistan is characterized by extensive government regulation and monopoly control over the entire value chain. The government determines the amount of electricity to be generated, sets the fuel prices (excluding coal), controls transmission and distribution, and formulates overarching energy policies. Consequently, IPPs have little to no influence over the terms of their investment plans.
Pakistan’s pricing regime for electricity is predominantly “Cost Plus,” where the regulator, the National Electric Power Regulatory Authority (NEPRA), decides the allowable costs and sets consumer prices to ensure cost recovery plus a profit margin. This system does not foster competition or allow market forces to determine prices, leading to inefficiencies and distortions in the energy market.
The role of IPPs and capacity payments
IPPs in Pakistan operate under long-term Power Purchase Agreements (PPAs) with the government. These agreements include provisions for capacity payments, which compensate IPPs for maintaining available generation capacity, irrespective of whether the electricity is actually dispatched. This mechanism is intended to ensure that sufficient capacity is available to meet peak demand and maintain grid stability.
Critics argue that capacity payments are unwarranted, especially when IPPs do not generate electricity. However, the reality is that these payments are a contractual obligation agreed upon by the government. Moreover, the government, through the Central Power Purchasing Agency Ltd (CPPA), dictates the dispatch schedule and maintenance of these plants, leaving IPPs with no autonomy over their operations or ability to sell electricity to entities other than the government.
Recent developments and market reforms
In recent years, there has been a push to liberalize the electricity market in Pakistan. NEPRA has introduced policy papers on Business-to-Business (B2B) electricity sales under the Competitive Trading Bilateral Contract Market (CTBCM) framework. However, the CPPA’s demand for a substantial rent (Rs27/kWh) to facilitate these bilateral agreements has effectively stymied the potential for true market competition.
Generation capacity and fuel import dependency
IPPs started generation of electricity after the introduction of the Power Policy 1994. However, from 2013-2019, significant generation capacity was added through IPPs, including large-scale LNG, nuclear and coal-based projects. These plants, with a combined capacity of approximately 9,000 MW, rely heavily on imported fuels, making them susceptible to global price fluctuations and foreign exchange variations. Remember the dollar price was Rs105 in 2013 against today’s rate of Rs280. Currently, around half of Pakistan’s electricity is generated from imported fuels. In 2023, out of a total import bill of about $80 billion, Pakistan spent $27 billion on importing LNG, oil, and coal. This dependency exacerbates the volatility in electricity costs.
It is interesting to note that the GOP itself is the biggest owner of the IPPs projects in the country. Presently, the government owns 100% of all CPEC and Nuclear power plants while it owns 75% of LNG-based power plants. In the same order, the government receives more than 80% of the capacity payments while the actual “Private IPPs” only receive 15% of the capacity payments. But the irony here is that the GOP has borrowed heavily from Chinese entities and Exim Bank to fund these projects.
Systemic issues: circular debt and revenue recovery
Pakistan’s energy sector is plagued by systemic issues such as circular debt, which arises from the gap between the cost of electricity production and the revenue recovered from consumers. The government issues guarantees to cover this shortfall, leading to borrowing by state-owned enterprises (SOEs) and creating a tangled web of debt across multiple balance sheets. Furthermore, inefficiencies in bill recovery, coupled with widespread electricity theft, compound the financial woes of the sector.
Towards a balanced perspective
Instead of vilifying IPPs, it is imperative to address the underlying structural problems in Pakistan’s energy sector. Key reforms are necessary to enhance efficiency, reduce costs, and promote competition:
Reducing state monopolies: Opening up the electricity transmission and distribution network to competition can drive down costs and improve service quality. A competitive market structure encourages innovation and efficiency across the energy value chain.
Full cost recovery: Ensuring that all consumers pay for the electricity they consume is crucial. This involves improving bill recovery mechanisms, reducing theft, and eliminating unfunded subsidies. A transparent and accountable billing system is essential to maintain financial stability.
Commodity-based trading: Transforming electricity and gas into freely traded commodities can provide price signals that reflect supply and demand dynamics, benefiting consumers. A liberalized market can attract investment and enhance the overall resilience of the energy sector.
Seasonal pricing: Implementing seasonal pricing can optimize electricity consumption patterns. For instance, lowering tariffs during the winter months, when demand is low (around 12,000 MW), can stimulate consumption and reduce the disparity with peak summer demand (around 35,000 MW).
Smart meters and prepaid systems: Deploying smart meters can minimize human intervention in meter reading, reduce errors, and facilitate prepaid systems for defaulting customers. Smart meters also enable real-time monitoring and management of electricity usage.
Efficient gas allocation: Prioritizing gas supply to more efficient power plants can maximize electricity generation from the same fuel input. This approach can double the output compared to older, less efficient captive plants.
The energy crisis in Pakistan cannot be resolved by scapegoating IPPs. These private investors have operated within the constraints and terms set by the government, navigating significant country risks. For a sustainable resolution, Pakistan must undertake comprehensive reforms to dismantle state monopolies, enforce full cost recovery, and embrace market-driven mechanisms.
By fostering a competitive and transparent energy market, Pakistan can attract future investments and ensure a stable and affordable energy supply for its citizens. It is time to shift the focus from blame to constructive policy action and reform.
Copyright Business Recorder, 2024
The writer is a civil servant with deep interest in the oil, gas and climate change issues
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