Power tariff blues

A press release issued by the government revealed that Prime Minister Nawaz Sharif has not approved the new tariff determined by National Electric Power Regulatory Authority (Nepra) with the express objective of not burdening the consumers. Nepra had determined a rate of Rs 13.81 per unit - Rs 2.29 per unit higher than the existing rate of Rs 11.52 per unit. However, the government through a notification had already indicated that a levy of 29 paisa per unit would be charged under an equalisation surcharge but added that this would be offset by a reduction in Fuel Price Adjustment (FPA) which is defined precisely as passing on the changing price of fuel/oil in the international market to domestic consumers.
The obvious question is what was the rationale behind the government's decision not to raise the tariff as proposed by Nepra while, at the same time, deciding to offset the equalisation surcharge with FPA? The answer lies within the realm of the critical role played by the power sector in the country's politics and growth and the economic compulsions of the sector that need to be dealt with on an emergent basis by the government. Given the continued political uncertainty that plagues this country and which has negative economic implications the Prime Minister was not in any position to allow approval of a rate rise by 2.29 rupees per unit.
However, leakages in the power sector, including rising receivables attributed to failure to clear bills by not only federal/provincial government entities but also the private sector with only a marginal decline in transmission and distribution losses estimated at 0.5 percent raise in cost of generation. Unless plugged through higher tariffs, the leakage would have resulted in massive subsidies that the government can ill-afford. In its first year in power, the PML-N government budgeted 240.4 billion rupees as total subsidies out of which power sector accounted for 91.5 percent. However, by the end of the year it had allocated 323 billion rupees for subsidies with the power sector accounting for 95.7 percent of the total. In the current year the government projected total subsidies of 203 billion rupees with power sector accounting for 91 percent. Data released by the Ministry of Finance shows that the power sector subsidies may again surpass the budgeted amount by more than 100 billion rupees unless appropriate measures are taken.
The government is, at the same time, working within the time bound conditions that it accepted under the 6.64 billion dollar Extended Fund Facility (EFF) approved in September 2013 by the International Monetary Fund (IMF). One of the conditions for the fourth tranche release in September was a 7 percent tariff hike - a condition that has not been met. This lapse on the part of the government is cited as one of the reasons for the IMF's decision to club the fourth and fifth review together for possible release of two tranches of around 1.1 billion dollars in December. The government's financing gap with the non-release of the IMF tranche has risen and hence the government is faced with an either/or situation: either raise tariffs, which is politically not feasible at the present moment in time or reduce subsidies to the power sector.
Thus, in the context of the EFF as well as macroeconomic constraints, the government wisely decided not to pass through the impact of reduction in international oil price through levying an equalisation surcharge effective 16th October, 2014. In the event that the international price of oil declines further, as is evident at present, mainly due to lower Chinese and Eurozone growth forecasts - a decline that is expected to go into next calendar year - the government would be able to reduce subsidies and thereby meet a critical IMF condition in December. However, in the event that the international price of oil rises, the government would be better off reverting to the FPA.
However, given the recent spike in litigation against government decisions it would not be surprising if this surcharge too is challenged in courts.