Column: Learn from the UMPP shocks

Oct 21 2013, 03:43 IST
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SummaryThe government should have factored in pass-through for variable costs for UMPPs much earlier

We are facing some very interesting challenges in the power sector. On one hand we have a huge power shortage. On the other, the lack of demand from distribution companies is forcing power-generation companies to operate at sub-optimum levels, with lower plant load factors (PLF). Full recovery of fixed charges of the power plants can’t be made at a lower PLF, resulting in either losses for the entity or lower profits—and both don’t augur well for the economy. The coal mining and supplier companies are not scaling up production, citing lack of demand from the generation companies. So, we have dissatisfied consumers, and unhappy power and coal companies. The slowing down of the economy, particularly the considerably eroded demand from the manufacturing sector, is adding to the power sector’s scaled back performance. In the household consumers segment, 44% of the total households are still waiting to get on the grid. The rest have been on an indefinite wait for assured, reliable power at affordable rates. Why is the power scenario so disheartening? What’s missing? One answer would be, apart from the requisite transmission lines, India is missing a policy framework that is needed to improve the situation.

The power sector needs policy architecture that is stable, forward-looking and, at the same time, provides adequate incentives to all stakeholders. It has to be customer-friendly, yet incentivise producers to invest in the sector. We need clear, well-structured policy. We must try and factor in as many variables as possible in policymaking to avoid some eventual shocks, like the ones that affected the ultra-mega power projects (UMPPs).

The goal of having UMPPs was to get large-scale power generation plants at fixed locations with captive mines or coal supplies tied up from overseas mines. The bidding for the projects was done with fixed, level-adjusted tariff. Normally, in a power plant, the tariff is fixed on the basis of fixed and variable costs, fuel costs forming a large part of the latter. In the case of UMPPs, we did not consider the variable nature of fuel costs and froze both the fixed and variable costs, to set a fixed tariff. The coal-based plants which were importing the fuel were obviously subjected to vagaries of global market trends which determine the price of coal. This was an obvious risk they had to take for which the reward was factored in the profits that were assumed they will make.

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