he start of the modern industrial age was based on a strong investment in fossil fuels. Countries with high availability and consumption of total primary energy (TEP) per capita have a high human development index (HDI). Realizing that fossil fuels contribute to climate change, the world is moving towards renewable energy.
Compared to comparable economies in Asia, Pakistan has a low availability of TPES per capita and a low HDI. The share of hydel energy in the national generation mix, which was once around 65%, is now 23.7%. The share of thermal generation based on fossil fuels is 61%, that of nuclear energy 12.35% and that of renewable energies 3.02% (Economic Survey of Pakistan 2021-22).
Increased reliance on fossil fuels and fluctuating fuel prices have been blamed for causing a large circular energy debt (ECD). ECD occurs when revenue collection from distribution companies (Disco) fails to cover the cost of production. Due to liquidity problems, Discos withhold dues payments from production companies (Gencos). Gencos cannot pay oil marketing companies, which cannot pay refineries and withhold oil royalties and other duties payable to the federal government. But the high cost of electricity generation is only one factor in the accumulation of ECD. Other causes are under-collection of electricity bills, high transmission and distribution losses (T&D losses), capacity payment charges (CPC) for independent power producers, under-budgeted subsidies and delays, late tariff determinations and notifications, under-recovery of financial resources. circular cost of debt and energy sector governance issues.
Until 2014, the electricity sector had insufficient generation capacity and growing demand for electricity. From the early 1990s until the installation of new power plants under the CPEC, successive governments preferred to buy electricity from independent power producers/rental power producers (IPP/RPP) rather than than to further expand the hydrogenation capacity.
The 1994 energy policy offered lucrative incentives for IPPs, including capacity payment charges, a guaranteed profit on equity, and a lifetime exemption from corporation tax.
ECD problems began to appear in the late 1990s, but today’s ECD was born in 2007-08. During this period, the allocation of natural gas for the electricity sector has been reduced and the use of heating oil for electricity production has increased considerably. Meanwhile, crude oil prices doubled from $55 to $110/barrel, increasing the cost of power generation. However, it was an election year, so electricity prices for domestic consumers only increased by 9%. The situation worsened between 2011 and 2014 when world Brent prices fluctuated between $90 and $120/barrel, but the price increase was not passed on to consumers, leading to a budget deficit and non-payment. to IPPs/RPPs.
Many IPPs/RPPs have stopped producing electricity due to a lack of cash. At the same time, the remaining power generators were producing electricity at half capacity due to the unaffordability of fuel. Most parts of Pakistan experienced power outages of 10 to 16 hours a day. Violent protests against power cuts have become commonplace in parts of the country. By 2013, EDC had reached 450 billion rupees (over 2% of GDP).
The Pakistan Muslim League-Nawaz won the elections in 2013, mainly on a promise to end power cuts. He honored his commitment. Power generation capacity was increased to 29,573 megawatts (MW) in March 2018, with an addition of 7,096 MW (mostly under CPEC). However, the main fuel sources for the new plants were coal and LNG. Fuel costs remained modest during the period 2013-2018. However, mainly due to T&D and CPC losses, the size of ECD reached Rs 1.14 trillion at the end of 2017-2018.
Successive governments have tried to reduce ECD. Over the past three and a half years, the stock of ECDs has more than doubled to Rs 2.46 trillion (3.8% of GDP), despite the disbursement of over Rs 700 billion in subsidies. During the same period, circular debt in the gas sector nearly doubled to 0.65 trillion rupees from 0.35 trillion rupees in 2018.
By comparison, Pakistan’s defense budget for the year is 1.50 trillion rupees, and the federal government’s operating cost (payroll) for 2022-23 is 0.55 trillion rupees. Our cumulative ECD (including circular gas debt) equals two years of our defense budget and five years of federal salaries.
If allowed to grow at the current rate, the ECD is expected to reach Rs 4 trillion by 2025. Consumer electricity prices are so far too low to stem the flow of circular debt, as the cost of production has increased significantly due to more than one hundred percent increase in gas price and more than fifty percent increase in oil price in the international market in the past six months. Therefore, the IMF advised to increase the electricity tariff (to recover the full cost of production from consumers, except for vital consumers). However, this will result in high-income domestic consumers who will reduce electricity offtake from the grid through solarization. At the same time, industries will look for ways to increase self-production. This, in turn, will increase the CPC, which is expected to increase to Rs 1.4 trillion in FY 2023.
A multi-pronged approach is currently being pursued to pull the country out of the crisis. Key structural reforms in the electricity sectors carried out over the past four years include the approval of the Energy Policy 2021 and the Renewable Energy Policy 2020. While the latter focuses on competitive tariffs through ‘reverse auction, the first focuses on the principle of least cost. An energy plan for the implementation of the energy policy is being developed through an extensive consultation process. In addition, the regulator has approved an indicative generation capacity expansion plan after consensus among the provinces in 2021 for the next ten years, based on the principle of least cost. Under the principles of subsidy reform, full cost recovery, protection of the most marginalized consumers, and phased reduction of subsidies for other residential consumers have been endorsed by the Federal Cabinet and approved by the regulator. Regulatory functions have been strengthened by introducing automaticity in the determination of tariffs by regulators and by reducing the authority of the government in determining tariffs. To reduce tariffs, the return on equity of most IPPs and all public power plants has been reduced. Similarly, the link to the dollar in most IPP capacity charges has been removed, introducing a cap of 168 rupees to the dollar. On the gas side, a similar automaticity was introduced into the law for the gas regulator and legislation was approved to recover the cost of imported gas (weighted average cost of gas).
The above-mentioned reforms can help to improve operational inefficiencies in the power sector and reduce ECD to some extent. However, these reforms will not comfort the masses who find energy beyond their economic access. Raising the tariff is a first aid but not a cure. In the medium and long term, we must reduce our dependence on fossil fuels and increase the share of renewable energies in our energy mix. The way forward is to explore green financing for the energy transition, improve energy governance and care for low and lower middle income people through strengthened social safety nets.
The author directs the Sustainable Development Policy Institute. He tweets @abidsuleri