India’s Race To The Lowest Common Denominator

Oct. 3, 2012 - PRLog -- India was a study in contrast this week.

Accused of inaction in the face of economic decline, the Government made two important economic policy announcements: it increased diesel prices by five Rupees per litre and opened multi-brand retail to direct foreign investment.

Walmart cheered its passage to India while the Trinamool Congress, a key partner in the central government, walked out of the ruling coalition in protest.

The Prime Minister went on prime time television to defend his reform agenda and assure the nation that his government still enjoyed a majority in Parliament.  

“The time has come for hard decisions,” the Prime Minister said in his national address.

The stock market jumped 400 points. Business applauded. Media attention turned from the coal scandal to whether Government had the numbers in parliament (it did).
In sharp contrast to the economic reform package of the last week, a quiet reversal has been underway in the power sector.

In response to the coal scandal, where government stands accused of having caused a loss of US$35B to the public exchequer from awarding coal blocks to the private sector for free, government is putting in new norms to limit how power producers can sell the power from these blocks.

Several companies that were awarded coal blocks captive to their power plants have been accused of generating excessive profits by selling their power into the short-term electricity markets where power prices are high. As a result, critics charge, these plants failed to pass on to the consumers the benefits of cheap electricity that accrued from the free coal blocks the plants received.

Jindal Steel and Power, which has a 1,000 MW power plant with a captive coal block, sells almost all of its power in the short-term market. It has been the most visible in the news but it is not alone in adopting such a strategy. Almost all power plants that were provided captive coal blocks have kept some portion of the capacity without a long-term contract, specifically for use in short-term markets. None of these plants broke any laws, except perhaps the guilt of high profits.

The arbitrage between low cost captive coal and high price short-term - or even medium term - power prices was the turning point in India’s lethargic power sector. It has been the driver of India’s power sector over the last few years. In the last five year plan ending March 2012, 45,000 MW of new coal capacity were– more than triple the growth in the previous five year plans.

Private equity, in addition to unsecured project finance, flocked to these power projects drawn by the promise of cheap, secure coal supplies and high electricity prices. Domestic coal supply from Coal India was too uncertain to make this model work.

All of this is now at the risk of unravelling. The Power Ministry is looking to set up a new set of norms requiring power plants with allocated captive coal blocks to sell electricity through competitive bids, which are generally medium to longer term and typically offer lower prices.

A hodgepodge of new restrictive regulations on how power plants with captive blocks can sell their power, will clip the wings of the sector that was just taking flight. Dragged down by the failure to reform the coal sector, the power sector appears to be descending rapidly towards the lowest common denominator of India’s regulated coal market.

An odd time to be applauding the government’s new found gusto for bold economic reforms.

Ironically, all of this is good news for coal exporters eyeing the demand for imported coal into Indian power markets. Such policy reversals, along with new bidding guidelines for power plants that seek to separate out the treatment for imported coal, are helping to create a different segment for power plants based on imported coal.
When imported coal based plants can compete in Indian power markets with a separate category, without threat from cheaper domestic coal, it is then that the country’s 200Mt-plus of imported coal demand will be realized.

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