The second part the Kelkar Consultation Paper (CP) discusses gas prices?where they are, where they ought to be, and the transition process thereof.
The sale price regime of the end-product is always a key parameter for any commercial economic activity. We have yet to find an industry which was set up with private capital where the sale price of produce depended neither on the market nor on any pre-defined and stable set of rules. Yet, that is what the gas price debate is about. Given the driving role of product-price in the long-term development and growth of industry, it is important that the rules of the game are set before seeking any investment. The reward also needs to be attractive if investment in a sector is considered a priority, or if the investor has alternative options.
Interestingly, the upstream industry always believed that the pricing regime was clearly specified in the contract. Extra-contractual considerations have, however, created a maze that is challenging the best of the brilliant minds. It is here that the CP provides a solution.
At the outset, the CP distinguishes between producer price and consumer price. This is important, since the consumer is not operating in a free market, but is being provided public goods, whether as a utility or as a critical input to food security. As the consumer sale price in these areas is controlled by the government, the government, ipso facto, takes the responsibility of a reasonable RoCE for these concerns, and is obliged to subsidise them if, in its view, the society cannot bear the fair price. A transparent price and a transparent subsidy for the producer or the consumers is the only way to go. This should have no implication on the demand-supply chain that works in a free market.
The CP rightly identifies that (1) the limited private investment in domestic natural gas (DNG) production is one of the results of risks introduced by the high involvement of the government in setting DNG price; (2) free-market price has a very close relationship with its substitute fuel?whether liquid hydrocarbon or RLNG; and (3) rationing and allocation leads to under-pricing, aggravating the demand-supply imbalance further, which leads to rent-seeking and poor governance. It, thus, votes against any allocation.
The CP has analysed the international experience, and confirms that in domains where cost-plus or administered regimes were followed, the domestic exploration and production suffered. Most of such regimes have moved towards linkages with liquid fuels or gas-on-gas. Allocations and administered prices, even in socialist countries, have not been successful, as shown by the recent changes in Vietnam, China, Malaysia, all of which are transiting from administered to liberalised/free-market regimes, in the direction of the UK, US et al.
As cost-plus or administered pricing models often touted by consumers have serious and adverse implications for domestic production and energy security, the CP votes against the approach.
The Supreme Court had argued that natural resources need to be fairly distributed among the people of India. The committee argues that these resources belong not only to the current generation of Indians, but future generations as well and, therefore, what we use is actually being borrowed from future generations. It is only right that we pay them the right value, because any model like allocation or administered pricing only leads to under-pricing, which is inherently unfair and immoral. To maintain equity, the price must be the best that a molecule of gas can command, which cannot be less than the maximum opportunity value of the resource. This means the value must be set by ?a price that is market determined in an environment, where an exchange is conducted in a transparent manner on an arm?s length basis?.
The CP further argues for the implementation of recommendations by end of the 12th Plan (by 2017). It also recommends an early announcement of the decision, so that it is visible and guides the investors who bid for blocks and explore for hydrocarbons.
Having recommended a free-market price, the CP delves into supply-side and demand-side reforms to ensure a smooth transition. On the supply-side, these include (1) closer interaction and credibility building with all stakeholders; (2) gas pipelines as ?common carrier? infrastructure; (3) a transparent gas pricing mechanism to be developed by the Petroleum and Natural Gas Regulatory Board, for arm?s length transactions; (4) focused policies to expand gas supply; (5) setting, developing and encouraging gas trading on commodity exchanges, to create a mix of long-term, short-term and spot contracts; and (6) beginning by moving fields below 0.1 mmscmd to free-market and keep increasing this limit to larger fields.
On the demand-side, the CP recommends identifying and isolating the genuine priority-sector that needs fertiliser and power at subsidised rates, and supporting these by direct transparent and targeted subsidies. It also expects a major part of this shall be covered by increased ?government take? resulting from higher gas prices. It suggests that the delivery mechanisms of such subsidies be debated and decided in advance through transparent process and the gas prices be increased in the interim period in a transparent and step-wise method to lower the differential between the market and subsidised price.
The CP also points out two subsidy lowering outlooks. Many analysts predict a bearish price outlook for market-price in view of the large unconventional production coming online and the decrease of subsidy when the beneficiaries are properly identified and selectively compensated. Hence, moving to free-market price may not be as much of fiscal burden as is imagined. Other recommendations involve inclusion of gas in GST and waiver of customs duty on LNG to accelerate the move to gas economy.
An important recommendation in the CP is the discontinuation of the gas utilisation policy, as well as the possibility of using oil-linked prices as an intermediate step-wise measure. The exploration and production industry also fully supports these recommendations.
On the producer side, private capital shall move overseas if the contracts are not honoured, fiscal terms are not stable and rewards are not in consonance with the risk on a globally comparable basis. There is also no doubt that administered pricing shall slow down domestic exploration and production, resulting in higher forex outgo and lower energy security.
On the consumer side, there is little doubt that the maximum resistance is over the sale price limitations for fertiliser, and price restriction as well as volume off-take formulas for power producers. These can be solved by targeted subsidies. Such resolutions leave no consumer objections unattended.
The real issue is whether the government reduces its subsidy by appropriating more gas at lower price (through naphtha, RLNG substitution) or increases the subsidy using the higher ?government take? from increased prices. Taking the argument further, the ball is in the court of the finance minister?pay more subsidy and incentivise higher hydrocarbon production, i.e. pay now and reap tomorrow, or lower subsidy and increase imports, i.e. enjoy today and pay much higher later with the pious hope that you shall always have the capacity to pay and opportunity to buy.
The author is secretary general,
AOGO
