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Power to the regulator

Print edition : May 09, 1998 T+T-

The Central ordinance seeking to appoint regulatory bodies in the power sector at the Centre and in the States has far-reaching implications for the key infrastructure sector.

SINCE 1991, successive governments at the Centre have experimented with power policy in the hope of bridging the demand-supply gap in this crucial infrastructure sector. The gap, however, seems to be widening, forcing policy-makers to devise ever more drastic measures each time. The latest in this series of actions is the ordinance issued by the Bharatiya Janata Party-led Government, which seeks to set up regulatory commissions at the Centre and in the States. The United Front Government had also got ready a bill on the same lines but had to defer its introduction owing to political developments.

The ordinance, issued on April 25, mandates that the regulatory commissions be set up within three months. Power being a subject in the Concurrent List of the Constitution, doubts have been raised about the Centre's authority to order the States to set up such commissions. However, Union Power Minister Rangarajan Kumaramangalam maintains that the Centre has such powers and that the setting up of State Electricity Regulatory Commissions (SERCs) was approved by all State Governments when they endorsed the Common Minimum Action Plan for the Power Sector proposed by the U.F. Government.

The ordinance gives wide scope for the regulatory bodies and entrusts them with adequate powers to discharge their functions. The Central Electricity Regulatory Commission (CERC), for instance, has even been given the option to choose from the range of functions assigned to it by the ordinance. These include, besides regulation of tariffs of generating companies owned by the Central Government (in this case, the National Thermal Power Corporation (NTPC) and the National Hydel Power Commission (NHPC)), regulation of tariffs of those generating companies which are neither owned nor controlled by the Central Government if they have a composite scheme for the generation and sale of electricity in more than one State. According to Kumaramangalam, there are now four major projects proposed by independent power producers (IPPs), which fall in this category.

The CERC can also regulate inter-State transmission of energy, tariffs of transmitting utilities, conveyance of energy from one State to another and transmission of energy within a territory on a system built, owned, operated, maintained or controlled by a Central transmission utility. It can promote competition, efficiency and economy in the activities of the electricity industry and aid and advise the Central Government in the formulation of a tariff policy that will be fair to consumers and facilitate mobilisation of adequate resources in the power sector. The CERC can also frame guidelines in matters relating to electricity tariff, besides evolving policies and procedures for environmental regulation in the power sector. The CERC will be the arbitrator in disputes involving generating companies or transmission utilities in the matters under its jurisdiction. Significantly, none of the functions of the CERC is obligatory; it can use its discretion in this matter. It is not clear why this is so.

On the other hand, the SERCs have been mandated to determine tariffs for electricity - wholesale, bulk, grid or retail. They shall also determine the tariff payable for the use of transmission facilities within their territories. Significantly, the SERCs shall regulate the power purchase and procurement process of the transmission and distribution utilities as also the price at which power shall be procured from the generating companies for sale within the State. Thus, State commissions will regulate not only the tariffs charged by State Electricity Boards (SEBs) from consumers, but also the price at which the SEBs will purchase power from the generators.

The ordinance brings under the regulatory commissions' purview all power purchase agreements (PPAs) signed by the SEBs with IPPs, if they have not already obtained financial closure. According to the Power Ministry, only 18 projects have so far obtained financial closure since 1992-93. Of these, nine, with a total capacity of around 4000 MW, have already been commissioned. The rest are under construction or are partially commissioned. Therefore, a question mark hangs on all other projects in the case of which the SEBs have already concluded PPAs; this is true of even projects for which the Central Electricity Authority (CEA) has accorded techno-economic clearance but which have not reached financial closure for other reasons. There are at least 40-odd projects for which PPAs have already been cleared by the CEA and many more for which PPAs have been signed but are pending clearance from the CEA. All these will now have to wait for the setting up of the SERCs, which will review them. This will have an impact on the bankability of the projects, which will now have to rework the tariff calculations if they are ordered by the SERC to do so.

The powers conferred on the regulatory commissions - both Central and State - include those to summon and examine witnesses, requisition public records and gather and produce any documents that are relevant to their work. Any appeal against a decision by the CERC or a State regulatory commission will be heard by the High Court in the respective jurisdiction.

According to the ordinance, the CERC shall be guided in the matter of energy tariffs by the financial principles provided under Schedule VI to the Electricity Supply Act, 1948 (ESA). The CERC will, in addition, ensure that the generating and transmitting companies adopt principles that would help them earn an adequate return without exploiting their dominant position in the business.

The SERCs will also follow the principles provided in Sections 46, 57 and 57A/59 of the Sixth Schedule of the ESA in determining tariffs; at the same time they will ensure that the tariff progressively reflects the cost of supply of electricity at an adequate and improving level of efficiency. The SERCs shall take into account factors that would encourage efficiency, economical use of resources, good performance and optimum investments while determining tariffs. They shall safeguard the interests of the consumers, who will have to pay a reasonable tariff based on average cost of supply. The ordinance further stipulates that generation, transmission, distribution and supply are conducted on commercial principles.

The Sixth Schedule of the ESA deals with licensees engaged in distribution, who shall be granted a return of a fixed percentage over the existing bank rate. "However, Section 51 of the ordinance expressly states that the Central Government may, by notification, omit Sub-Section 2 of Section 43A of the ESA. This is the enabling section of the ESA under which the two-part tariff notification was issued. Therefore, the two-part tariff guidelines need no longer be the basis for determining tariffs once such a notification is issued."

Universally, power regulation rests on either of the following principles - Rate of return (RoR) or price cap. RoR tariff is akin to the tariff based on the two-part cost-plus formula that has been in force since 1991-92. There can also be a single-part cost-plus tariff formula. The RoR principle is usually adopted during a transition period when there are shortages and when incentives are required to attract investments. Where there are no shortages and where there are competing bidders for the same project, the price cap mechanism is generally used. The ordinance does not stipulate the principles to be used by the regulatory commissions in tariff-setting, but leaves it to their discretion.

WHAT does the new regulatory mechanism augur for the power sector in the country? First and foremost, it puts all tariffs proposed by generators, transmitters and distributors under scrutiny by the CERC or the SERCs as the case may be. While existing tariffs shall continue, new projects, whether in generation or distribution, shall be subject to the regulator's baton. (Transmission is still a state monopoly after the ordinance issued by the U.F. Government to privatise transmission lapsed.) Since distribution is already governed by the Sixth Schedule of the ESA, new licensees are unlikely to be drastically affected by the new regulatory guidelines which also apply the Sixth Schedule. It is therefore in the area of generation that significant changes are expected in the approach to tariff-setting.

Since 1991, IPPs have used the two-part cost-plus tariff guidelines, to work out costs and determine tariffs. Now, however, the regulator is not bound by tariffs based on the two-part tariff guidelines if it considers them unreasonable. Kumaramangalam also believes that the cost-plus two-part tariff guidelines were the root cause of IPPs coming up with exorbitant project costs. "The two-part tariff system has been the bane of the power sector," he told Frontline. "Once you allow cost-plus, you leave no incentives to keep down costs. Therefore, we have IPPs who will get as much as 30 per cent return on their equity," he said. Therefore, it is possible that all IPP projects will now undergo fresh scrutiny for the reasonableness of their tariffs and there is a possibility of effecting significant tariff reductions. Kumaramangalam points out that international IPPs, which quote 6 cents per KW hr in India, put up similar projects elsewhere for 3 cents a KW hr.

Kumaramangalam wants all future projects to come through competitive bidding. Even now there are a few projects under consideration, which have come through this route. In these categories, the new regulator will decide whether the competitive bidding procedure adopted by the SEBs has been fair and appropriate. At present there are allegations that the bidding process is a faulty one, which does not follow set norms and procedures. In fact, the CEA has been entrusted with the task of preparing the guidelines for competitive bidding as also the bid documents. If the regulator believes that appropriate procedures were not followed in the bidding, it could scrutinise the tariffs proposed by the IPPs and give a ruling.

"The regulator can do so either suo motu or on the basis of appeal by the SEB, the consumer or any interested party," says E.A.S. Sarma, Union Power Secretary.

In an attempt to introduce commercial principles in the functioning of the SEBs, the ordinance stipulates that the SERCs shall charge a tariff that covers at least 50 per cent of the cost of supply to all categories of consumers, excluding the farm sector. The State governments have been given three years to extend this principle to the farm sector. Any subsidies arising out of failure to comply with these norms will have to be borne by the State governments themselves. Kumaraman-galam believes that this can be enforced and the Chairpersons of the SEBs held responsible for any violation of this provision. This is one of the potentially politically sensitive mandates of the ordinance.

WHERE does the ordinance leave the CEA, the only expert authority that scrutinises all project proposals for their technical and economic parameters? Since it will now be left to the ERCs to evaluate the reasonableness of tariffs (and by implication, the capital and other costs) the CEA's role becomes diluted.

It is imperative that competent teams of persons with impeccable integrity are chosen to run them. The ordinance lays down the procedure for the selection of the chairpersons and members of the ERCs.

In Orissa, where a regulatory commission has been functioning for nearly two years, the State Government has retained the final say in the matter of tariffs. In having vested with the High Courts the authority to hear appeals, the ordinance has made a signal departure, which should ensure adequate autonomy for the new regulatory bodies. The procedure for the removal of the members and the chairpersons of the ERCs has also been devised in such a way as to insulate the bodies from political manipulation.

The combination of complete autonomy, onerous responsibility and sweeping powers that has been conferred on the regulatory bodies through this ordinance is a double-edged weapon. Only an extremely competent, knowledgeable and committed body of persons with unimpeachable integrity can handle it without harming the interests of any of the stakeholders.