Monday, August 26, 2013

The Grinding Halt

Rupee’s endless slide against the greenback, widening current account deficit, high inflation especially consumer price indices, RBI’s liquidity tightening policies, indications of capital controls, weak investor sentiments, more than expected weaker market performance of India Inc... The endless list of worries continue to loom large on until sometime back one of the world’s most vibrant and attractive economies that had stood the test of time during the world’s worst recession during 2008, has nearly come to a ‘GRINDING HALT’... Yes, the Indian Economy is in the context and perhaps at this juncture with no clear sign of revival in the near term, investors are pulling out from the market as their confidence has been shaken by the absence of a clear policy direction.

Energy Sector is the Worst Hit
Pricing of energy commodities in India has always been a matter of debate since subsidies and govt. support has always been a part of pricing system which until some years back was highly regulated. Pricing of energy commodities such as coal, natural gas and some liquid fuels are yet to be completely decontrolled. However, over the past couple of years, there have been indications that the intention is to progressively free up prices of energy commodities so that they can work on free market principles.

The deregulation of petrol prices in June 2010 and the partial deregulation of diesel prices in January 2013 are steps towards this. However, the fuel subsidy burden which soared to INR 1,63,000 crores in FY 2012-13 did indicate that sooner or later the market has to move towards converging with global free market pricing systems as the subsidy model is soon becoming unsustainable.

The impact of the sliding Rupee is taking a turn for the worst for the oil sector and especially the oil marketing PSUs and the end consumers and is further aggravating the already persistent issue of fuel subsidies.

Availability of energy resources has added to the woes of the energy sector with sub optimal production of energy resources such as coal, natural gas and crude oil. As a result, the economy is heavily dependent on external sources of energy and imports energy resources to the extent as high as 80 percent which poses a significant threat to the stability and sustainability of the economy and the energy security of the country.
Energy is the lifeline for any country’s economy to scuttle at a steady growth rate. However, for countries which are highly dependent on foreign energy resources, a devalued currency can be the greatest source of worry. Not only does the imports cost dearer, the cascading impact on the current account deficit has a larger impact on the stability of the overall economy.

Oil Imports Stretching CAD further

As per recent reports, the current account deficit moderated from a sharp rise to 6.7 percent during Oct-Dec 2012-13 to 3.6 percent during the last quarter of 2012-13 averaging around 4.8 percent for the entire year. However, this decline has been attributed to lower than normal imports of non-oil and non-gold commodities which is as a result of the slowing economy. Oil import however has not seen much decline as depicted in the chart below when compared to the GDP growth rate which has seen a drastic decline.

The rising oil import bill has had its own implications on dollar outflow from the country along with capital outflow from the stock markets. The unswerving demand and appetite for gold in the country has also seen unprecedented levels of gold import which has acted as a sledge hammer on the already hard hit currency “Rupee”.

Revival Tough though not Impossible

With the ensuing weak market sentiments and unclear policy direction, the economic revival looks tough at the moment, however some quick decisions to boost investor sentiments could spell some gains for the economy in the short term. At the moment, the task at hand is to stabilize the currency and reduce the volatility in the market. The next step would be to attract investments into the country which will either be possible through the FDI or the FII route. However, investments through the FII route will only see the light of the day if the market performs better than expected.

A series of policy decisions need to be taken to ease inflation, boost domestic investments and most notably to increase affordability of energy resources to propel industrial production which would have an upbeat cascading effect on the growth trajectory of the Indian economy. However, the challenge lies in making affordable energy resources available in a country which has dwindling supplies of domestic energy resources and is heavily relying on external sources.

                 Infraline Energy Oil & Gas Knowledgebase Team

Monday, August 12, 2013

Caught in a Limbo

The traverse of India’s power sector is packed with more than enough lessons to make for a brilliant case study. The journey from being the driver of an aspiring economy to the doomed passenger of a sinking boat, power sector has seen it all in the last three years. The growth of Indian economy is rather strongly correlated to the growth of its energy sector. According to a statement issued by the Planning Commission, for the GDP to grow at a steady 9%, the power sector must grow at 8.1%. Although it would surely be quite interesting to attempt to determine the contribution of one towards the downfall of the other as the correlation works both ways, the causality, per se, is a matter of another discussion.

Natural Gas and Coal Crunch

India has clocked record capacity additions during 2011-12, 2012-13 with 20+ GW in each year. This feat, however, fails to veil the possibility that the ground situation might prevent us from attaining a similar figure in the near future. Close to 75% of India’s 225 GW of generation capacity is thermal fuel based (65% coal and 10% Natural Gas). In the last few years, the fuel supply situation has witnessed a plethora of negative developments. Both Natural Gas and coal supplies have taken serious hits.
For the gas-based capacities, the epicenter lies in the Bay of Bengal. Production from the KG-D6 basin has fallen by over 70% from its peak of around 69 mmscmd. Most the gas-based generation capacities that were being developed on the back of the promise of a close to 80 mmscmd of gas production from the basin, are facing an uncertain future today. Burning it further is the shooting-through-the-rooftop R-LNG prices. The situation has gotten so bad that the Ministry of Power has vetoed any new gas-based project till natural gas production improves.
The coal-based plants aren’t much better off either. Right from the revision in prices of Indonesian coal to the continued failure of CIL to meet its supply commitments, going has only gotten tougher. They have had to resort to higher imports of coal to bridge the production-demand gap, which has nudged the Cost of Generation north. Recovery in the supply of indigenous coal is yet many years away, and till then the generating companies will have to put up with the costlier alternative.

Gloomy State of Economy

As if the intrinsic problems weren’t bad enough, the macroeconomic factors too started uprooting the early shoots with the slightest amount of chlorophyll. The economic downswing has brought along several unfriendly forces. For example, the persistent inflation has forced RBI to tighten liquidity in the market by keeping interest rates high. This, in turn, has made accessing cheap capital difficult for the capital-intensive power sector, where the debt component is, normatively, as high as 70%. Many proposed generation projects are at a standstill for want of lenders, several are scouting international destinations for more economical options.

Discoms in Distress

All the above mentioned difficulties would still have mattered only so much, had our State Discoms been in a better shape. Factors like imported coal, R-LNG and higher interest rates essentially mean higher costs, which is not such a big problem as long as it does not exceed the affordability of the buyer. Unfortunately, our Discoms are in a way worse state. Their messed-up financial standing makes even current prices of electricity look like hard to sustain, let alone absorbing any increase in it.
The worst factor kicking the already down power sector is the pessimism among prospective investors. It is not as though lenders and developers have suddenly decided to look away from the India growth story. Everyone still seems to believe that the fundamentals of a strong demand are still intact, but they have surely turned cautious. ‘Wait & watch’ is the popular approach now.

Government Initiatives

Unlike most of the ministries under the current regime of the UPA government, Ministry of Power has been doing a commendable job, regardless of the unfavourable outcomes. It has taken many policy initiatives to improve the coal supply situation, to mitigate fuel price hikes and to help Discoms improve their financial state. As the sentiment of private investors is not exactly jubilant, the Ministry must ensure that the government companies don’t fall into a slumber and keep the wheels rolling.

The Way Ahead

There is no apparent quick-fix to these problems. Coming out of this situation will require a balance yet spirited symbiosis between the Ministry, regulators, government companies and the private players. Fuel production needs to see steady augmentation from domestic sources for which the CIL has already drawn a roadmap, and the nation hopes they manage to meet the milestones set. The longevity of the high interest rates is contingent upon many factors related to the Indian economy and most of which are outside the purview of power sector players. Only thing to be done here is to hope for the government to reduce the CAD, improve the supply chain of goods and products, curb inflation… the list goes on. Improving the health of Discoms is perhaps the most difficult problem of all. The central government has recently launched the Financial Restructuring Plan for State Discoms to salvage some of the worst performers. However, unless the basic issues like high AT&C losses and subsidies don’t receive a more effective addressal, a profit-making distribution sector will continue to elude us. Nonetheless, the optimistic school of thought would want us to believe that the sector has bottomed-out and the sombre is over.
                  Infraline Energy Oil & Gas Knowledgebase Team