The International Monetary Fund (IMF) has completed the first review of its 39-month loan programme to enable the immediate disbursement of $452 million. This takes the total disbursement under the $6 billion programme to $1.44bn.

Read: IMF approves second tranche of $452m, says Pakistan's economic reform 'on track'

The power sector remains one of the key areas in which Pakistan has to undertake structural reforms with a lasting impact. The sector stands out as one of the major problem areas.

Many governments have been able to address immediate challenges under different IMF programmes. But all of them failed to do power-sector reforms that could put this sector on a sustainable path.

It is in this category that the performance of the current government and the success of the ongoing IMF programme will mostly be judged. While clearing the disbursement of the $452m tranche, the IMF’s executive board summarised: “The authorities have adopted a comprehensive plan to address the accumulation of arrears in the power sector. Its full implementation is key to improve collection, reduce losses and enhance governance. Timely and regular adjustment of energy tariffs will bring the sector in line with cost recovery.”

It comes at a time when the Power Division puts the total circular debt at Rs1.68 trillion — up from Rs1.6tr at the end of June — as reported by Asian Development Bank (ADB). That means the debt continues to grow at the rate of about Rs22 billion a month. The consortium of lending agencies, particularly the World Bank, IMF and ADB, has jointly approved the circular debt managing plan prepared by the Power Division for the next 36 months as part of the IMF programme.

It soared in the general election cycle last year when generation facilities ran at full capacity to minimise loadshedding regardless of the cost and insufficient tariff adjustments

They had developed such plans in the past as well. Targets and timelines were monitored through quarterly reports. The authorities performed well as long as the country remained under the IMF umbrella and the accumulation of the circular debt came to zero in 2016. The IMF programme ended in October 2016 and the circular debt started to build again as the publication of quarterly performance reports on the power sector discontinued.

ADB noted last week that the circular debt soared during the general election cycle in 2018 when generation facilities fully operated to minimise loadshedding regardless of the cost and insufficient tariff adjustments.

Interestingly, officers in the Power Division who orchestrated the litigation process to block the notification of tariff determinations by the power regulator continue to play a central role in the power tariff setting.

The focus of fresh circular debt management plan is mostly on increasing the consumer tariff. ADB said last week the government had agreed to raise about Rs469bn revenues from consumers. It has also been agreed under the programme to notify electricity tariffs for all distribution companies in advance, before the beginning of every fiscal year, on estimated revenue requirements to ensure full-cost recoveries in line with the $6bn IMF programme.

As a prior action, the government has notified quarterly adjustments for all the four quarters of 2018-19, “adjusting tariffs for Rs469bn of backlog,” ADB said. Most of the recoveries are expected during the remaining six months of the current fiscal year. The government is required that “the 2020-21 tariff (be) notified before July 2020, correcting the annual tariff notification cycle” to control the circular debt accumulation.

The government has, in consultation with lenders, updated the circular debt reduction plan to curtail accumulated payables and loans on Power Holding Private Ltd (PHPL). The new accumulation of the circular debt has to be kept below Rs124bn for 2019-20 while the PHPL debt will be reduced and assumed as public debt. This accumulation will further be reduced to Rs74bn in 2020-21.

ADB has estimated that while the power generation capacity increased by 12,200 megawatts in 2016-18 through foreign direct investment and government-to-government contracts, the circular debt that stood at Rs729bn in June 2017 increased to Rs1.6tr by June 2019 without addressing the underlying liquidity issues. Therefore, the massive and continuous tariff increases would continue.

ADB estimates that 68 per cent of this debt build-up was owing to delayed tariff notifications blocked by distribution companies (Discos) at the behest of the Power Division, nearly 20pc from the difference between the allowed and actual collection and loss by National Electric Power Regulatory Authority (Nepra), and about 10pc from insufficient subsidies.

Discos estimated 18.3pc transmission and distribution losses and 10pc of non-recovery of the billed amount, leading to almost 29pc of revenue losses, 4pc higher than the 2015-16 level. “This puts Discos in a negative spiral of limited investments and increasingly poor efficiency, making system losses a recurring cause of the circular debt,” ADB noted.

Recent government efforts to prevent power theft besides the upfront tariff setting and timely subsidy payments under the donor-assisted circular debt programme reduced the build-up from Rs38bn a month in August 2018 to Rs21bn in August this year. The lenders hope that when the circular debt programme is fully implemented, the flow will be further reduced to Rs6bn per month by June 2021 and subsidies will go down from 0.56pc of GDP at present to 0.4pc.

The government will amend the Nepra law to have an automatic mechanism for updating power generation costs in the tariff each quarter without a government notification and instituting surcharges for the balancing cost of supply. Average generation costs are targeted to be brought down from about Rs15 per unit at present to Rs11 by 2024.

Published in Dawn, The Business and Finance Weekly, December 23rd, 2019