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Analysis: Will new IPP deals make electricity any cheaper?
• Energy experts believe merely renegotiating terms will not bring down cost of electricity
• ‘Coercive tactics’ to sway plant owners may further dent investor confidence
THIS week, the prime minister announced that five independent power producers (IPPs) have agreed to “voluntarily” negotiate their power purchase agreements with the government.
The move, as claimed by the power minister, would save Rs411 billion and bring down the per unit electricity tariff by Rs0.71.
However, IPP owners and energy experts don’t share the government’s enthusiasm, claiming that similar re-negotiations in the past had failed to yield the intended benefits.
Other than the money paid to these power producers, they believe a plethora of other issues like poor transmission system, power generation through expensive fuel, and low recovery, etc, are also contributors to expensive electricity.
However, the government, under pressure due to intense flak over the rising cost of electricity, focused on renegotiating IPP deals and formed a task force for this purpose.
The five IPPs — Rousch Power, Saba Power, Atlas Power, Lalpir Power Limited and Hub Power Company Limited (Hubco) — which started working under the independent power policies of 1994 and 2002, made the decision after months of clamour over the agreements signed with these power producers which bound the government to pay them even for the electricity it didn’t purchase.
These costs, known as capacity payments, are widely blamed for soaring electricity prices.
Under the new arrangements yet to be signed, the five IPPs will be paid outstanding dues only for the cost of electricity they have supplied to the grid, according to media reports.
It is also claimed that the Rs80-100 billion, owed to these companies as capacity payments, is also being re-negotiated.
Once these five deals are finalised, the task force plans to renegotiate contracts with all other IPPs set up after 2002, barring those built under the China-Pakistan Economic Corridor (CPEC).
‘No significant impact’
The power producers will be asked to forgo their fixed capacity payments and agree to a take-and-pay mode from the current take-or-pay deals. This basically means that the government will only pay for the electricity supplied to the national grid.
Ali Khizar, a Lahore-based analyst, says the negotiations are likely to have “no significant impact on consumer tariffs”.
According to the chief executive officer of an IPP, any serious effort to reduce electricity prices has to take into account inefficiencies in the system, like an expensive energy mix, low bill recovery, absence of transmission system to supply cheaper power produced in the south to the north and falling consumption.
“The authorities may achieve some temporary gains by coercing us into accepting the revised agreement, but the electricity tariffs cannot be reduced on a sustainable basis without holistically addressing the issues plaguing the entire energy supply chain,” he adds.
A breakdown of electricity tariffs shows that capacity payments account for 35pc of the Rs51.81 per unit retail cost, while taxes and levies make up 31pc.
Massive devaluation of the rupee, increase in the foreign debt servicing costs of power plants, and declining power consumption have also significantly contributed to the rising electricity tariff in recent years, says the chief financial officer of a power company.
These issues are likely to persist as trade figures show that in the last few months, Pakistan has imported solar panels from China that can produce around 13,000 megawatts of electricity.
Given these multiple factors, it was only to be expected that the cost of electricity before taxes would rise from Rs13.4 per unit in 2020 to Rs24.8 in 2023 and to Rs35.5 today.
According to analysts, even if contracts with all IPPs set up between 1994 and 2002 are terminated without any compensation to their owners, the reduction in consumer tariffs will be minimal, at around Rs1.39 per unit.
This is because only 3.4pc or Rs72bn of the estimated total capacity payments of Rs2.1 trillion are payable to the plants set up in the 2000s.
Similarly, only 4.33pc or Rs93bn out of the total capacity payments are to be paid to IPPs working under the 1994 policy.
Cost of renegotiation
While the intended benefits for consumers are disputed, the government’s “strong-arm tactics” to extract these benefits are expected to dent the confidence of local and foreign investors in the energy sector.
Insiders say the IPPs “caved under pressure” as they were told to either re-negotiate the deals or face the possibility of forensic audits of their projects. The latter could have led to criminal cases against these power producers, official sources claim.
The weakening investor confidence in the energy sector is evident from the government’s failure to attract investors for its 600MW solar project in Muzaffargarh.
This shows “lingering fear” among investors that the government “will not honour its contract and might force its revision” a few years down the line, says Zeeshan Ashfaque, an energy sector expert based in Islamabad.
“The investors haven’t forgotten the forced contract revisions imposed on power producers as recently as 2021.”
He was referring to the last government attempt to renegotiate the deals with IPPs, which helped the Imran Khan regime extract concessions worth Rs836b rupees from IPPs. This financial benefit of these concessions was expected to accrue over 20 years.
Background interviews with senior executives of private power companies at the time suggested that even then IPPs had agreed under duress.
Going further in the past, the PML-N government in 1998 threatened to shut down 11 IPPs over alleged corruption charges and technical reasons.
Later, a World Bank study said these tactics “contributed to Pakistan’s fall from grace in the eyes of the international private sector community”.
On both occasions, electricity consumers were promised relief in their bills, but that never happened.
“Contract revisions may have yielded some savings for the government, but they have happened at the cost of long-term policy stability and without any known benefit to consumers”, says a Karachi-based power sector analyst.
One downside of such measures is that the government is forced to offer similar or enhanced incentives to IPPs the next time it needs their support.
Oversimplifying a complex issue
Consumers have been agitating against soaring electricity prices for years without any response from the government. In recent weeks, however, officials seemed to have woken up from their slumber to tackle the issue.
This was in part due to the campaign by business lobbies, led by former caretaker minister Gohar Ejaz, who blames capacity payments charged by IPPs for expensive electricity.
He claims these payments could be halved to Rs1tr if all power plants were made to switch to the take-and-pay model. This, he argues, will reduce consumer tariffs by Rs10 per unit.
But many analysts and power sector insiders believe Mr Ejaz is over-simplifying a complex issue. According to them, no power plant can operate without capacity payments as these are necessary to cover debt payments, operational and maintenance costs, staff salaries and guaranteed return on equity.
Any reforms in the power sector that actually provide a tangible benefit to users have to be holistic and also incorporate systemic issues other than IPPs’ contracts. For this, the government will have to take a whole-of-the-sector approach: one that takes care of the interests of both consumers and investors while also ensuring a stable policy and political environment.
Header image created using AI platform DALL-E-3.
Published in Dawn, October 12th, 2024
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