Circular debt has become the proverbial albatross round the neck of the power sector which has been suffering badly under the burden of the curse. Circular debt is the amount of cash shortfall within the Central Power Purchase Agency (CPPA) that it cannot pay to the power supply companies.

This shortfall is an outcome of the difference between the actual cost of providing electricity in relation to revenues collected by the power distribution companies (Discos) from sales to customers plus subsidies and insufficient payments by the Discos to CPPA out of the revenue realized as they give priority to their own cash flow needs.

This revenue shortfall disturbs the entire energy supply chain, from electricity generators to fuel suppliers, refiners and producers resulting in a shortage of fuel supply to the public sector thermal generating companies (Gencos), a reduction in power generated by Independent Power Producer and an increase in load-shedding.

According to a report by the Planning Commission and USAID, the country has lost 10 per cent of its GDP in the last five years in the power sector. Power sector circular debt has increased by 938 per cent in the last seven years. It rose to Rs. 872 billion by June 30, 2012, from Rs. 84 billion in 2005, accounting for 4 per cent of the country's GDP.

Poor governance, delays in tariff determination by the government, poor revenue collection by Discos, prolonged stays on fuel price adjustments granted by the courts and transmission and distribution losses are some of the causes behind the mounting burden. The provision of fuel subsidy is not properly targeted as a result of which benefits extend to undeserving sectors and segments.

It is estimated that delays in tariff determination and notification contributed Rs. 72 billion to the circular debt during 2012. On the other hand, poor revenue collection contributed Rs. 86.92 billion. Overall, the government has pumped Rs. 1.4 trillion into the system in four and a half years without any evident improvement in its performance. The huge amount of subsidy has made no difference in the situation.

The power sector is riddled with anomalies and distortions. The government fixes a single rate for all consumers and a single generation cost for all power producers. It does not allow the regulator to set the tariff by Discos territory-wise, ignoring the considerations of commercial decision-making in the light of the given situation. This results in conditions that contribute to circular debt, including a reluctance to pass on the real cost of electricity to customers. Other issues are overstaffing and wrong decision making at the Discos, open-ended subsidies to tube-well customers and disputes over payment between the Discos and provincial governments.

There is no legislation to curb electricity thefts and no administrative measures have been initiated to promote energy conservation, increase commercial transparency, strengthen regulatory entities and create an open and competitive energy market. Political and bureaucratic influences, coupled with lack of technical and management competency, also undermine the performance of Discos.

There are also other causes contributing to the ballooning of circular debt. These include thermal inefficiency of the Gencos and a failure on the part of Nepra to set balanced tariff rates based on actual vs. estimated heat costs, an unfavourable generation mix of the Gencos due largely to the government's fuel allocation policy that diverts natural gas to other uses, a non-commercial/non-professional approach to load-shedding, late payment surcharges by CPPA to the IPPs resulting from the inability of the Discos to fully pay CPPA, lack of demand-side management and a persistent failure to harness renewable energy resources.

How to tackle the problem of circular debt and prevent its recurrence? The current level of debt prevents sector entities from obtaining funding to support improvement in management and system operations and from attracting investment needed to support expansion.

To begin with, the government needs to remove circular debt from the books of energy sector entities (Discos, CPPA) and take responsibility for the mismanagement of the power sector reform process and move the circular debt amount to its own account or place a tax on the consumer to speed up recovery over time.

It is the considered view of experts that the government needs to redefine its role in the power sector as a policy maker and direction setter at the national level and allow international best practices to be followed for improved corporate governance for each of the sector entities. At the same time, tariff and subsidy disputes between the provincial governments and CPPA and the Discos need to be urgently resolved.

At the same time necessary legislation needs to be passed declaring electricity theft a punishable crime with penalties ranging from heavy fines to imprisonment with specialised courts established for the purpose. The Discos need to be made independent and members of their Board of Directors, apart from possessing high professional and technical capabilities, should have full authority for decision-making. To this end, it has been suggested that necessary changes to Articles of Association of the Discos be made to improve the directors' term of office and maintain institutional knowledge with proper rotation and replacement.

Another important recommendation is that there should be targeted, performance-based tariff for all Discos and steps should be taken to remove the current cross subsidy between the efficient and inefficient distribution companies. It has been suggested that to improve the fuel allocation policy in the short-term, fuel should be diverted to the highest value uses and high priority should be accorded to the power sector in the allocation of natural gas.

The government also needs to formulate policies and plans to promote hydro power and other domestic sources of energy that will assist in balancing the electricity supply portfolio. We need to generate more hydel energy in order to bring down the cost to consumers. The role and functions of the National Electric Power Regulatory Authority (Nepra) should also be revised with a view to improving its operations. The annual determination of tariffs for the Discos and subsequent adjustments for fuel costs are lengthy and ineffective, resulting in revenue shortfalls and cash flow problems, obscuring the true cost of electricity to consumers. Among other things, Nepra needs to improve its enforcement powers over the Discos with regard to cases of consumer overbilling and requires additional authority to move ahead with implementation. Power sector reforms are the need of the hour and cannot be postponed any further.

http://www.weeklycuttingedge.com/front%20story01.htm