By Ratna Sansar Shrestha, fca
A finding of the Auditor General’s Office stated that the average cost of powerhouses built by the Nepal Electricity Authority (NEA) was Rs 364.6 million per MW, basically due to failure in financial engineering manifesting in cost and time overruns. Specifically, the cost of 60 MW Upper Trishuli was Rs 280.5 million/MW, 14 MW Kulekhani III Rs 323.5 million/MW and 30 MW Chameliya Rs 490 million/MW. While independent power producers’ (IPPs) average cost was Rs 162.2 million/MW only. Of which, 42 MW Mistri Khola cost Rs 134.3 million/MW, 3.8 MW Super Mai Cascade cost Rs 146.8 million/MW, 7.8 MW Super Mai II Rs 190.8 million/MW and 6.6 MW Rudi Khola ‘B’ Rs 177 million/MW.
NEA’s subsidiary too spent Rs 196.2 million/MW on the 456 MW Upper Tama Koshi, which was initially announced to be the most attractive project, almost thrice the estimated cost and 20% more than the IPP average cost.
Construction costs and tariffs
Logically consumer tariffs from expensive powerhouses would be higher than from inexpensive powerhouses. Because the tariff is based on the cost of generation which is based mostly on construction cost. In the competitive electricity market, the electricity from expensive powerhouses would not find buyers or even if found, will incur loss or the profit will be very slim, while the powerhouses built at low cost would be profitable. This is a general principle of economics that applies to all commodities and products.
Ground reality
But the ground reality of Nepal’s electricity sector is just the opposite. Although NEA constructed costly powerhouses, it made an astoundingly high net profit of Rs 21.38 billion (after adjusting the loss on trade with India) by selling electricity worth Rs 89.57 billion to domestic consumers last fiscal year; net profit 24% of sales. It is a manifestation of NEA profiteering by exploiting consumers, although it failed to achieve economy, efficiency and effectiveness in the construction of powerhouses.
According to Section 3 of the “Black Market and Some Other Social Crimes and Punishment Act 2032,” more than 20% profit constitutes profiteering and is punishable. Legally a profiteer is subject to imprisonment for up to 1 year or a fine up to Rs 250,000 or both. If an ordinary businessperson had committed such a crime, s/he would have been prosecuted and sentenced to imprisonment or fine. However, NEA has not been prosecuted for profiteering at all.
NEA did not just make a profit of more than 20%, rather a net profit of 24%. When net profit is 24%, the proportion of profit must be a lot higher.
Moreover, NEA is a monopoly and it is a heinous crime for a monopoly to profiteer by exploiting consumers. However, the state agencies including the Electricity Regulatory Commission (ERC) turned deaf ears and consumerist NGOs adopted a mysterious silence. This is a huge distortion and anomaly existing in the electricity sector, which has to be abolished.
Unbundling Electricity Sector
Section 18 of the Electricity Bill, currently under consideration by the House of Representatives, has a provision for unbundling of the electricity sector which will mitigate the distortions and anomalies, under which a single organization could not be a generator, transmitter or distributor. Once the bill is passed, a competitive market will be established where consumers could buy electricity directly from generators that build powerhouses economically, efficiently and effectively thereby ending NEA’s profiteering.
Natural monopoly
NEA is a natural monopoly from an infrastructural standpoint. As the electricity generated by powerhouses reaches the consumers through the transmission and distribution networks, it is physically impossible for each generator to build separate sets of transmission and distribution networks to sell electricity to each individual consumer. Before the introduction of cell phones, Nepal Telecommunication Corporation also had a natural monopoly on landline telephone systems (actually monopoly over landline phones had been broken in some Western countries, but due to space constraints it’s not possible to discuss this here).
Before NEA was established, there was the Electricity Department of GoN, Nepal Electricity Corporation, Purvanchal Electricity Corporation and the Small Hydropower Development Board. Therefore, it was possible to compare the cost of powerhouse construction and competition existed to an extent. After the promulgation of the Nepal Electricity Authority Act 2041, these four institutions were merged to establish NEA, which was given a full monopoly in electricity generation, transmission and distribution.
Electricity Act
As mentioned above, although electricity is part of the infrastructure sector, the Electricity Act 2049, had a provision to issue licenses to the private sector for generation, transmission, and distribution. The first license was issued for the 60 MW Khimti project in late 2049 and NEA signed the first power purchase agreement (PPA) for it in late 2050, thereby breaking the monopoly of NEA in generation. Now there are almost 400 IPPs generating, constructing powerhouses and awaiting financial closure.
The private sector did not evince interest in transmission. NEA has a monopoly over 90% of distribution, while community entities and BPC distribute to 10% of consumers.
In this manner, as an integral part of the reform of the electricity sector, the first stage of competition was implemented by disallowing NEA to have a monopoly over generation, due to which comparison of construction costs between NEA and IPPs has become possible. Before the 1990s nobody was in a position to question NEA in this respect.
Monopsony and monopoly
At present, IPPs are not allowed to sell electricity anywhere else. Therefore, NEA is the single buyer, ergo a monopsony. On the other hand, NEA, community entities and BPC enjoy a monopoly over distribution in respective areas. Hence, there is monopsony and monopoly together currently in the electricity sector, a manifestation of anomalies and distortions.
Due to this, notwithstanding that NEA has built costly powerhouses, it succeeded in making a huge net profit of Rs 20 billion, illegally. If any IPP was to build a costly powerhouse it would go bankrupt since NEA would not purchase at rates higher than agreed in the PPA and, consequently, that IPP would suffer loss.
Electricity Regulation Commission
IPPs are forced to avoid cost and time overrun during construction, due to the risk of bankruptcy. But NEA did not have to go bankrupt even though it had incurred huge time and cost overrun; on the contrary, it illegally made a huge “net profit.” Because ERC fixes consumer tariffs based on the cost of generation and purchase from IPPs.
ERC is required by section 13 (1) (d) of the Electricity Regulation Commission Act 2074 “to identify and implement measures to minimize the cost of electricity.” In other words, ERC has the mandate to tell NEA that it cannot impose its failures to control time and cost overrun in the construction of powerhouses upon the consumers and refuse to fix unconscionably high tariffs. ERC should have refused to accept additional costs incurred due to time and cost overruns while fixing the tariff. But ERC demonstrated dereliction in fixing consumer tariffs. Hope it is not for lack of competence on the part of the chair, members of ERC and its bureaucracy.
Competitive wholesale market
The second stage of reform is the introduction of competition in the wholesale electricity market. Distribution companies (DISCOs) would be set up in geographic regions and these would buy electricity in bulk directly from generators of any region at competitive wholesale rates. At this stage, the transmission network operator facilitates the wholesale market, which would levy wheeling charges.
For example, Kanchanpur district DISCO in Sudur Paschim Province can buy from a generator in the Panchthar district of Koshi Province and retail it to consumers in Kanchanpur district.
Due to the competition between the generators, powerhouses built economically, efficiently and effectively would be able to fix low wholesale rates. And since profiteering is illegal, DISCOs buying at low wholesale rates would be forced to sell to consumers at low tariffs.
Competitive retail market
The last stage of the reform is competition in the retail market; consumers would also be allowed to participate in the competition. Like the transmission network operator facilitating the wholesale market, at the final stage the distribution network operator would facilitate the retail market for a certain fee. The consumers would not be limited to the DISCOs of their respective regions. Any consumer can buy from any DISCO that offers competitive rates.
At this stage, not only generators and distributors do not have to be bound by geographic boundaries, but consumers too would not be bound by geographic boundaries. A DISCO in any region can sell to a consumer in another DISCO’s area at a competitive rate. In other words, in the second stage, the generator is not limited to the geographic area and could sell to any DISCOs. In the final stage, DISCOs can also buy from the generator anywhere and sell to the consumer everywhere.
For example, Sunsari district DISCO of Koshi Province can buy electricity from a generator in Darchula district in Far Western Province, while a consumer in Kathmandu in Bagmati Province can buy electricity from Kaski district DISCO of Gandaki Province. That is, Jhapa DISCO can buy from the generator in the Tanahun district and sell it to the consumer in the Bardia district. In this manner, full competition in the electricity sector becomes possible, ending the current situation where NEA as a monopsony exploits IPPs while consumers are exploited by monopoly distributors.
Conclusion
Some officials of NEA, its unions, misguided intellectuals, etc., reportedly, have opposed the above-mentioned provision of the Bill. It must have been done so due to failure to fully appreciate this provision. Since all the generators and consumers will benefit after this provision is fully implemented, the employees of NEA and their family members will also benefit, as they too are consumers and it is illogical for them to oppose this provision. Moreover, due to competition in generation, the cost of construction of powerhouses including by NEA would be reduced substantially and the electricity tariff would be reduced by a lot, which will not only benefit all segments of consumers but the economy and the country. Therefore, it is important to fully appreciate the spirit enshrined in the said section and help in the implementation of such a positive revolutionary step.
The views expressed in this article are the author’s own and do not necessarily reflect People’s Review’s editorial stance.
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