The Hindu Business Line : Are we ready for merchant power?

Even when the conditions are right for private power generation, the cost economics will be dictated by high wheeling charges and cross subsidies as the States would continue to levy high surcharge.

There have, of late, been discussions about merchant power plants in the country, and the Ministry of Power has released an advertisement for 1,000 MW of Merchant Power Plants (MPPs). Are we ready for merchant power? MPPs generate electricity to sell on the open market to any buyer willing to pay their price.

"Merchant" differentiates them from power plants operated by traditional, regulated, electric utilities who are obligated to sell to all buyers, at a price determined through a cost plus or competitive mechanism and approved by a regulatory body in return for a rate of return commensurate with the risk/return of comparable investments.

Thus the MPPs are legally and economically different from IPPs and plants owned by EBs and even captive power plants of the industries. Merchant plants have no single sales contract for the term of their life and this seems terribly risky — to build a long-lasting, high-capital-cost asset that has no assurance of income.

In the US, over the last 15 years almost 200,000 MW of merchant plants have been developed by independents, most of which fuelled by natural gas due to the following reasons: Utilities which owned generating stations moved out to the independents and the resultant competition created MPPs; Consumers bought high-cost power during peak hours instead of incurring capital cost to meet the peak demand; some of them were set up as captives to a few users at fixed tariff and their excess capacities were given at market determined rates to outsiders in need; and old, redundant plants using high cost fuel etc. were sold by the utilities to the independents, who converted them into peaking stations.

Unregulated environment

Each of these uses responded to a particular prime market need. This also had its negative impact. Enron soared into prominence by creating and controlling, in effect, a stock market for electricity. As a result, the amount of power flowing from merchant plants jumped 30-fold in the 11 years through 2003, according to the US Department of Energy statistics.

But, as the economy slowed and the tech bubble deflated about four years ago, the supply of merchant power outstripped demand. At the same time, Enron's collapse into fraud and mismanagement, highlighted by the shortages and price spikes that resulted from California's ill-fated attempt at deregulation, chilled the development of a national market. Over the last four years, the MPP market has remained flat.

However, the most important reason for the success or even failure of the MPPs in the US is that they worked in an unregulated environment . The market is totally free for any consumer to buy power from anybody and access has to be given without any reservation for transmitting the bought power.

Electricity is truly traded as a commodity in the US. It does not mean total absence of any regulators; In most states where retail competition has been authorised, interim rate caps are imposed by regulators for a longperiod to protect retail consumers while market structures are developing and competitive suppliers are establishing their ability to function in the market.

KEY ISSUES en ROUTE

But are we ready for the MPPs? Some of the key issues to be addressed in this regard are:

There are acute shortages in the country and we ration out use of electricity. The demand-supply gap is large.

The prices are fully regulated and there is no correlation between the cost of generation and the end-price paid by the consumer. There is a significant level of subsidy to all the consumer groups — in the form of lower-than-cost tariff or lower-than-cost recovery of infrastructure that go with the generation, transmission and distribution of electricity.

Thefts, pilferage, losses and inefficiencies arising out of transmission and distribution are high. This has resulted in higher-than-normal wheeling charges for transmitting electricity. There is no common charge across the country for wheeling. States discourage wheeling and banking for captive and third-party use.

The utilities are not free from government interference. The EBs in quite a few States are yet to be unbundled and civil servants hold sway over the structure. These monoliths create such monopoly that independent operators are unable to operate freely. Except in Delhi, no attempt has been made in any State to privatise distribution and transmission.

Transmission — intra- and inter-State — is grossly inadequate. While Section 42 of the Electricity Act 2003 promises open access, it will be far from reality unless significant capacities are created in transmission.

Even 15 years after the power reforms policy, no private sector entry in transmission is seen or envisaged in the near future. PGCIL has the sole monopoly though efficient.

Cross-Subsidy Surcharge for open access by unrelated buyer-seller combine as stipulated by the EA 2003 has not been clearly defined yet. In some cases such as Gujarat and Tamil Nadu, it is as high as Rs 3.50 per unit sold. In the case of Maharashtra, the MERC has declared this as nil .

Some States, such as MP, have pegged this at lower than Re 1 . There has been no stable policy from any of the States, though the Act stipulates that the surcharge is to be withdrawn in toto in five years.

Given these conditions, how would an MPP sell its output? There is no private market. Conditions are not conducive for development of a private market in the near future. Even if it exists, the cost economics will be dictated by high wheeling charges and the cross-subsidy surcharge as the States would not give up the creamy layer and would continue to levy high surcharge.

Selling to EBs and discoms (distribution companies) during peak hours and lean season (summer) is a strong possibility. This is already being handled by NTPC and other agencies. There may be a few summers like last year when Maharashtra bought power at Rs 10 per unit. But these are far and few in between and MPPs cannot be set up based on summer demand alone. Trading licenses were encouraged but effectively there is no trading market, except between State utilities. No private trade has been signed so far, not even for a single unit of electricity.

HITCH IN COAL

The Ministry wants to encourage coal-based MPPs and allocate coal blocks to them. These plants cannot be switched on and off at will. They will require an eight- to ten-hour cycle time to stop and start, and even then the fuel loss is very high. MPPs typically have to supply whenever there is demand.

Peaking stations are to operate only in the peak hours. This being so, coal is not a recommended fuel at all for MPPs. Natural gas is the only option. Given the pricing and availability, natural gas-based stations are not feasible unless supplies are assured.

With so much uncertainty, who would finance the MPPs?While NTPC, BHEL, etc., alone can put up their balance-sheet for these projects, no other private operator is capable of exposing their books for such ventures. Even in the case of NTPC or BHEL, they may set up a few peaking stations near the gas pipelines and but would not go for capacities such as 1000MW.

Thus, given the complexity of the Indian market, the scheme for MPPs may remain a dream unless the market reforms totally and free access is made available to the consumer for creation of a competitive market.

(The author is a power consultant and can be contacted at paddy8@gmail.com)