The Hindu Business Line : Power reforms need to be wired to gains

Many States have introduced reforms by forming three or more separate companies for generation, transmission and distribution. Until the reforms are understood and pursued in letter and spirit, they cannot result in any substantial gains to the economy. Companies that own distribution infrastructure could play the dual role of distribution system operator and retailer.

A political accident meant to depose the democratically-elected government in Chile became the precursor for the privatisation of electricity industry, which subsequently turned out to be the model, driving reforms in the power sector throughout the world. On September 11, 1973 (28 years before the infamous 9/11 in the US), the elected government of Salvador Allende lost power to Gen Augusto Pinochet in a military coup. Chile has been a democracy ever since its inception. The socialist government of Salvador Allende brought about mass nationalisation and presided over a budget deficit of 12.4 per cent of GDP.

The Pinochet government brutally suppressed political opponents and introduced neo-liberal economic reforms inspired by economists such as Milton Friedman and Al Heberger from Chicago. By 1980, many utilities/banks started showing profits after posting huge losses in the past socialist regime.

The idea of reforms in the electricity sector was implanted in Chile in 1978, which became the first country to introduce mass scale restructuring in the industry after the passage of the Electricity Act in 1982. Much before electricity companies were privatised in England and Wales, Chile commenced the process and is probably the only developing country where reforms are being pursued in the electricity sector successfully for the last 25 years.

While most of the developed world has followed suit, the reforms in India — though being talked about since 1991 — were seriously introduced in 1998 with the introduction of a regulatory law and got a big push after the Electricity Act, 2003 was passed in Parliament.

The reforms in the electricity sector are meant to introduce the following basic changes in the industry:

Vertical disintegration

Move the price setting mechanism away from the hands of the government to the market forces by establishing power markets;

Introduce competition in the electricity supply industry;

Distance government from the business of electricity and, thereby, change the focus from political to business.

Many States in India have introduced reforms by forming three or more separate companies for generation, transmission and distribution. While it may take longer for the benefits to be realised, the patience of the people who suffer because of mismanagement may give way to widespread unrest.

Until the reforms are understood and pursued in letter and spirit, it cannot offer any substantial gain to the economy. In comparison, developed countries such as England and Australia, with democratic governments, have been able to drive reforms quickly and thus started benefiting from the economic efficiencies of free market.

In Australia — a country two-and-a-half times the size of India but with a very small population — the interconnection of the electric grids has been a major issue. However, six eastern and southern states have joined and introduced reforms vigorously. Victoria led the race and, today, there is a common wholesale electricity market for the six states of New South Wales, Victoria, Australian Capital Territory, Queensland, South Australia and Tasmania. Western Australia, where the grid is not connected to other states, has introduced reforms on its own.

If Australia is taken as a model, then we could have had five markets with just five electricity regulators and one or five market regulators. Reforms in India seem to have lost their way by the introduction of separate regulators for each state.

Five grids, which existed earlier, could be the basis for the appointment of regulators rather than the political boundaries of the States. Even when the regulator is common, the prices of electricity could be different in different States, as is the case in Australia.

Generation, transmission, distribution and retailing are four different types of business activities.

Hence, it is essential to first unbundle the electricity boards that have been in existence for over five decades now. The following processes, thus, need be established to achieve efficient and successful reforms in the electricity sector in India.

Unbundling

Boards constituted with an objective of providing electricity to all need be first dismantled and separate companies formed to manage different types of businesses such as generation, transmission, distribution and retailing.

Regulatory

Merge the existing State-wide regulators into five regulators based on the erstwhile regions. Appoint as regulators professionals who have an understanding of the markets, and economics and train them in regulatory affairs in institutions abroad.

Wholesale market regulator: Appoint a separate market regulator to ensure healthy competition in the electric supply industry.

Distribution

Create separate business entities based on the load in each city/town/rural area. The companies that own the distribution infrastructure could play the dual role of distribution system operator (DSO) and retailer. At least a part of the equity in the DSO should be sold to private businesses that should also be given the role of managing the new entity. It is essential that the DSO be managed on the basis of sound business principles. Each city/area to have more than one retailer. All retailers will be required to pay management fee and wheeling charges to the DSO. A mechanism to be established to subsidise the rural areas by the extra revenue earned from the urban areas.

Generation

Create separate business entities with one or few generating stations combined to form a company. Part of the equity in these companies should be sold to private partners who would also be given the role of managing these companies on the principles of business and fair competition. The Government could appoint minimum number of directors to protect the public interest.

Transmission

Transmission companies could be managed by the government or private owners. Operational revenue to these companies will come from a simple formula of allowing the owners to recover their fixed costs and motivate them to keep the system up and running all the time.

Retailing

Traders could buy electricity in the wholesale market and sell it to the area they are licensed to retail.

Customers will, thus, have a choice among the retailers for their area including the DSO. Retailers will pay wheeling charges to the DSO. The following exercise must, therefore, begin in right earnest:

introduce wholesale electricity markets in each region with the market operator also acting as the system operator;

unlock the wealth in the distribution and generation companies by giving its control in the private hands even though the government has the controlling stake;

institute a mechanism to subsidise rural areas by the income from high-density urban areas;

regulators to act as guardians of fair competition but refrain from being the `price setters'; and

distance the governments from the business of running electricity by appointing independent professionals on the boards to run the companies.

(The author, an energy specialist with extensive consulting experience in the US, Australia and Korea, is Director — Operations — Mahatransco, Mumbai.)