Pitfalls of privatising coal mining

It is often argued that India needs to open up its coal sector to ensure competition and growth in coal production. The scope of this argument has increased, following Coal India’s recent failure to increase output to keep pace with growth in demand from the power sector.

This is the first time since economic liberalisation that CIL has failed to keep up with the Plan (2007-12) targets. But during the last five years, private capital, for the first time, played a significant role in India’s massive 55,000 MW capacity addition. Naturally, the shortage in fuel supply had hit investors’ sentiment.

While a flustered government responded to the situation by turning the heat on the national miner, the industry lobby was quick to step up its long-pending reform agenda (of privatisation) in coal production.

The argument is simple: India aims to add 1,00,000 MW of power capacities, mostly coal-fired, in the current Plan period (2012-17).

To make such electricity affordable, the country needs an additional 500 million tonnes of cheap domestic coal, over and above the existing production of approximately 585 million tonnes (2011 estimates by World Coal Association).

Lessons from China

Though CIL has adequate cash to invest, reformists challenge the ability of the State-owned commercial monopoly. The remedy, they suggest, lies in stripping the company of its reserves and distributing them to private capital to ensure faster growth in production at least cost.

The explosion in coal output in China, which opened the mining sector in 1978 — around the same time when India abolished private mining — is cited in support of such reforms.

Today the ‘Dragon’ economy is the world’s largest producer of coal at 3,471 mt (2011 estimates). Of the total, a little over two-third of capacity was added in the last decade, when the country was quick to embrace open market principles.

The comparison, however, ignores the fact that the growth in production has come at a cost, which would be unacceptable in a democracy like India.

For instance, in 2000, for every million tonnes of coal produced, close to six miners died. As in 2009, the fatalities have been reduced to less than one person for every million tonnes produced, against the CIL average of less than one casualty for every 5 million tonnes.

What’s more, China’s reforms in the mining sector have impacted the power generation sector.

Electricity tariffs

In 2011, China’s five major power companies — Huaneng, Datang, Huadian, Guodian and China Power Investment (CPI) — suffered an aggregate loss of more than $2.4 billion (or approximately Rs 13,200 crore at Rs 55 a dollar) in their electricity business.

The losses are four times higher when compared with 2010, says a recent report in the Guangzhou-based The Time Weekly , quoting the State Electricity Regulatory Council (SERC) annual report, 2011.

The blame should go to deregulation of coal prices beginning 2007. The initiative was linked to China’s central planning to deregulate electricity tariffs. But a spike in coal prices, coupled with high inflation, changed the ball game.

In a bid to soothe nerves of power sector, China hiked electricity tariff thrice in 2011, “more than any other year in history” and, imposed price caps on coal for power generation. But none of these moves was enough.

According to a March 2012 Reuters report, the country witnessed an over 41 per cent rise in thermal coal prices, in exactly two years between fourth quarter of 2009 and end 2011. In comparison, electricity tariff inched ahead.

The result is showing on the books of power companies. According to The Time Weekly , 17 out of 24 electricity firms listed on Shanghai and Shenzhen stock exchanges, reported a grim outlook for 2012.

“Central Planning takes a black eye”, writes Banyan, blog run by The Economist . The report elaborates how the deregulated mining sector defaults on contracts and forces the power sector to buy fuel at spot prices.

Experience worldwide

Clearly, producing more coal is not the only problem. Availability of such coal at fair prices for electricity generation is a bigger concern. Across the globe, even in the developed world, there is consumer resistance to allowing free forces in the energy sector. The problem crops up when primary energy prices are set free, which is a consequence of inviting private capital in harnessing such resources.

Private capital worldwide is not ready to forgo an opportunity to rake in profits at a time of rising energy prices, more so in emerging economies largely dependent on coal. South Africa, for example, has seen a spike in electricity tariff since 2009.

Sharp revisions in electricity tariff failed to protect the financial health of its electricity sector, as the South African government forced the state-owned, near-monopoly, Eskom, to absorb a large share of the cost increase.

Indonesia, the fourth largest coal producer and a major exporter to India, is trying to protect national interests through a series of measures that restrict the play of free market forces in coal.

Reformists may argue that the appointment of a coal regulator, as suggested by the T.L. Sankar committee, may safeguard India from volatility in coal prices.

But that’s mere theory, as is evident from the latest imbroglio in the country’s natural gas sector, where private capital is now dragging its feet to develop assets until the regulator allows it to take full advantage of market prices.

Stable Indian story

The national monopoly over coal has so far served India’s interests. As against a 41 per cent price rise in two years in China, prices of coal sold to power stations have largely remained flat since 2009.

True, approximately 55,000 MW capacities added in Eleventh Plan (2007-12) will get only 65 per cent domestic coal supplies (to be increased to 80 per cent over a period of three or four years) in 2012-13.

But the majority of the power sector gets full supplies. And, unlike in China, the privately owned utilities are neither charged a higher price for coal, nor are they asked to absorb a minimum of 30 per cent cost push on fuel.

On the contrary, Indian government turns the heat on CIL to forgo its profit opportunities to ensure supplies to power producers.

The national miner sells average power grade coal of 4200 Kcal GCV — constituting nearly 70 per cent of its production — at Rs 900 a tonne ($16 at current exchange) inclusive of Rs 300 a tonne taxes and duties.

CIL supplies are nearly 60 per cent cheaper than the domestic price (FOB $39 a tonne) of similar quality coal in Indonesia.

CIL’s skewed pricing model allows the company to earn profits only on 30 per cent of supplies, directed to sectors other than power.

Given the huge Rs 2,00,000 crore under-recovery of the distribution utilities despite such cost advantage in generation, India has little choice but to live with a government-controlled coal sector.

The option of paying through one’s nose for electricity, or jeopardising the future of the electricity business, is far worse.

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