The KG-Basin Row

 

‘The Gas Price Is Too High'

The touching concern being shown by the government for India's natural resource in gas in the dispute between the Ambani brothers is becoming murkier and murkier. Having gone on record even in Parliament that contractors have the freedom to market the gas under production-sharing contracts (PSCs), the government through a series of policy reversals has come to a stage where it wants full price and distribution control of gas. Its policy flip-flops and intervention in courts in third party disputes raise issues critical to good governance — sanctity of contracts, especially those in which the government itself is a party; non-discriminatory role of government as a regulator; and the collective responsibility of the Cabinet.

Minerals in their natural state belong to the government. But when the government gets it extracted, the licensee gets paid in kind in the form of the mineral extracted for his investment and risks, on his payment of seigniorage, royalty, etc. The title to the commodity passes on to the licensee for its disposal in the market, under legally enforceable and arbitrable contracts.

The government's policy somersaults began when Reliance Industries (RIL) found its fortunes shifting in court in its dispute with National Thermal Power Corporation (NTPC) and Reliance Natural Resources (RNRL). The Centre fixed the price for the gas from KG Basin only. Moving away from the practice of getting the price determined by official agencies such as Bureau of Industrial Cost & Prices, Tariff Commission or an expert body, the government outsourced it to RIL itself and sanctified it by a GoM (group of ministers) endorsement, overruling objections by the Cabinet Secretary and the PM's Economic Advisory Council. The price fixed is almost double of what RIL had quoted to NTPC, and close to the second-lowest price quoted by a Malaysian firm for the costlier LNG and ferried from distances longer than KG Basin. Global prices of gas have been low since then, almost half of the fixed rate. International analysts say the outlook for gas and LNG is not going to improve till 2012. India is perhaps the only country to have increased its energy prices during a recession, when a dose of low energy prices would have boosted our economy.

The government then proceeded to make allocations enforcing this high price, which RIL would not have otherwise got, if buyers were to resort to tenders as NTPC did. The net effect of these two decisions — in the unlikely event of their being upheld by courts — would be to nullify both the NTPC tender and the memorandum of understanding (MoU) between the brothers for gas supply.

Contrast this with the government's treatment of a Rajasthan PSC. The largest on-land oil find in India with a potential volume of 20 per cent of India's production, and the contractor still does not know its price or the buyer. He is denied the indulgence of his own price discovery and getting it anointed by a GoM, to be foisted on public sector refineries. Any further delay could result in distress sales with losses for all including the government. What is sauce for the KG Basin goose (which lays the golden eggs) is not sauce for the sterile gander of the Rajasthan oil.

The duty of the government is to put in place a policy environment for a gas market to develop, with appropriate regulations. It is essential to establish a national reference point for price discovery, enforce reserve disclosure norms and unbundling practices for a level playing field. The government has done little in these key areas. Instead, it has created vertical monopolies in pipelines, encouraging price gouging in transportation.

Ministers have always played favourites. But what is more worrisome is the abrogation of cabinet governance and collective responsibility. Just before the last general elections, the UPA government approved the recommendations of the Integrated Energy Policy report to move towards a market-based regime for oil/gas. But now, it is allowing a ministry to ride rough shod on these and take back the oil sector to pre-reform days. Are the inaction in policy matters and bursts of activism innocent? There is no free lunch, as they say. Ministers know it too well. Businessmen know it even better. But, the cost is to be borne by the hapless consumer.

 

‘Uniform Price Is Not A Must'

The Centre should get its rightful share; and the prices could vary for different users

Much has been said on the Krishna-Godavari Basin gas row, more has been written, and much more will follow. Yet, very few know the realities and the implications.

On ownership, there is hardly anything to dispute about. The exploration agreement is governed by the laws of India, and as per this, all mineral deposits belong to the nation. Also, the agreement contains a specific provision that petroleum products from the licensed area belong to the government.

The right to sell has been granted to the contractor, but it provides that the gas shall be used in accordance with the national policy, and national priorities. So, there is no question of treating the KG basin gas as a private property, to be divided between the family members or reserved as a first charge for their future usage or marketing. It is for the government to decide how much should be used for power generation, fertiliser production, transportation, and so on.

The pricing issue too is reasonably clear. The production-sharing contract stipulates that the product should be valued at the  price realised while selling to agencies nominated by the government. For third party sales, the valuation will be done as per a pricing formula decided by the government.

Under the agreement, the contractor is compensated for the investments made, by allowing for adjusting 90 per cent of the value of the petroleum products each year, leaving balance 10 per cent for the government. As the ‘investment multiple' increases, the government's profit share increases. The ‘investment multiple' has been defined as the ratio of cumulative total of the value of petroleum products produced, to the cumulative investment made. If the investment amounts are higher than what was originally approved — there is an increase from $2.5 billion to about $8.5 billion in the case of KG Basin — the government's profit share remains pegged to the minimal level of 10 per cent for prolonged periods.

Criticism in certain quarters that the government will receive only a few hundred crores of rupees compared to what the contractor keeps, or a counter argument that the government will receive several thousands of crores, are both irrelevant. The issue is whether the government receives its rightful share, without this being compromised by unwarranted inflation of development costs. The contract provides for scrutiny of all financial aspects by an agency nominated by the government. It is, therefore, necessary that investment amounts are scrutinised by the Comptroller and Auditor General.

When it comes to uses, the first priority should be power generation. India has been facing serious shortages. Coal is in short supply and poses environmental risks. Hydro energy is not dependable. Therefore, capacity additions in the power sector need a government commitment to make gas available to all power plants, existing and stranded, as well as new ones — and at reasonable affordable prices.

There is no need for the prices to be uniform for all users. For instance, it could be comparable to the price of fuel that gas replaces. For power sector, it could be based on the costs of coal, at about $2 per mmbtu. For fertiliser industry where the feed stock is naphtha, the price could be related to naphtha, at $5-7 per mmbtu.

Unfortunately, different players in the field have conflicting interests. The fertiliser ministry wants a pricing that will eliminate subsidies and maximise usage of gas. Those advocating piped supply for domestic usage are seeking political mileage. But little attention is paid to the concerns of the power sector.

A very high price for natural gas may fetch the government a sizeable sum, but this may not be right. And more importantly, it will pave the way for very high prices for imports in the future. For instance, the price of gas fixed now will influence the negotiated rate in the Indo-Iranian pipeline deal.

In deciding who will receive the KG Basin gas at affordable rates, the government should avoid situations of power being purchased at high prices on ostensibly laudable grounds (such as free power to farmers) only to bring huge profits to some players. State-run power generating companies fall in this category. And not merchant plants or those selling power on open access basis.

 

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