Shaukat Tarin wants to reduce the circular debt but does not want to increase tariffs. Considering the inflationary pressure, his ambition is understandable and even admirable.
Right before Tarin joined the cabinet, the government came up with a three-year circular debt management plan, aiming at containing the circular debt at the current level until 2023. This would essentially mean reducing the flow (addition to the circular debt) to zero. In the absence of this plan (do-nothing scenario), a flow of Rs2.5 trillion is expected to be added to the circular debt by 2023, with new capacities coming online.
Sustaining the circular debt at the current level is therefore a very ambitious target. So how will this Rs2.5 trillion be reduced to zero? Broadly speaking, the actions under the plan can be clubbed into three areas.
First is the increase in tariffs. The plan stipulates increase in base tariff of more than Rs5 per unit in the next two years (till July 2022), leading to a reduction of Rs850+ billion in the projected accumulation of circular debt (flow). This increase in base rate will be over and above the pending quarterly tariff adjustments of roughly Rs2 per unit or any periodic fuel cost adjustments. This is the part that Tarin wants to avoid (or dilute).
The second part is about achieving efficiencies in the power sector. This would be a combination of retiring older independent power producers (IPP), renegotiating the newer IPP (including CPEC projects, with the goal to at least extend the tenor of debt), signing a new commercial-based power purchase agreement with K-Electric to ensure timely payments, and most importantly turning around the loss-making distribution companies (DISCOs).
However, all of this is easier said than done. The delay and reluctance of bureaucracy to pay IPP dues, under an already agreed deal, manifested the challenges involved in extending this process. Renegotiating Chinese projects would depend on diplomatic undercurrents. Turning around DISCOs would mean addressing problems with unions and vested interests. Without imposing penalties for poor performance on the DISCOs (such as a hit on distribution margins), no performance contract will be effective.
The third part of the plan is about providing the required fiscal cushion. The Ministry of Finance would be required to increase the provision of subsidy significantly, taking it close to Rs500 billion, including AJK subsidies and mark-up on Power Holding Limited and IPP payments. Considering the current fiscal constraints, this seems like a herculean task.
Lastly, the plan also assumes 4.5 to 5% growth in demand, some of which will come organically, but also through other means such as incentivising (or coercing) existing captive producers back to the grid.
None of the proposed solutions are easy and there is hardly any room to make them more ambitious. Raising tariffs may only be one part of the plan but is quite a sizeable one. If the government decides to not raise tariffs or to stagger the increase over a longer period, it will ultimately need to reduce its target for circular debt reduction. The only other option is to inject more money into the power sector through more borrowing or raising money through other means like privatisation.
The fact of the matter is that at the end of the day, either the consumers will have to pay off these liabilities directly through increased tariffs or else the taxpayers would pick up the tab indirectly through more taxes or borrowing. But the longer we delay these decisions, the greater will be the magnitude of this crisis.
Published in The Express Tribune, May 18th, 2021.
Comments are moderated and generally will be posted if they are on-topic and not abusive.
For more information, please see our Comments FAQ