The government is contemplating to put a cap on the price of domestic gas. In this regard, ministry of petroleum and natural gas (MPNG) has drafted a note for consideration by cabinet committee on economic affairs (CCEA).This is a bad idea!
In October 2014, based on the recommendations of committee of secretaries (CoS), NDA – government had introduced new pricing guidelines for domestic gas whereby its price would be determined based on ‘modified’ Rangarajan (R)-formula effective from November 1, 2014.
The R-formula used average prices of global benchmark at Henry Hub (USA) and NBP (national balancing point), UK on one hand and producers net-back from supplies of liquefied natural gas (LNG) to India and Japan in preceding 6 months on the other. However, it did not specify whether price would be on net gross calorific value (NCV) basis (this was used all along for pricing gas in India) or on gross calorific value (GCV) as per international norms.
The modification in R-formula involves substitution of LNG price of gas supplied to Japan by Alberta Gas Reference (AGR) price for consumption in Canada. On the other hand, price of LNG imports to India is replaced by actual price of gas in Russia weighed by consumption in Russia. On this basis, government approved a price of US$ 5.05 per million Btu on GCV basis. On NCV basis, this works out to US$ 5.61 per mBtu.
The above price is applicable for period November 1, 2014 to March 31, 2015. Thereafter, it will be revised bi-annually using weighted average of reference prices for a full year three months prior to the effective date for next revision. Thus, for price effective from April 1, 2015, the relevant year will be January–December, 2014.
The guidelines apply to pricing of gas supplied from nomination blocks of ONGC & OIL; supplies from blocs awarded under NELP (new exploration and licensing policy); blocs under pre-NELP where production sharing contract (PSC) requires approval of the price by the government and coal bed methane gas (CBM).
For supplies from D1 & D3 blocs of KG-D6 fields, even as consumers pay US$ 5.61 per mBtu, RIL will only get existing price US$ 4.2 mBtu and differential amount will be deposited in a gas pool account (GPA) to be maintained by GAIL. The arrangement will continue till RIL fully makes up for cumulative shortfall in supplies vis-a-vis quantity committed under PSC during past 4 years.
For deep water blocs, ultra-deep water blocs which present challenging geological environment, government will consider giving a ‘premium’ price. This will be determined in a transparent manner based on clearly laid down criteria. The guidelines in this regard are expected to be ready by early 2015.
The formula based pricing of gas is consistent with the underlying spirit of PSC which requires price to be determined on market principle. It ensures predictability & stability of policy environment and would help attracting investment in E&P. According to oil ministry, at US$ 5.61 per mBtu, investment in new discoveries like Gujarat State Petroleum Corporation (GSPC) in Deendayal bloc in Bay of Bengal, RIL in Cauvery (CY-D5), KG-D6, (R-Series) and ONGC, Mahanadi (NEC-25) block will be viable.
The guidelines also protect user industries especially sensitive sectors like fertilizers and power. Under ‘modified’ R-formula, price increase is restricted to only US$ 1.4 per mBtu as against a hike of US$ 5.1 per mBtu under R-formula. On an annual basis, additional subsidy outgo on urea would be about Rs 3500 crores or just 1/4th of outgo under R-formula. Likewise, increase in cost of power for gas based plants will be limited to only 60-65 paise per unit as against Rs 2.4 per unit under R-scenario.
In a nutshell, new structure of gas pricing strikes a judicious balance between interests of producers and consumers. Yet, in its zeal to completely immunize the power and fertilizers from fluctuations in international prices, the MPNG is now seeking to put a ceiling on the price. In other words, after determination of price using the formula approved by the government itself, it will fix a cut-off level beyond which the price cannot go.
This is a retrograde step and will undermine the sanctity of formula based-pricing. It will inject an element of subjectivity and give the bureaucrat an opportunity to meddle with the pricing mechanism. The very concept of ceiling on gas price – reminiscent of administrative controls in the 90s – is contrary to the principle of policy driven decisions adumbrated by our prime minister.
Reportedly, the government is also contemplating to bring gas supplies even from those blocs given under pre-NELP where PSC does not require approval of price by government, within the ambit of new pricing guidelines notified in October, 2014. This may lead to legal complications. For such operators, the heart-burn would be even greater when formula based price is swamped by putting a cap.
A pre-meditated flawed R-formula approved by erstwhile UPA dispensation in January, 2014 presented one extreme whose implementation would have led to skyrocketing price of gas to a high of US$ 9.3 per mBtu. This would have given a bonanza to E&P companies while having a debilitating effect on user industries and pushing subsidy burden to new heights.
The concept of a ceiling on price now mooted by MPNG presents another extreme that will not only be unfair to E&P companies but also militate against stability and predictability of the policy environment. The ministry will do well to drop it; still if decides to take it forward, Modiji should reject it outright as the proposal has all the portends of giving wrong signal to investors.
The government must not temper with the October, 2014 guidelines on gas pricing. Any concern due to formula based price rising beyond affordable limits of users should be addressed by implementing reforms in those sectors. It should get cracking on urea de-regulation while protecting poor farmers vide direct income support. Likewise, it needs to vigorously pursue bringing in competition in power sector.