India depends on imports for about 83% of its crude oil and 50% of gas requirement. Considering the huge quantities involved, the price at which these products are imported has a potent effect on the health of the economy by impacting the twin deficits viz. current account deficit [CAD] and the fiscal deficit [FD] and other related parameters such as inflation, interest rate, borrowing cost etc. Therefore, all stakeholders including the government – both Centre and states – always pray for reduction in their prices.
The steep reduction price of crude from over US$ 70 per barrel at the start of 2020 to around US$ 35 per barrel currently [on April 22, it even went below US$ 20 per barrel] and corresponding decline in price of imported gas by about US$9 per million British thermal units [mBtu] due to huge destruction of demand in the wake of Corona crisis should therefore, bring cheer to the Centre. But, that does not seem to be the case if one goes by observations of the minister for petroleum and natural gas, Dharmendra Pradhan.
Pradhan has expressed concern over the decline in profitability of domestic producers of crude oil and gas viz. public sector undertakings [PSUs] viz. Oil and Natural Gas Corporation [ONGC], Oil India Limited [OIL] besides private firms such as Cairn Oil and Gas, Hindustan Oil Exploration Company [HOEC] etc as they are required to sell their output at parity with global prices which have plummeted. In the last few months, ONGC has been realizing < US$ 30 per barrel from sale of its crude against production cost of $35-40 per barrel; in case of gas, it is getting US$2.39 per million British thermal units (mmBtu) from April 1, 2020, against production cost of around $3.8-6.6/mmbtu in various fields. According to S&P Global Ratings, its consolidated earnings before interest taxes depreciation and amortization [Ebitda] will decline by 30%-35% during 2020-21.
To alleviate their concerns, for crude oil, the minister has proposed lowering of the cess and royalty. Currently, the cess levied @ Rs 4500 per ton works out to about 16.7% of crude production value, royalty is charged @ 15% [reportedly, ONGC has requested the government to consider exempting it from payment of cess, royalties, until crude prices are less than $45/barrel].
In case of gas, besides reducing royalty, he has alluded to bringing about a change in the methodology of pricing domestic gas to make it attractive for producers and even set up a committee to come up with suitable recommendation. The ministry is also looking into industry’s request for reducing or deferring profit petroleum, the government receives from domestic crude producers under the PSC [production sharing contract] regime.
Normally, reduction in taxes and levies is a good thing as it has the effect of reducing the price of a product to the consumer more so when the basic price [excluding levies] is on a rising trajectory. But, to do this at a time when the basic price itself is decreasing [as it is happening now] looks anomalous unless the intent is to give even more benefit which does not seem to be the case here. There could be something more to it than what meets the eye. Could it be that the government reduces the levies but the end price to consumer remains unchanged?
If, it happens, that will tantamount to letting the producer appropriate the benefit. This may well be the case as the minister has promised them help to improve their realization notwithstanding reduction in the base price. We had heard of using fiscal levies to help consumers via lowering price as also growth by boosting demand. But, to use these for helping producers – denying benefit to consumers – is unheard off.
The suggestion of a change in the methodology of pricing domestic gas – ostensibly to make it attractive for producers, is even more worrisome. To assess the implications, let us check out for some facts. Under the guidelines in vogue since November 1, 2014, for all of domestic supplies from fields given under new exploration and licensing policy [NELP] as also blocks given on ‘nomination’ to ONGC and Oil India Limited OIL under pre-NELP, the price [call it normal price] is a weighted average of prices at 4 international locations in USA, UK, Canada and Russia. Revised every six months in a financial year, the current price from April 1, 2020 is US$2.39 per million Btu.
Under a special package for deep/ultra-deep, high-pressure/high-temperature [HP/HT] fields announced in March 2016, the supplies there from are allowed ‘premium’ price linked to the prices of alternate fuels including fuel oil, naphtha and imported liquefied natural gas [LNG]. The current price determined on this basis is US$5.61 mBtu which is more than double the normal price.
A third pricing mechanism exists for fields given under the Open Acreage Licensing Policy [OALP] [the policy was introduced in July 2017]. The supplies from these fields – conventional gas as well as unconventional hydrocarbons viz. shale gas, coal bed methane [CBM] – are eligible for market-based price which also applies to unconventional hydrocarbons from the fields awarded under NELP.
ONGC and OIL have 149 marginal fields which account for about 5% of their total output. After auctioning them to private entities [a process already initiated], the new owners will get complete freedom of marketing and pricing of supplies from these fields.
In short, except for fields under NELP and ‘nomination’ blocks under pre-NELP, supplies from all others are already eligible for significantly higher price – either based on alternative fuels or market-determined price. Now, producers are demanding a change in the formula for the former as well. On their prodding, the government had already initiated discussions to lift price restrictions on such supplies. Under Covid era and declining gas price globally, these have been put on fast track. The re-look is totally unjustified.
First, the 2014 guidelines were adopted in response to a demand from none other than oil and gas producers that the government should debunk the erstwhile archaic system of administered pricing and move towards market based mechanism. Modi – dispensation did precisely that by adopting a formula-based approach.
Second, a committee of secretaries [CoS] [the 2014 guidelines were based on its recommendations] had rightly rejected ‘competitive bidding’ route arguing that demand being far in excess of supply, this would lead to exploitation of consumers. On the other hand, linkage with prices at mentioned locations – major international gas trading hubs – would free pricing from such an aberration.
Third, the formula-driven pricing maintains a ‘neutral’ stance between producers and consumers. When, the price increases, producers stand to gain whereas, under a decreasing price scenario, producers lose but consumers stand to gain. This has to be taken as a package. One can’t do cherry picking. For instance, between November 1, 2014 and September 30, 2016, the ONGC/OIL gained as their price realization based on this formula in US$ 4.24 – 5.61 per mBtu range was higher than their production cost at US$ 3.59/3.06 per mBtu. Now, when the same formula gives them US$2.39 per mBtu [April 1, 2020], they should have no reason to crib.
Fourth, the price as per 2014 guidelines is applicable to supplies mostly from fields that are over three decades old wherein the initial investments have already been amortized. As regards, investment to sustain recovery from those fields, cost of equipment and services globally have also plummeted which should help in lowering cost of their operations. We also need to check for possible over-statement of cost [ONGC says, its cost is $3.8-6.6/mmbtu] by adding capital spend in development of newly discovered fields.
Fifth, it provides a ‘stable’ and ‘conducive’ policy environment for producers to take decisions based on their assessment of how prices will move in relevant jurisdictions [albeit those included in the formula]. Any attempt to tinker with it purportedly to accommodate concerns of particular sectors [or companies] at any given point of time will rob it of this vitality and robustness; hence, it should not even be under consideration.
Yet, if the government goes ahead with re-working the pricing methodology purportedly to keep the price high, this will be a retrograde move and seriously compromise the interest of user industries especially fertilizers and power which consume nearly 75% of gas but cannot afford to pay more due to majority of their consumers [farmers and households] being poor.
The minister will do well not to pursue this idea and let consumers/users reap the benefit of reduction in international price of crude and gas. Even producers won’t be at a loss as they can increase return by maximizing production.