How to think about Sri Lanka electricity tariffs

Mar 15, 2013 (LBO) – Suddenly, electricity is on everyone’s minds. I watched vox pop segments on a TV show (people on the street speaking to a camera). They were very upset. One even said that all that is left is to commit suicide.

Perspective

So I thought it would good to gain some perspective. The Department of Census and Statistics conducts a large-sample representative survey called the Household Income and Expenditure Survey. According to the last one conducted in 2009-10, the average household expenditure per month was LKR 31,331. Of this, the average spend on electricity was LKR 532 (1.7%). Surprisingly, this was considerably lower than average household expenditures on transportation (LKR 2,317 or 7.4%), education (LKR 1,018 or 3.2%), and even communication (LKR 755 or 2.4%).

With regard to electricity there is an assumption that the households that use the least electricity (less than 30 kwh) are the poorest. According to another representative-sample survey conducted by researchers at the University of Colombo for the Public Utilities Commission of Sri Lanka (PUCSL), the below 30 kwh group spent LKR 1,140 on education, LKR 1,000 on transportation, LKR 453 on communication and only LKR 120 on electricity. It is noteworthy that this “poor” segment of the population spent more on “free” education than on not-free transportation. The amounts spent on electricity among the entire population as well as the”poor” subset were among the lowest.

Why is a tariff increase needed?

“LKR 59 billion” is the short answer. This enormous amount, higher eventhan the subsidy of LKR 29.8 billion (LKR 29,800,000,000) spent on giving almost-free fertilizer for all crops in 2011, is represented by the inability of the CEB as well as the Petroleum Corporation to pay their bills on time. Money is owed to the Peoples’ Bank. The loss appears in multiple forms and is patched up using ad hoc methods. In the end, we all pay: through inflation and directly. CEB is broke and as a last resort, government pays with our money. Government decides; we pay.

Why is the CEB in such horrendous financial shape? According to our analysis, many factors contribute. Our consumption is increasing, with the country well on the way to connecting 100 percent of houses to the grid. We have a lot more appliances in our homes, as should be the case. In 2009-10, according to the Household Survey, 60 percent of households in the Western Province had refrigerators, with the country average being 40 percent (four in ten households). Television ownership was even higher, with 80 percent of all households owning one.

The increasing consumption can only be supplied with very high-cost electricity. The last five percent of electricity used to meet peak demand is responsible for almost 50 percent of the costs. The alternative is load-shedding (blackouts) at peak times. While this is commonplace in neighboring India, we do not like blackouts. Therefore, CEB cannot pay its bills and has to be bailed out by the government with our money repeatedly.

We have ended up in this mess because our political leaders failed to build the necessary low-cost generating capacity over the last two decades or more. The Norochchalai Plant was delayed 15 years, at least. From the last five yearswe have been talking about commissioning a 500 MW coal-powered generating station in Sampur by 2016. It has been all talk; no action. Not one sod has been turned.

Coal is increasing in price and natural gas is coming down. Where the plans to build right-sized, right-fuel plants that are both economical and fit our energy use profile? What is the status of planning for the power cable connecting us to the South Indian grid so that we can make better use of the right-sized plants?

When there are no low-cost electricity sources left, there are only two ways peak demand can be met: blackouts or expensive diesel-based electricity. So we use extremely costly imported diesel to give us 24/7 power.

Thankfully, Norochcholai Stage 1 was built. Otherwise, we would be in a much bigger hole today. Hopefully, Norochcholai Stage 2 will be connected to the grid next year. With that, we should be able to dispense with the most expensive generators for a few years until the next crisis hits.

Basis for a decision

This is the context within which the CEB has proposed a tariff revision and the PUCSL has to make a decision. No government can afford to pump LKR 59 billion into a bottomless pit. The ad hoc way in which pricing has been decided all these years has yielded a tariff structure that is wildly out of line with costs. Unless they are aligned and the government adopts a rational approach to supplying the electricity this middle-income country needs, no progress can be made.

The National Energy Policy of Sri Lanka gazetted on 10 June 2008 lays out the principles that must guide the PUCSL in its decision:

3.5 Adopting an Appropriate Pricing Policy

* The PUCSL will be empowered to regulate the energy sector including electricity and petroleum sub-sectors, to ensure effective implementation of the pricing policy.

* Appropriate pricing strategies will be formulated and implemented by PUCSL, which will prepare and regularly update plans to achieve a cost-reflective pricing policy for all commercial energy products (electricity, petroleum products, LPG) and implement them. These prices will include elements such as a reasonable return on equity, internal cash generation for capital investment and debt service.

* Necessary steps will be taken by PUCSL to ensure that the optimal energy supply expansion plans are implemented in time so that the cost reflective prices will be based on these optimal plans.

* A mechanism will be established by PUCSL to identify target groups of consumers that deserve special consideration owing to social needs or commercial realities.

In sum, prices must be cost-reflective. The question of subsidies must be separated from tariff design. Instead of throwing away LKR 59 billion on ad hoc bailouts and irrational subsidies, the government should focus subsidies on the families with the greatest difficulty in making ends meet, for example, by giving energy vouchers to Samurdhi households. It will take some time to set up such a system, while the new tariff must come into effect in April. This year’s tariff determination must include conditions for CEB to cooperate with the PUCSL to develop a better way to target and deliver subsidies as required by the National Energy Policy.

But interim relief is needed to cushion the impact for those who cannot easily afford the increase. The only quickly implementable solution is to give a credit, say of LKR 100, on the electricity bills of all households consuming less than 90 units a month (this should actually be pegged to average daily consumption for the billing period) may be implemented. A household consuming 30 kwh will pay an extra LKR 75 a month if the tariff proposal is implemented as proposed; a household consuming 60 kwh will pay LKR 174.15 more and a household consuming 90 kwh will pay LKR 432.60. The LKR 100 credit for this entire group will cost in the range of LKR 4.3 billion, which is way less than what the government pays to keep the government airlines afloat.

How do we get out of the hole?

Tariff design must contribute to bring down peak demand by around five percent. This is a policy objective pursued in many countries, especially in light of climate-change concerns. In our case, it is a necessity because that last five percent is busting the budgets of the government, the CEB, the CPC and of each household in the country.

If something is really important, one does not take half-hearted measures. One uses all the tools at one’s disposal. The most powerful tool is the price signal. The new tariff design that increases the unit price of electricity depending on level of consumption (e.g., a household with consumption below 90 units a month willpay LKR 8.50 per unit for all units, while a household with a consumption of 91 units will pay LKR 15 per unit, again for all units consumed), creates powerful incentives to reduce consumption. This must be supplemented by targeted messages reminding people to shift consumption from peak hours.

Demand side management can succeed if the price signals built into the new tariff structure are supplemented by incentives to high users. This will require additional investment in smartmeters, ICT based feedback mechanisms are so on.Ideally, investment in smart meters for a specified number of high-volume users could be condition of the tariff approval.

The window of opportunity created by a tariff design that approaches cost-reflectivity and the likely cutover of Norochcholai Stage 2 next year must be used to implement a serious demand side management program that will allow all our people to use more energy as befits citizens of a middle-income country, but more intelligently than now.Until the core problem of unaffordable electricity can be solved, all other reforms become meaningless. The 2013 tariff approval is the place to start.

Rohan Samarajiva heads LirneAsia, a regional think tank. He was also a former telecoms regulator in Sri Lanka. To read previous columns go to LBOs main navigation panel and click on the ‘Choices’ category.