Two years later, a pricing formula similar to Cong one
Oil minister Dharmendra Pradhan has done well to finally come up with a proposal that, according to him, unlocks gas production worth over Rs 1.8 lakh crore over a period of 15 years by providing a much higher gas price for difficult discoveries such as those in the deep seas—since these are discoveries that have been made but were not commercialised due to uneconomic gas pricing, getting them to production stage will be relatively quicker. The value, in fact, could be a lot higher since Pradhan has only taken into account recoveries worth 6.75 tcf, and this does not include those of Reliance Industries where final figures have not been arrived at as yet. What is unfortunate, of course, is that the government wasted nearly two years in raising prices—under normal circumstances, that may not have mattered, but with today’s oil outlook very cloudy, any new expenditure proposal will have to pass a much higher bar than in the past, so some of the investment may not finally take place. When the BJP came to power, perhaps due to the history of the telecom, coal and other scams, it was convinced the Rangarajan formula for hiking gas prices was nothing but a way to reward Reliance—never mind that the state-owned ONGC benefited more as it had much more gas production—and said it would come up with its own formula which, for instance, removed high-cost gas supplies to Japan. Even at that time, this newspaper argued (http://goo.gl/BwdpXL) that Japanese prices had a limited impact in the formula and, in any case, if imports were taking place at $11-12 per mmBtu, it made perfect sense to pay $8.4 to local firms. While the government refused to listen and, as a result, lost two valuable years where more exploration/production could have taken place, the irony is the price it has come up with doesn’t look too dissimilar to Rangarajan’s.
This, though, is still not market pricing since a price cap has been imposed—the lowest of fuel oil, imported LNG or a basket of fuels will be taken as the cap. A cap at the lowest of three possible prices means all serious bids will mostly be at the cap price in a situation of excess demand—and since price bids can no longer be the differentiator in such a situation, the only way to transparently allocate gas among bidders is to give a higher preference to those who offer to buy more. Since this will mean the smaller users will have to buy more expensive imported gas, sooner rather than later, the government will need to move to full-blown market pricing. The larger lesson, and not just in the oil and gas sector, is that when artificial caps or barriers are put, this lowers production. In the gas sector, this was evident when exploration came to a near halt over the last two years. In the case of Bt cotton seeds, market-leader Monsanto has threatened to quit the market over the 70% cut in its royalty by a government order earlier this week. In the case of telecom, the government has been arm-twisting firms into not only paying exorbitant amounts for buying spectrum, but even in terms of paying penalties for call drops and in trying to enforce very strict definitions of net neutrality that will eat into the revenue models of telcos—over even the medium term, investment levels will suffer. This is not complicated economics, it is simple maths. Amazingly, even now, an avowed traders’ party doesn’t get it fully.