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Tuesday March 19, 2024

Economic reforms: Part - IV

By Waqar Masood Khan
December 12, 2017

The tariff differential subsidy (TDS) spawned perverse incentives for a number of players and was detrimental to the fiscal system. We describe here the tariff regime and the nature of such perversities adversely affecting the fiscal system of the country.

First, the Ministry of Water and Power was relishing its power entailed in distributing huge sums of TDS to power producers. The criteria for distribution would frequently change and the sweet will of the distributor mattered the most.

Second, they loved TDS because it was paid on uncollected bills as well. It was equivalent to sharing the electricity bills between the consumers and the government on a one-way street: even if the consumer is defaulting, the government should pay. Indeed, the ministry was frequently miffed when TDS was falling due to negative fuel adjustment on account of declining international oil prices.

Third, because averaging across Discos was denied, the relative share of subsidy for the lifeline consumers became obscene: consumers paid Rs2 per unit, with the average minimum tariff at Rs12, the subsidy was five times the tariff being paid.

Fourth, Nepra was acutely apathetic to this state of affairs, if not downright ecstatic, as it was obtaining fees for determining so many individual tariffs. Nobody at Nepra cared that these tariffs were not implemented and that the single tariff implemented was resulting in a huge burden on the exchequer or creating circular debt (CD) as determined tariffs did not cover costs.

Finally, the banks were a major beneficiary since circular debt would frequently be financed through borrowings at an exorbitant mark-up and constantly rescheduled. The mark-up also had a penalty clause if it wasn’t paid on time, which nobody cared to avoid and the penalty rate was frequently paid. More than Rs400 billion has been paid as CD through commercial borrowings – parked in a Special Purpose Vehicle (SPV) called a power-holding company, and making mark-up payments of nearly Rs40 billion that are being recovered through special surcharges in the consumer tariff. The industry is justifiably agitating the burden of such surcharges.

To rectify this anomaly, an amendment was made in the Nepra Act, through the Finance Act 2008, by inserting a new sub-section in Section 31 to enable the government to levy a surcharge to equalise the tariff across Discos. However, this was not implemented by the ministry on the excuse that it would be struck down by the courts, even though the Neelum-Jhelum surcharge continues to this day. The real motive was the perverse incentive of extracting TDS, as explained above.

The deeper problem was a provision of the Nepra Act that frustrated federal government’s authority. Section 7 of the act deals with the powers of Nepra and its subsection 6 states that “in performing its functions under this act, the authority shall, as far as practicable, protect the interests of consumers and companies providing electric power services in accordance with guidelines, not inconsistent with the provisions of this act, laid down by the federal government”.

Evidently, the federal government’s power to issue guidelines to the authority faces a rider of consistency with the act, making the provision ambiguous. This enabled the authority to disregard the policy directives of the federal government, aimed at rectifying the anomalies. The authority arrogated for itself the determination of whether or not a given policy directive was consistent with the provisions of the act.

It is imperative that the above ambiguity in the law is rectified without any further loss of time. India enacted a similar law in 1998 for a regulatory commission in the power sector. The union government has the authority to issue policy directives to the commission. If the commission feels that these directives are inconsistent with the act, the union government is required to hold a hearing for the commission to provide its point of view and, thereafter, the decision of the union government on whether a given directive is consistent or not would be final.

Another attempt was made to remove the anomaly by amending the rules to give the authority the desired protection to determine an average tariff. This was also a fruitless effort as the act gives overriding powers for rule-making to the authority. Section 46 of the act gives Nepra the power to make rules with the prior approval of the federal government. But if Nepra doesn’t move a proposal in this regard, the federal government is not empowered to amend the rule at its own.

Apart from perverse incentives, this intractable problem has been contributed in no small measure by the lack of interest – and, sometimes, understanding – of the policymakers. There is a grave inertia that pervades the workings of the government. Bureaucrats typically shy away from making decisions, taking refuge in the standard refrain that only those officials who do something are caught while there is hardly any retribution for those who shirk their responsibilities. In this background, if something is done it stays there even if it is harmful as undoing is yet another act that may entail risks.

While nobody ever credited any government for footing such phenomenal bills of TDS, policymakers were mortified with the thought of increasing tariffs to reduce such untargeted subsidies. The only exception to this was former prime minister Nawaz Sharif, who took the boldest and most unpalatable decision of reducing the subsidies when the fund programme was being negotiated in July 2013 and the tariff adjustment was a prior action/condition before the IMF Board’s approval.

TDS is just one of the anomalies that are afflicting the power sector. There is no roadmap operating currently that would remove these distortions. The story of CD accruing on accounts of higher system losses and the lower collection of bills relative to those allowed by the regulator will be covered in the next part of this series.

To be continued

The writer is a former finance secretary. Email: waqarmkn@gmail.com