Reports

Pakistani Energy Sector: Electricity Policy Recommendations Report

by Ravi Magazine · Published 4th November 2016 · Updated 5th November 2016

EXECUTIVE SUMMARY
As the rate of urbanization increases major cities in Pakistan are growing at an exponential rate. Karachi, a major industrial region, has grown at an average rate of 3.52% over the last ten years. In 1981 the population of Karachi district was approximately 5.4 million, according to 1998 census it was 9.8 million and using 3.52% growth the population can be currently estimated to be 11 million.
As the city grows so does the demand for electricity. Hence if only the growth of population was used KESC would grow by 3.52% annually. Karachi attracts a large number of rural dwellers annually who come here in search of work. These people also add to the demand for electricity. Hence the growth of KESC can be said to be in direct correlation with the umber of Karachi households and to grow at a faster rate than the population growth rate.
The average cost of producing electricity through hydel plants is 13.56 Ps/kWh where as that of thermal power plants is 190.48 Ps/kWh. The thermal power plants are approximately 14 times more expensive than the hydel plants.
Considering this fact, it can be reasonably suggested that the government should emphasize setting up of hydel plants where as the thermal plants should be shut down.
The Water and Power Development Authority (Wapda) and the Karachi Electric Supply Corporation (KESC) are working on a plan to convert as many as possible of their thermal power generation units into gas-based units, in order to offset the increase in generation cost owing to off and on rise in furnace oil price.

The advent of Independent Power Projects with their exceptionally high rates of electricity, seems to have made it impossible for WAPDA to absorb the high cost of electricity purchases from IPPs and still maintain its profitability. In fact, the low cost of hydel power generation which carried a weightage of 51.8 per cent in 1992 – 93 seemingly provided a cover to WAPDA’s poor management and corruption, and the institution continued to show substantial profits. However, the gradual increases in thermal power capacity which has now substantially outstripped the hydel capacity, ultimately led to rapid increase in the generating cost while at the same time the high rates at which the WAPDA has to purchase electricity from the IPPs turned the profitability into a process of sizeable amount of losses in its operations.

Sustained devaluation of the rupee has made the fuel more costly, increased the cost of servicing and repaying their foreign loans and reduced their earnings in dollars even when their rupee profits went up. The government is hence taking up the issue with the World Bank which provided loans to some of the IPPs, which may make the bank agree to rescheduling repaying of loans in some cases and possibly reduce the interest rates as well. The issue has been taken up with the International Finance Corporation (IFC) as well as that in the investment are of the WB to help the private sector.

As privatization of the transmission and distribution network is also on the cards the selection of sites would play a crucial role in reducing T&D losses. The emphasis should be on hydel power plants of capacities appropriate for modern combined cycle technology to encourage its use as it is fuel-efficient and the cost of power generation per kWh is lower.

GROWTH OF POPULATION

As the rate of urbanization increases major cities in Pakistan are growing at an exponential rate. Karachi, a major industrial region, has grown at an average rate of 3.52% over the last ten years. In 1981 the population of Karachi district was approximately 5.4 million, according to 1998 census it was 9.8 million and using 3.52% growth the population can be currently estimated to be 11 million.
As the city grows so does the demand for electricity. Hence if only the growth of population was used KESC would grow by 3.52% annually. Karachi attracts a large number of rural dwellers annually who come here in search of work. These people also add to the demand for electricity. Hence the growth of KESC can be said to be in direct correlation with the umber of Karachi households and to grow at a faster rate than the population growth rate.
ELECTRICITY CONSUMED AND GDP GROWTH

Growing at a rate of roughly twice that of GDP, power demand has considerably slowed down during the last two years. The falling growth rate has largely been due to the economic slowdown (GDP growth rate plummeted to 4.6% in 1996 and 3.1% in 1997 versus an average of over 6% in the 1980’s), and partly due to pilferage (power theft is not recorded separately and is included in transmission and distribution losses).
From the relationship between the GDP growth rate and the electricity demand growth rate, it can be project that the demand growth rate is likely to maintain at least a ratio of 1:1.5 to that of GDP. However, one must remember that currently electricity is only available to approximately 50% of the population and this latent demand can be capitalized upon if the necessary transmission and distribution infrastructure is put into place. Following the recent drive against power theft, WAPDA’s and KESC’s billable units are expected to rise, which will provide further upside to electricity consumption estimates.

DEMAND FOR ELECTRICITY

WAPDA’s customer base has expanded from 311,596 in 1959-60 to 10.10 million in February 1997, an average annual compound growth rate of approximately 10.13 pct. KESC presently has 1.33 million customers. Electricity is still, however, available to less than half of the population. By February 28, 1998 WAPDA had electrified a total 65,473 villages under its Village Electrification Program. WAPDA’s plans for PFY-1998 included the electrification of another 4,000 villages, but by February 1998 only 905 villages had been electrified. WAPDA plans to electrify another 4,000 villages in PFY 1999.
USD MILLIONS 1995/96 1996/97 1997/98
A. Total market size 1,135.7 1,639.9 1,188.6
B. Total local production 514.5 513.4 362.5
C. Total exports 2.0 1.9 1.25
D. Total imports 823.2 1,128.4 827.35
E. Total imports from U.S. 30.4 80.0 157.16
Exchange rate (rupees/$) 33.6 39.1 42.4

COST STRUCTURE OF THE POWER PROJECTS
NAME OF THE
PROJECT PRODUCTION/
CAPACITY TOTAL COST
(MILLION $)
Hydel Power Project (Azad Kashmir) 700 MW 700.00
Gulpur hydel power project 116 MW 170.00
Matlian hydel power plant 84 MW 120.00
Coal Fired Power Project (Lakhra Sindh) 450 MW 600.00
Coal fired power plant 200 MW 170.00
Lalpeer thermal power station 720 MW 800.00
Muzaffargarh Power Plant 320 MW 320.00
Saba Power Company 125 MW 154.00
Basha dam power project 3360 MW 1635.30
Sepcol power plant 115.2 MW 119.50
Fauji kabirwala power plant 151 MW 170.00
Madar batdara power project 10.2 MW 10.00
Looking at the above tables it can be established that the cost of electricity generation by hydel power stations is far less that that of the thermal power stations.
The average cost of producing electricity through hydel plants is 13.56 Ps/kWh where as that of thermal power plants is 190.48 Ps/kWh. The thermal power plants are approximately 14 times more expensive than the hydel plants.
Considering this fact, it can be reasonably suggested that the government should emphasize setting up of hydel plants where as the thermal plants should be shut down.
The Water and Power Development Authority (Wapda) and the Karachi Electric Supply Corporation (KESC) are working on a plan to convert as many as possible of their thermal power generation units into gas-based units, in order to offset the increase in generation cost owing to off and on rise in furnace oil price.

POWER RATES
The financial crisis faced by WAPDA and KESC is ultimately reported to have driven the government to discontinue the distorted tariff structure of electricity and move with the decision to either completely do away with cross subsidies and free supply of electricity to certain sections of the economy including the underdeveloped regions of the country. The present policy on the pricing of electricity pursued over the last so many years, according to a report caused a net loss of Rs. 30 billion in WAPDA’s financial results of 1997 – 98. It is no more a secret that the agriculture sector has long been enjoying subsidized tariffs for the operation of tubewells when at the same time free supply of electricity to the consumers in the Federally Administered Tribal Areas (FATA), Azad Kashmir and parts of Balochistan has long been the distinctive feature in power sector with the result that the electricity consumers in these areas would hardly be able to reconcile with the new idea of imposing electricity charges on them.
It is indeed very surprising that despite so many unfavorable conditions like cross subsidies in electricity charges and even free supply of electricity to certain areas combined with rampant irregularities like large scale theft of electricity and high transmission losses, corruption in the rank and file of employees etc., WAPDA has been working with adequate annual profits until about three years ago and the World Bank in one of its reports had also described this institution as highly efficient and financially viable.
The advent of Independent Power Projects with their exceptionally high rates of electricity, seems to have made it impossible for WAPDA to absorb the high cost of electricity purchases from IPPs and still maintain its profitability. In fact, the low cost of hydel power generation which carried a weightage of 51.8 per cent in 1992 – 93 seemingly provided a cover to WAPDA’s poor management and corruption, and the institution continued to show substantial profits. However, the gradual increases in thermal power capacity which has now substantially outstripped the hydel capacity, ultimately led to rapid increase in the generating cost while at the same time the high rates at which the WAPDA has to purchase electricity from the IPPs turned the profitability into a process of sizeable amount of losses in its operations.
The need for rationalization of the present pattern of tariff structure for electricity, is reported to have also been emphasized in the recommendations of the fact-finding mission of the Asian Development Bank. The study conducted by this mission which covered KESC’s pricing of its electricity for different categories of consumers, has concluded that the overall tariff charged by the KESC covered only 82 per cent of the long run marginal cost of electricity produced and supplied. This clearly shows that the utility company faced a loss of about 18 per cent in financial terms on the sale of its electricity.
The ADB mission noted that after 18.3 % increase in electricity charges in March 1998, the sales revenue improved to 95 % of LRMC. It further noted that the tariff for residential consumers of KESC even after 26 % increase in March, 1998 worked out to 62 % of the marginal cost of the utility company indicating that residential consumers enjoyed the benefits of lower electricity charges and the burden fell on industrial and commercial consumers. In this context the ADB mission has strongly recommended for a drastic rationalization of tariff structure so that the utility companies could be enabled to cover their operating expenditure and earn a reasonable rate of profit.
However, the ADB mission report has maintained that lower rates to some extent would have to be allowed to the residential consumers. These recommendations are likely to be taken into account by the government in the overall scheme of power sector reforms in Pakistan. There can be no two opinions that cross subsidies should be minimized and wherever practicable totally removed. In this exercise, the industrial sector would deserve a favorable treatment with considerably lower rate of increase than a stipulated increase of electricity tariff for residential consumers.

COMPARATIVE TARIFFS
INDIA INDONESIA PHILIPPINES PAKISTAN
LEVIZED RATE
(¢/kWh)
7.50
7.63
6.77
5.57
CAPACITY CHARGE (¢/kWh)
3.30
4.48
3.93
3.30
TERM OF CONTRACT (YEARS)
20
20
20
20 – 30

The negotiation with each IPP separately is recognized as necessary by the government, given the fact that some IPPs, have shown greater willingness than others to cooperate in tariff reduction, plus the differing technologies/costs in various IPPs. In this regard, Hubco and KAPCO, between them supplying 3000 MW, are prime candidates for being dealt with separately. The government also seems inclined to offer sick industries a rate of Rs. 3.50 instead of the normal commercial rate of Rs. 6, with decreasing tariff for higher consumption in order to help their revival and improve electricity demand.

The IPPs maintained that if they worked out their profits at zero rate of return, it would make a financial impact of Rs. 6 billion only. This amount was too small to cover the Rs. 20 billion deficit of WAPDA during 1997 – 98 and Rs. 35 billion during 1998 – 99. So, the government has to resolve the problems of WAPDA and KESC which are running under high losses. The IPPs also stressed that with only 700 MW of power installed right now, which is just 5 % of the whole system, it was wrong to blame the private power producers for the present financial crisis of WAPDA.

The government decision to cut down the furnace oil price from Rs. 6296 to Rs. 5500 per ton had immediate impact on the electricity tariff charged by the IPPs. The fuel cost was accounted for 50 % of the total electricity generation cost and one of the major pass through item in the tariff. The IPPs are currently locked in bitter dispute with the government to bring down the power tariff, which government says are exorbitantly higher. The cut in furnace oil prices was the major condition by the IPPs in order to reduce the tariff rates. The international crude prices have fallen to $ 14 per barrel from $ 23 per barrel since February 1998. Given the flat final consumer prices in Pakistan, this decrease helped government to boost revenues.

THE REFERENCE TARIFF – WHAT IT WAS BASED ON AND WHY IT INCREASED OVER TIME

The reference tariff is composed of two portions, Capacity Price (CP) and Energy Price (EP).
Capacity price has three components, which are the escalable portion, the non-escalable portion, and the Foreign Exchange Risk Insurance (FERI) portion.
The escalable portion includes items that are indexed to inflation and the PKR/US$ parity. A base tariff, agreed upon in September 1994, is adjusted annually for inflation and bi-annually for changes in the exchange rate. Items included in the escalable portion include fixed operation and maintenance cost, insurance and return on equity element (ROE).
The non-escalable portion includes debt servicing such as interest, principle, and other debt related fees. The FERI portion covers the exchange risk premium, on foreign currency loans, payable to the SBP.
The capacity price is a payment for the available net capacity of the plant (not dependent on the amount of power delivered to WAPDA). It is payable in advance each month and is expected to fall over the plants 30 year life as Hubco’s debt servicing costs decline.
The energy price includes the fuel and other variable cost components. The fuel component is a “pass through” item and thus any increase in the input cost is passed on to WAPDA. The variable component includes variable operation and maintenance cost, which are adjusted to compensate for inflation and exchange rate movement.
The energy prices paid daily, 14 days in arrears, and depends on the net supply of power to WAPDA.

WHY WAPDA’S FIGURE IS WRONG?

WAPDA makes the mistake of calculating the fixed portion of the tariff on a per unit basis by using its actual off take from Hubco instead of the base case (64.6% capacity utilization) off take. This causes the per unit electricity to WAPDA to balloon above the indexed reference tariff (which is calculated at the base case capacity utilization).

Thus, if the dispatched amounts to only 32.47% (August 1997), the resulting tariff (according to WAPDA) is 15.41 cents per KWh as the fixed capacity charge is spread over lesser units. The reported tariff can also vary from month to month. For example, in the months of January and July, Hubco remits its debt servicing payments and makes it bi-annual FERI payments to the SBP.

Thus using the tariffs of these months as examples would be misleading. That is why analysts refer to the average ten year tariff (US 7.04 cents per KWh), the average lifetime tariff (US 5.64 cents per KWh) or the levelized tariff (US 6.78 cents per KWh) when estimating the tariff of any IPP.

PROFITABILITY RATIOS

The following table shows the profitability ratios of the energy sector for the years 1990 – 98:
RATIOS 1990 – 92 1993 – 95 1996 – 98
Return on Equity % 13.85 15.69 17.06
Return on Investment % 4.81 7.78 8.45
Return on Capital % 10.76 13.77 15.22
Net Profit % 12.80 17.94 19.55
Gross Profit % 30.37 33.65 33.70
Times Interest Earned 2.20 2.95 7.71
Fixed Assets/Equity & Debt 1.05 0.89 0.87
Debt Leverage 3.07 1.99 1.17

The above figures show that the profitability of the sector has been on the increase during the past 8 years.

ENERGY OPTIONS FOR 21ST CENTURY

Economic development of any society is crucially dependent on energy. The way this energy is produced, supplied and consumed strongly affects the local and global environment. It is, therefore, a key issue in sustainable development, that is development that meets the needs of the present without compromising the ability of future generations to meet their own needs.
Renewable energy sources currently supply between 15 per cent and 20 per cent of total world energy demand. Hydropower is well established in the world market and biomass, in the form of wood fuel for heating and cooking, has been used worldwide for centuries. Other renewables like solar, wind and tidal energy shares the cake in proper proportions in important energy markets in developed countries and some renewables have already become the cheapest options for stand-alone and off-grid applications, especially in developing countries. 5 per cent and 20 per cent of total world energy demand.
When we take a glance at Pakistan’s energy sector we hardly find options other than conventional fossil fuels or mega hydro projects to generate electricity. Pakistan is teeming with natural resources; we can produce energy on our own without relying on heavy imports of oil and gas. The only thing is to plan and work in accordance with our means and potentials. Almost 40 per cent of our electricity generation is from hydro resources like Mangla and Tarbela. Lot more could be done in this area by building micro hydro stations ranging from 1 to 10 mw especially in Northern Areas. Local community should be involved in every respect to build and operate those stations. Though the initial cost will be high for those stations but their running cost is almost negligible as compared to other conventional sources of the same output. The contentious issue of Kalabagh dam should be resolved as soon as possible.
If The three Gorges Dam in China and Aswan Dam in Egypt can carry through, why not Kalabagh. The government should take decisive measures to resolve the issues raised by some of the politicians.
More than 70 per cent of our population is living in rural areas and involved in agriculture business in one way or another. Promotion of bio energy in rural areas has two-fold effect: it is environment friendly (no net carbon dioxide emission to atmosphere) and the fuel is available free of cost. Energy from bio resources will be feasible especially in the areas not connected to the national grid or maintaining the national grid in those areas is expensive. Bio gas for cooking and heating purposes should be encouraged in those areas and a National Green Energy Programme (NGEP) should be launched, assisted by media to educate and provide awareness to rural inhabitants. Animal wastes, agricultural wastes and municipal solid wastes (MSW) are the three major sources to fuel the small power generating units, for example incinerators.
Several countries in Europe already recover energy from waste; for example in Belgium, MSW thermal recovery processes supply more than 5 per cent of electricity. In France, 25 per cent of the total MSW is incinerated for energy production and currently Sweden processes almost 1.5 million metric tons of MSW each year. We can be benefited from China’s experience in this massive project where almost every small town in having its own bio energy project.
On the technical level, design changes in conventional kilns and residential stoves offer avenues to new era of industrial development countrywide. Pakistan is the world’s fifth largest sugar producing country after Brazil, India, China and Mexico. Ban should be imposed on the export of molasses (residue in sugar production). This molasses is used for the production of fuel ethanol. Brazil will be the role model in this project where almost 10 per cent automobiles are based on ethanol fuel that is far more environment friendly than diesel or petrol. Several other developing countries are producing fuel ethanol from cane molasses, and in some of the countries national alcohol fuel programmes have started and have paid the dividend.
Unfortunately this area has never been treated, as it should be for very many reasons but what mentioned here are not just speculations, these alternative technologies have replaced the conventional fuels and paying-off in many developing countries.
Geographically Pakistan has also geothermal gradients in some areas. Electricity could be produced with an efficiency of 10-17 per cent and estimated cost is around 3-10 US cents/Kwh. Geophysical and geochemical surveys should be made to point out some specific areas having geothermal potential, I atleast know one i.e. Manghopir in Karachi. The US Department of Energy assesses the resource potential of around 4000 mw from geothermal resources in Pakistan.
Similarly a more serious concern should be made towards solar, wind and tidal energy. Unfortunately previous governments made contracts with IPPs to generate electricity but they never knew or they never wanted to know the consequences of these stations based on heavy fuel oil or furnace oil. On the one hand we pay a lot on the imports of these fuels but also we are deteriorating our environment. Natural gas that is a far better option than diesel or furnace oil and available domestically should be preferred when considering different options for meeting energy demands. Subsidies like tax rebates should be given to organizations using fuel available from domestic resources.
A greenhouse tax should be imposed on every unit that emits carbon dioxide, a major contributor to the greenhouse problem. It includes all big power plants, process and manufacturing industries, commercial vehicles, cars, etc. The revenue generated from this scheme should be used for research work on environmental issues related to energy and to develop new technologies to meet the energy demands of the new century.

POWER POLICY RECOMMENDATIONS
Since the country has achieved its short-term objective, there is need to re-define this power policy. The new policy should envisage expansion in hydel power generation capacity, permission for new thermal power plants only through competitive bidding, and selection of sites closer to actual use.
As privatization of the transmission and distribution network is also on the cards the selection of sites would play a crucial role in reducing T&D losses. The emphasis should be on hydel power plants of capacities appropriate for modern combined cycle technology to encourage its use as it is fuel-efficient and the cost of power generation per kWh is lower.
A debate has been ongoing in the country on the building of dams and hydel power generation projects. Many experts are pleading in favor of this because there is a need to create reservoirs for round-the-year availability of irrigation water; and hydel power is an added attraction. But others oppose it on two grounds: the successive governments have failed to develop consensus for such projects; and the output varies widely over the year.
However, learning from the Kalabagh Dam saga, it is necessary that only those projects be considered on which all the four provinces agree. The country has wasted a large amount on preparing repeated feasibility studies of this dam which, when added, comes to more than the original estimate of the cost of the project made more than 30 years ago. If the present government believes that the Kalabagh Dam is necessary, it must convene a meeting of all the four provinces. Should they fail to agree, the project should be scrapped immediately. The debate must end – the sooner the better.

OPTIONS AVAILABLE

SHUTDOWN WAPDA’S OLD THERMAL POWER PLANTS
WAPDA’s own thermal units have been shown to be inefficient as compared the comparable new projects set up in the private sector. According to Hubco, the fuel cost alone of thermal plants like Guddu, Jamshoro and Muzaffargarh averages Rsl.61 per KW as compared to Hubco’s average Energy Purchase Price (EPP) of Rsl.45 per KWh (for the twelve months from December 1997 November 1998).
Thus Hubco’s variable cost of generating electricity is more than 10% less than comparable thermal plan being operated by WAPDA (and not considering WAPDA’s variable 0&M expenses which will add on to the fuel cost stated above to arrive at WAPDA’s variable costs of generating electricity).
Hence it would make sense for WAPDA to shutdown its old thermal plants and buy power from the private producers, if it is not able to enlarge its customer base to accommodate the power it will have to purchase under the power purchase agreements. WAPDA in this way will also be able to make more money on the electricity that it does dispatch to the national grid.
INSTALL NEW TRANSMISSION AND DISTRIBUTION INFRASTRUCTURE
This option would entail a huge expenditure, a large part of which will be forex denominated. The Minister of Water and Power, Mr. Gohar Ayub, is on record stating that a huge amount of Rs. 11 billion was needed just as maintenance expenditure to replace existing transformers, grid stations and transmission lines.
He had also stated that the village electrification program required Rs2.5b per annum from the government to proceed. Given the large amounts in question and the current cash crunch at both WAPDA and the Federal level, there is no chance that a large-scale electrification program will take off within the next couple of years.
Also, with economic growth remaining sluggish, a question mark would remain on the incremental revenues that such expenditure would generate.
EXPORT POWER TO INDIA
While a politically difficult option to implement, it nevertheless presents an opportunity to WAPDA to sell the projected surplus without incurring any additional cost (the transmission network would be the responsibility of India). The developments on this front the government’s (a) seriousness to improve its weak external account profile and (b) willingness to address the impasse on the dispute with the Independent Power Producers, (IPP).
By an estimation that the sale of 500MW of electricity per annum would yield Pakistan (at US6 cents per KWh) an estimated US$263m. This alone would cover 23% of Pakistan’s forex outflow (estimated at US$1150m) on account of the IPP debt and dividend repatriation and fuel imports (assuming that, besides Hubco, all the 3000MW initially approved under the 1994 Power Policy come on-line). Sale of 2000MW is estimated to yield over US$ l billion per annum in export proceeds.
Revenues realized from exports to India will in turn help WAPDA settle a portion of its outstanding debt owed to the oil and gas distribution companies as the cumulative circular debt between the public sector utilities is threatening to cross Rs 100bn level.
EXPORT OF POWER TO INDIA WILL ENCOURAGE WAPDA TO INCREASE ITS RELIANCE UPON THE IPPS
Thus improving the latter’s capacity utilization. High capacity utilization would lead to lower per unit costs for WAPDA as the fixed cost component (capacity charge) of the IPP tariff would be spread over a larger number of units. We base this on our understanding of the IPP tariff structure whereby the incremental purchases beyond 64.6% capacity utilization (65% for the 1994 Power Policy IPPs) level are priced as a pass through item i.e. the per KWh rate does not carry a profit margin. This suggests that WAPDA can optimize the profits realizable from the export of power to India by ensuring that the 2000MW target is achieved at the earliest. (It would be cheaper to procure 2000MW on a per KWh basis than 500MW).
Demand-supply gap projections show that the government will probably not want to lock out more than 300MW from the domestic grid for the tenure under discussion with India. Nevertheless, there is a clear recourse available to WAPDA, which can allow it to meet IPP payments in the event of the availability of surplus electricity.

CONCLUSION
The study of the power generation scenario in Pakistan revealed the fact the for the past few years, after the commissioning of the Independent Power Projects, the production of electricity in the country has exceeded demand. But much of the electricity is wasted in transmission and distribution because of which the demand is not being fully met.
The high tariff rates have tempted people to use illegal connections. The power theft rate is reported to be as high as 44 per cent. The loss of revenue to the KESC is reported to be Rs. 400 million for each percentage point. To make matters worse, the government also signed expensive power purchase agreements with the IPPs.
WAPDA also has the large problem of surplus power as thousands of industrial units in Pakistan are sick and are consuming less power and the better industrial units are producing their own power to escape the bane of frequent power break down and reduce the power cost.
The study of the cost structure of the IPPs and other hydel and thermal power plants reveals the fact that the cost of producing electricity through thermal plants is far greater than that of the hydel plants because of the high fuel consumption of the thermal power plants.
Therefore, we suggest that the thermal power plants either be closed down or converted to gas based units, as the cost of using gas is less than that of using oil as fuel for the plants.