Needs a Stable Policy for Oil & Gas Sector

by August 27, 2019 0 comments


The big bang reforms proposed by the Government for the oil and gas sector are laudable but without a stable and predictable policy environment in place, they can’t make much headway

The Union Government is considering far-reaching reforms in the gas sector. These include the setting up of a local gas trading platform to facilitate price discovery, stripping the power sector off its priority status by withdrawing priority allocation of natural gas and hiving off the transportation unit of the Gas Authority of India Limited (GAIL), a public sector undertaking (PSU) which currently holds an overwhelming 75 per cent share of the gas transmission network.

The stated objective of these reforms is to enable energy firms to invest in exploration and develop gas fields so as to encourage indigenous production and ensure that the country attains self-sufficiency in this major source of clean energy (currently 50 per cent of our domestic gas is imported). While the Government’s move is laudable, the moot question is whether the proposed measures will help it come anywhere closer to the goal. The answer will be a categorical “no”. The biggest stumbling block towards this is the lack of a “stable” and “predictable” policy environment.

As per the guidelines effective since November 1, 2014, for all domestic supplies covered under the New Exploration and Licensing Policy (NELP) as also the blocks given on “nomination” basis to Oil Natural Gas Corporation (ONGC) and Oil India Limited (OIL) under pre-NELP, the price (call it normal price) is a weighted average of the costs at four international locations in the US, the UK, Canada and Russia. As per this formula, from April 1, 2019, the price is $3.72 per million British thermal unit (Btu).

Under a special package for deep/ultra-deep and high-pressure/high-temperature (HP/HT) fields announced in March 2016, the supplies therefrom are allowed a “premium” price and are linked to the prices of alternate fuels, including fuel oil, naphtha and imported Liquefied Natural Gas (LNG). The current rate determined on this basis is almost double than the normal price.

Then there’s a third pricing mechanism that exists for fields given under the Open Acreage Licensing Policy (OALP), which was introduced in July 2017. Supplies from these fields — conventional gas as well as unconventional hydrocarbons viz, shale gas, Coal Bed Methane (CBM) — are eligible for market-based price. The same also applies to unconventional hydrocarbons from the fields that come under NELP.

ONGC and OIL have 149 small and marginal oil and gas fields that account for a mere five per cent of their total output (courtesy the little attention they receive from PSUs). The Government intends to auction them to private entities. After the transfer, new owners will get complete marketing and pricing freedom of supplies from these fields. In short, the pricing structure is highly differential and has varying prices, depending on the source of supply and hydrocarbon type. Strangely, it also depends on the operator in question.

In 2014, when the process of formulating the new pricing policy was under way, energy companies — both private and public sector — lobbied hard to adopt market-based price for all supplies. But the Modi Government opted for a formula-based price applicable to all. The Government’s stated logic behind rejecting a market-led price was that since the gas market in our country is at a very nascent stage and supply falls short of demand, this mechanism may lead to a sharp increase in price, which user industries, particularly fertilisers and power (together they consume nearly 3/4th of the available gas), may not be able to afford.

There was merit in the argument and the Government ought to have continued with a “uniform” policy for all supplies. Even then, seeking a higher price for a deepwater high pressure, high temperature field is untenable as it is expected to contain much larger reserves than a shallow or on-shore field, thereby generating extra revenue with the same price. Likewise, giving higher market-based price for shale gas or CBM from an existing field under NELP, where all costs have already been fully recuperated under the subsisting “profit sharing” contract, makes no sense. But it buckled under continuing pressure from lobbyists, thus giving birth to the present chaos.

Firms may have managed higher price (via “premium” or market-based price) but there is no guarantee that this alone can yield higher production as other factors, such as their ability to stick to output projections among other things, also come into play. In fact, these factors may work negatively. Take the example of the Krishna Godavari Dhirubhai 6 (KG-D6), operated by Reliance Industries (RIL). Against an initial estimate of over 10 trillion cubic ft (tcf), the actual reserves turned out to be a mere about 2 tcf. As a result, production from this high-profile field plummeted to less than 10 million standard cubic metres per day (mmscmd) against the promised 80 mmscmd. 

No wonder, gas production has declined from a high of about 52 billion cubic metres during 2010-11 to around 33 billion cubic metres during 2018-19. This prompted the Government to come up with new ideas like a local gas trading platform and stripping power plants of their priority status. Both these ideas are bizarre.

The distribution of domestic gas is totally under Government control. It is decided by an inter-ministerial committee under the chairmanship of Secretary, Ministry of Petroleum and Natural Gas (MPNG). Of the total supply, a maximum quantity, 31 per cent, is given to the power sector, 24 per cent to fertilisers while 22 per cent is allotted for city gas. There is no gas left for trading. In this backdrop, what will a trading platform do? What will be the relevance of the price discovered on such a platform? To which supplies will this price apply when almost all of it is regulated and applicable prices pre-determined?

As regards power, the Government gives a boost to gas-based power plants (at 25,000 MW, these plants account for about 10 per cent of the total generation capacity) by assuring supply of domestic gas on top priority and charging low price. Then suddenly, it seeks to withdraw the priority status. This will result in steep increase in gas prices and exterminate them as well.

Today, there is an unholy mix of controls and market-based principles. This is more dangerous than total control on all aspects, which anyway is not desirable. Doing things in fits and starts (as may be seen from a flurry of policy changes during the last three years) will not take us anywhere. There is an urgent need for holistic reforms in the hydrocarbon sector. 

The Government must dismantle the existing regime of gas allocation and highly differentiated pricing for a variety of supply streams. Concurrently, it should deregulate import of LNG (currently all gas imports are canalised through PSUs such as GAIL). Together with hiving off port handling, gasification (of imported LNG) and transportation infrastructure from GAIL, this will create an ecosystem that will ensure adequate availability (domestic plus import) of gas to meet the demand.  This is the way forward for the development of competitive markets. 

This may as well result in a slight increase in price over the current formula-based level yet, it will remain well below the exorbitant level currently promised to specified supply sources. This will also offer a “stable” policy environment for energy companies to invest in exploration and development of oil and gas fields. The larger question, however, is will the Modi Government crack the whip on these reforms?

(The writer is a New Delhi-based policy analyst)

Writer:  Uttam Gupta

Courtesy: The Pioneer

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