India's Energy dilemna

We often spend a great deal of time criticizing the policy makers and operators on their approach to the mounting problems facing the country. There are no shortage of critics but few of them have any alternatives to offer. We see this in the greatest economic crisis facing the world. We also see this in India in crucial sectors of the economy. Having spent almost a lifetime in the energy industry, and being a vehement critic of the shortsighted approaches of the policy makers, I am often asked what I would do differently.

Here is what I would do.

The energy crisis confronting the country needs a completely new integrated energy strategy. This has to be the first step. In formulating this strategy, four issues need to be understood. First, while a major focus in the present days has been on oil imports, the fact is that what India really faces is an energy crisis. Only one third of India’s energy consumption comes from oil – and the domestic Indian oil companies today only provide one third of this consumption. In short, the Indian oil companies, despite their great profits, actually provide less than 10 % of our energy needs. And it seems highly unlikely that this percentage will improve drastically in the next decade thus requiring a different approach to the crisis.

Secondly, any energy strategy needs to be resource based. India has oil reserves at present production levels only for 19 years, gas for 28 years and coal for over 230 years. This distribution of resources in the world is similar – oil reserves have a reserve to production ratio of 41 years while gas is over 67 years. And more interestingly while 78 % of oil reserves lies under OPEC control, gas and coal reserves are more widely distributed with no single country or group of countries likely to acquire OPECs monopoly power on supply and price.

Thirdly, the linkage chain between resources and consumption is poorly understood. For example, almost half of the power produced by burning fossil fuels is lost in distribution effectively negating any gains on resource exploration and exploitation. Electricity losses in India average over 40 % while in most countries electricity losses are kept well under 7-8 %.

And finally, policies of self reliance and self sufficiency are likely to be inadequate policies in today’s globalized world for ensuring the country’s energy security in the future.

So what should the country do given these resource constraints and the new geopolitics of energy that is emerging in the world? Here are five pillars for the new energy policy and strategy:

One, India should move its economy gradually from oil to gas. The resource base within the country and globally argues for this as do the global environmental constraints likely in the future. What does this imply? India should invest in three to four LNG terminals – some of which could be government financed infrastructure with soft loans to kick start the change. Coupled with this would be the development of a national gas transmission grid mirroring the national highway project. All major cities in the close proximity of the national grid should switch from oil and diesel to CNG – a model whose practicality has been demonstrated in Delhi albeit under a court order. Up scaling of gas to diesel technology should be feasible based on the pilot projects in Malaysia and New Zealand. Opening up the gas system as an open access system will stimulate public and private distribution companies to invest and utilize the gas as has been done in Gujarat.

Second, it is clearly time for a New Exploration Policy for Coal to be implemented on the lines similar to NELP for oil and gas. The success of the successive NELPs in mobilizing both technology and finance from the within the country and without should silence the critics of this approach. Coupled with mine mouth based power plants with the new electricity law which allows open access in transmission, it can contribute to a major alleviation of the power situation in the country since coal based power plants can be set up technologically within four years. Clean coal technology can blunt the criticism from the environmentalists regarding pollution.

Increase in energy efficiency has been a chimera in India although a large number of organizations and ministries have struggles valiantly over the years to have an impact. The fact is that in the absence of the right price signals, most of these efforts are more likely to fail than succeed. World experience demonstrates that the most effective means of promoting energy efficiency in production and utilization comes from the introduction of competition and through transfer of ownership of the systems or parts of the system. Thus just as cell phone competition with a strong regulator has stimulated better consumer service at lower prices, a shift of ownership of distribution of electricity and gas through either cooperatives or investor owned utilities or even private companies coupled with the development of a competitive field under a regulator could achieve the same in the power and gas sector.

Fourthly the search for increased resources both within the country and outside should not be given up – just more effectively organized. It should be recognized that stimulating domestic competition between companies both Indian and foreign has been responsible for more resource discoveries in the country – for example the Krishna Godavari gas fields-- than if the sector had been left to the monopoly public sector oil companies alone. Yet it is also clear that the search for overseas contracts is not the most effective if the size of the companies – not financially so much at technologically – does not have the necessary scale and inhouse expertise. The answer thus would be to leave the domestic resource exploration effort to a competitive structure without trying to create a fictitious synergy by merging two or more large oil companies like ONGC and IOC but there is merit in creating two or three companies for foreign ventures outside the country. Two of these could be formed by the merger of the larger oil companies in the public sector while the private sector can also be encouraged to look for economies of scale in their overseas operations.

Finally the issue of energy security needs to be faced squarely.

The first element of an energy security plan would, of course, be to create a strategic petroleum reserve as the primary line of defense against any disruption. While an effort is already underway, the country is nowhere near the IEA recommended target of 90 days of a strategic petroleum reserve. Encouraging other countries in the region –for example by creating an Asian Energy Agency --to similarly develop these strategic reserves and working out arrangements for cooperation during times of individual distress could further mitigate the short term risks of disruption. This can be bolstered by an implicit strategic reserve as well. The country already has a potential reserve in its existing production installations that it is unaware of. The fact is that most oil fields in the world are capable of producing 10-15 % above their optimum production levels for a limited period of time without either damaging the reservoir or reducing the total recovery from the field over its lifetime. What is required is the installation of the additional systems – wells, pipelines etc—which would permit this additional production in an emergency or crisis. A careful inventory of existing fields in the country and a program of additional installation could easily provide this additional strategic petroleum reserve.

A second element lies in diversification- of fuel sources and suppliers. It was Churchill, who took a major risk in converting the British Navy from Welsh coal to imported oil on the eve of the First World War, who said that “safety and certainty in oil lie in variety and variety alone”. But now that variety needs to be sought in sources of energy, rather than sources of oil alone. By shifting the dependence of the economy from oil to other energy sources, its vulnerability to price and interruption shocks can be severely limited. If oil supplies are disrupted, the vulnerable transport sector should be able to switch to compressed natural gas, if gas pipelines are blown up, import of LNG should be able to fill the gap and if there are no hydrocarbons to power the generating stations, import of coal or pumped storage hydro plants should be able to take over the extra loads. However, this requires implementation of an integrated energy development strategy. Further an increase in diversification of fuels, suppliers and sources with a larger number of competing suppliers will not only increase the measure of security but also have an economical benefit. As individual suppliers – of oil, gas, coal or LNG – find that they do not individually control the economic development of the country through control of supplies and that the country has developed a system in which each individual supplier is not a crucial or critical element requiring a payment of risk premium, their negotiating position will become less robust and more amenable to reasonable pricing solutions.

And finally the country needs to think of its energy security in terms of energy rather than only oil and gas. Well over half of oil and gas in the country is used for production of power. A major disruption in industry can be mitigated by a concurrent increase in power supplies from other than hydrocarbon sources transported through the national power grid. This would again require a concerted effort to upgrade the existing transmission systems and sourcing of additional power supplies. An effort to develop power plants in the neighboring countries of the region – Nepal, Bhutan, Myanmar - as part of a regional grid could be planned as an important part of the country’s total energy security efforts. The present efforts in sourcing pipeline gas from Iran, Myanmar, Bangladesh etc really needs to be complemented by a similar effort in the development of an Asian regional power grid. Perhaps we need the power minister to follow on the heals of the petroleum minister in visiting neighboring countries to help develop a regional power grid!

The fact is that the increasing globalization of the economy, energy security will lie in diversification of energy sources and of energy supplies. It needs to be noted that diversification of the energy economy will eliminate dependency either on oil or gas supplies, while diversifying fuel suppliers will further reduce any fear of a single supplier cutting off supplies. It is interesting to note that Japan has signed contracts for LNG supplies with 8 different suppliers at different costs as part of its energy security package. Here too diversification of suppliers and creating of supply competition both in fuel type and source will provide the country with a greater measure of energy security than any long term contracts with single suppliers will.”

This is what I would do if…..