QUALITY OF REGULATION AN ANALYTICAL CASE STUDY APPROACH

1. QUALITY OF REGULATION AN ANALYTICAL CASE STUDY APPROACH INDIAN CASE STUDY International Conference on Quality of Regulation CUTS International March 2010, New Delhi Payal Malik Ashok Desai Ramrao Mundhe

2. Introduction • New regulatory economics treats regulation of such industries as a principal agent problem • Design contracts for the firm • Contracts in regulatory practices translate into: • Tariff orders • Standards of performance contracts • Access Rules etc.

3. Indian Electricity Industry

4. Analytical Framework • Regulatory Incentives • reducing information asymmetry (through its tariff setting role) • fostering competition (through its success in implementing open access) • creating competitive electricity markets such that power trading does not lead to profiteering and anti-competitive practices but instead encourages price discovery • reducing externalities (through its promotion of environmentally benign sources of electricity) • Regulatory Governance

5. Tariff Regulation • Some attempts at Tariff rationalization but cross-subsidy element is still high • SERCs have been handing out tariff orders often (implicitly) endorsing populist initiatives • Cost-of-service regulation stifles utility innovation • Causes utility managers to be responsive to regulators than to customers or financial incentives • Present MYT framework is actually a multi-year trajectory for performance parameters, and determination of ARR and tariff is undertaken on an annual basis, which defeats the purpose

6. Competition and Open Access • Presence of network effects complicate the management of partial transition to competition in electricity • Implementation of open access at the distribution level has not been encouraging • Magnitude of wheeling charges and cross subsidy surcharges has de facto made open access unviable. • Biggest offenders are Tamil Nadu, West Bengal, Kerala, Jharkhand, Himachal Pradesh and Haryana • Lack of autonomy of SLDCs – identified as the weakest link in implementation of open access provisions • Annual volume of electricity traded through open access route is of the order of 12-13 BU constituting about two percent of the total energy availability

7. Trading of Electricity: Creation of Efficient Markets • CERC recognised trading both for meeting short term fluctuations in demand and for resource optimization • Trading at present is feebly meeting the former objective • Design of the market microstructure has paid little attention to resource optimization • Rather than procuring electricity in a competitive mode distribution utilities have been using short-term contracts whenever the power requirement goes up and have been willing to pay to Rs. 8 per kWh or even more • Met by hasty regulatory interventions such as trading margins and caps on short term price caps and banning electricity futures • Rather than tackling the disease i.e. insufficient capacity the regulatory efforts have been misplaced in their interventions that are aimed at tackling the symptoms

8. Promotion of Environmentally Benign Electricity Sector Have specified the renewable purchase obligation (RPO) for their distribution companies as required under section 86(1)(e) of the Act However, the specified RPO varies from 1% to 10% across the country Wide divergence in the tariffs of different technologies set by different Regulatory Commissions Till each State Commission specifies a minimum RPO of 5% in line with the National Action Plan for Climate Change, progress inadequate

9. Governance

10. Staff and resource • At the end of 2008, on an average 28% sanction posts were vacant across ERCs. • In some ERCs as much as 40% to 54% of the posts were vacant • 41% of the total sanctioned posts of professionals were vacant in the period.

11. Staff and resource • More than 94 % of the recruitment is done from government/utilities. • Talent from other sectors is considered only in exceptional cases.

12. Transparency and accountability • Rules & regulation in place, however progress is slow • For example: • Only 3 SERCs have up to date annual reports on their websites. • 7 SERCs have not publish any annual report on their websites yet. • Others have published with a lag of 1 to 6 years.

13. Stakeholder participation and consumer protection • Steps have been taken in different states towards institutionalising mechanism of grievance redressal: Internal Grievance Redressal Cell (IGR Cell), Consumer Grievance Redressal Forum (CGRF) and ombudsman. • Performance standards have also been specified to ensure quality of supply. • Difficult to judge these parameters as many SERCs are still at initial stage in this regard.

14. Stakeholder participation and consumer protection • Ombudsman • Needs proper monitoring mechanism to monitor performance of ombudsman by SERCs. • Independent fund could be created to meet expenses of ombudsman office. • Capacity of stakeholders • Presently inadequate representation of/contribution by consumers/consumer groups due to lack of capacity

15. Petroleum and Natural Gas

16. Stages • Three stages : • Exploration and production • Refining • Distribution

17. Government participation • The bulk of India’s exploration, production and refining industries is owned by the central government. • Hence its role as regulator is mixed up with its role as a market participant. • This is an additional reason why a regulator independent of the government is needed for the industry.

18. Rational for regulation in the sector? • Insufficiency of investment • Bulky investments are required • Access to international market necessary to raise require investments • Scarce resource • Monitoring reserves and their exploration • Insufficient competition • NELP was introduced to stimulate competition • PSUs have been dominant gainers in NELP, which did not help in creating competition.

19. Rational for regulation in the sector? Cont… • Anticompetitive practices • Lack of level playing field between pvt and govt firms • Externalities • Conform to safety standards • Licensing of pumps through distribution companies eliminates potential competition • Risk minimization • Govt is neutral between its own companies and others. • This has discourage other investors to participate in NELP (most E&P licenses went to PSUs)

20. Regulation • Currently, there are only two regulators; • The directorate for hydrocarbons oversees exploration and production activities, • The Petroleum and Natural Gas Regulatory Board whose functions remain opaque. • The ministry of petroleum and hydrocarbons supervises the producers owned by the government. • This role will continue unless and until government enterprises are privatized.

21. The Directorate General of Hydrocarbons (DGH) • DGH functions include the following: • Signing and implementation of production sharing contracts, • Geological surveys of sedimentary basins, • Monitoring of drilling by licensees, and • Reservoir monitoring.

22. The Directorate General of Hydrocarbons (DGH) cont… • Appointment of govt official to head DGH has led to conflict and inconsistency. • DGH needs a chairman who is independent of the govt. • Powers and responsibility of DGH should be defined by an act of the Parliament, which is not the case presently. • The utility of DGH depends on how expeditiously and cheaply it gives out information. • DGH has been mired in allegations of bias and corruption.

23. Petroleum and Natural Gas Regulatory Board(PNGRB) • PNGRB functions are as follows: • To register all entities involved in the production and distribution of hydrocarbon products, • To regulate access to and pricing transport of hydrocarbon products by pipelines, • To monitor pricing, distribution and availability, • To set standards, and • To adjudicate disputes.

24. Petroleum and Natural Gas Regulatory Board(PNGRB) cont… • PNGRB has been active, but has as a result run into strong resistance from a government-owned company and been rendered impotent. • Delayed notification of Sections 10 and 16 of the PNGRB Act • This delay enabled the ministry to encroach on the functions of PNGRB. • Transfer of power from the ministry to the regulator was not expeditious and cleaner. • The ministry preferred to excise the powers, which they were required to transfer.

25. Remarks • Ownership of firms • Govt is both owner and regulator of firms. • Number of regulators • Two regulators are enough but clearly defined jurisdictions required. • Policy vs regulation • Merging “policy” and “regulation” into one regulator would be efficient. • Petroleum ministry and regulators • The regulators are subordinate to the ministry and the ministry seem to be the usurper of regulators’ role.

26. Remarks cont… • Design of regulators • Usually regulators are selected from oil PSUs, which raises doubts about their neutrality. • Current structure does not attract quality persons from out side govt. • Content of regulation • Too complex and lengthy laws render regulation ineffective. • Powers of regulators • Current regulators are not backed by legislation, which compromises their effectiveness. • Judicial structure • Appellate tribunal should be more representative: industry experts, lawyers, accounts, etc. • Judicial bodies should follow development approach in dealing with sector.

27. Conclusion • Creation of institutions without credible political commitment for independent functioning • Regulation is costly • Multi-sector regulation requires serious consideration • Makes regulator less susceptible to industry and political capture • Insufficient regulatory capacity • Exploit scale and scope economies of regulatory governance and provide a consistent approach to regulation