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Energy Policy: National and regional Implications-1
-Dr. Binayak Bhadra, Nepal
Introduction
Nepal's hydro-electricity represents one of the cheapest form of peaking energy in South Asia. This cheap electrical energy is associated with irrigation, flood control and navigation benefits to down-stream areas. The later provide opportunities for fruitful co-operation within the region. The clean hydro electricity can be used in substituting thermal electricity to mitigate the greenhouse gas emissions. The mega multipurpose projects need to be looked at as a regional development issue given the externality of irrigation, flood control, navigation benefits, and benefits of reduced emission of green house gases. However, if some of the mega-storage projects are to be developed in Nepal, carbon dioxide sequestration issue needs to be examined taking into account the potential loss of biodiversity.
It may be pointed right at the outset that, the present paper does not focus on the mega projects, nor does it deal with their global, regional and national environmental implications. The focus of the present paper is rather limited to the small and medium hydropower development and its relationship with the national development processes and their impacts on urban and rural environment. The time perspective covers the next two decades, a rather short-term horizon for an energy planning exercise.
The question often asked is: Though there is a large hydro potential in Nepal what are the hurdles in harnessing it?
The diagnosis shows some serious gaps in planning and policy making; and the issue of integration looms large. The hydro electricity can be a very important basis for the development in Nepal. It could provide a great comparative advantage, in terms of cheap energy. However, the main problem is that there is a lack of integration of hydro electricity with the economy. There may have been many reasons behind this, however the most important reasons are inappropriate policies and week planning. These policies have been responsible for high electricity tariffs, reduced demand for electricity, and lower levels of investments in power sector.
Market Distortion in Electricity Price: A Hurdle in Integration of Hydro-electricity with the Economy
One of the major, but unfortunate manifestation of inappropriate policies and improper planning, has been the high electricity tariff regimes in the last decade or so. Although this has led to acceleration of private sector investments in hydropower projects, the market distortion in electricity price has serious consequence to energy-economic links in the economy. The following factors have led to the high price levels of electricity.
Firstly, there is a false perception that cost of electricity in Nepal is intrinsically high, a result of a regime of high tariff rates. If one examines the cost structures carefully, it becomes clear that, the intrinsic cost of electricity is basically low, as would be expected from perennial rivers with steep gradients. The price has been based on padded up costs with "artificial" cost elements under the cost-plus tariff regime. The later, although sound in principle, has not been implemented with accuracy. This faulty implementation has been strongly advocated by the multilateral lenders, and blindly followed by the borrower.
Secondly, the reduced load factor is a result of preoccupation to meet the evening "lighting load", without due consideration of industrial and other productive loads which occur during the day and the night. Many hydro projects are designed with "daily storage ponds", which precludes the use of the turbines and generators during nonpeak hours (in the dry period) and reduces the turbine-generator capacity utilization. Given the abundance of hydro plant locations that are yet to be developed, it is clear that, the same turbine-generators could have been located on other potential sites, with some investments on the civil works. This would have "firmed-up" the capacity of the Nepal electricity grid and produced about two times more electricity with the same installed capacity. The cost-plus price of electricity would have accordingly been nearly halved.
Thirdly, the government receives the grants for turbines-generators from the donors and re-lends it to Nepal Electricity Authority at 10.5% on the book value, mainly to account for devaluation of the currency. It is note-worthy that, given the nature of these grants as "tied aid", the book values are invariably higher than their economic values (the international bid price). However, there are no corrective factors used to bring these book values down to their economic values. This is in essence, a form of indirect production- tax applied to electricity generated by Nepal Electricity Authority (NEA). This is beneficial for the government in collecting the revenue, although it is highly detrimental to the economic development process. The financial cost of the investment to NEA is increased, with adverse effect on the cost-plus tariff.
Let us take a concrete example. Unit cost of electricity generation depends on capital investment, amortization period and system load factor. The investment cost is normally about US$ 1500 per KW and the amortization period is about 20 years. However, the system load factor, which can be made as high as 80%, is unfortunately at about 30% in Nepal. For a US$1500 per KW plant, the cost per KVh or unit, is 2.51 cents at 80% load factor. And it jumps up to 7.47cents per unit at 30% load factor, because of under utilization of turbine-generator capacity. The transmission and distribution costs, is also high as it includes about 25% loss in the system. This "loss" is largely due to the theft of electricity, and is not transmission and distribution loss. The total cost (of generation, transmission and distribution) is therefore around 3 cents at 80% load factor (and 7.9 cents at 30% load factor). So, load factor needs to be reduced to come to a low cost tariff regime, which can be done by using electricity in production processes in industry, agriculture and transport sectors.
Therefore, the present tariff of about 10-12 cents, which is nearly four times the intrinsic cost, grossly distorts the electricity market in Nepal. Electricity has been "priced out" of many viable applications, in irrigation pumping, industries and transportation. The impact of the price distortion (higher) is very significant, because it makes many industrial and other applications economically infeasible. The "comparative advantage" of abundant electricity is completely lost. Given the distorted high price, it is clear that, the uses of electricity is curtailed in industry, agriculture and transport sectors. On the other hand, if the electricity tariffs were low to start with, many electricity based enterprises would be viable, and the load factor would go up, and the cost-plus tariff will remain low. The main advantage of cost-plus tariff, which is not artificially jacked-up is that it would let loose the process of structural change within the economy. Instead of prescribing the removal of the distortions in electricity price, the multilateral lenders (and foreign investors) are advocating tariff increase and the government is under much pressure to comply! Instead, the government is quite eager to promote electricity substitutes-, especially diesel, which is actually cross-subsidized with petrol.
What is important presently is to address the gaps in these pricing policies and the planning processes. For example, there is no promotion of hydro electricity use in the transportation sector, although, it is clear that use of electricity based transportation can be beneficial, form the point view of saving the foreign exchange on imported fossil fuel. Similarly, there is a lack of promotion of energy intensive industries and use of electricity for lift irrigation in the terai and the tars. Integration of the hydro electricity with industrial sector and agriculture has been thwarted due to these policies on tariff and integration. This implies that Nepal loses the opportunity to use cheap electricity in the industrial processes, and substitute diesel for lift irrigation. This is particularly important when we consider the benefits of capturing "the value added" from use of electricity in industry and agriculture. Furthermore, it should be noted that, domestic use of electricity does provide "the multiplier effects" within Nepal. Exporting electricity will mean that Nepal loses out the multiplier effects. But perhaps most significantly, cheap electricity represents a comparative advantage, which can be a point of attraction for foreign direct investments in industry and other sectors.
Creating-An Enabling Environment
The implication is clear, economic development can be promoted through structural changes in the economy. It should be noted that, to bring about structural change, it is not sufficient to invest in the supply side of hydro electricity alone (generation, transmission and distribution). What is required is a conscious effort to "promote" use of electricity in various productive sectors of the economy, with commensurate levels of investment on the demand side also.
In generic terms, there are basically three areas (technology, institutions and funds) that need to be addressed, in integrating the demand side with the supply side of hydro-electricity.
The traditional financing, such as soft credit consortium financing, does not meet the capital requirements in the power sector anymore. The deregulation and the promotion of private capital in hydropower sector were started in 1992. The external private sector brings new technologies, in tunneling, and in generation and distribution. Acts, laws, rules and regulations and Tariff Commission, were needed to ensure private sector participation in hydropower sector. But, innovative methods of generating finances are further needed.
Electricity markets need to be fully developed, with removal of monopolistic structures. For, these separate autonomous institutions for transmission (National Grid Authorities) are needed to ensure third party access to the grid. They have to guarantee that wheeling of electricity can actually take place through a competitive market process, so that generation and use may be closely coupled even when hydro-plants are located away from the consuming units.
Therefore, the strategy for hydropower development in the medium term, is likely to be dominated by small and medium scale hydro-power development. This requires three broad thrusts towards integration, which are listed below:
• Rural Electrification Initiative
• Electric Transportation Systems
• Energy Intensive Industries
In addition, as already noted, integration of hydro energy with the development process, also requires a balance between centralized and decentralized hydroelectricity development. The grid electricity or hydro-energy can form a strong base for the national development in Nepal. Hydro-electricity may be utilized in Industry to enhance her comparative advantage in exports, and hydro-electricity can be used in transportation, to reduce the imports of fossil fuels and also to reduce environmental pollution from internal combustion engines used in vehicles. In agriculture and agro industrial activities, the integration can take the form of hydro-electricity use in lift irrigation, food processing, refrigeration, canning and a host of other manufacturing and processing activities. To be continued.
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