It was inevitable and it now has surfaced on the horizon. Livemint points to a PwC/CII report that the power project developers who bid aggressively to secure coal blocks in recent auctions are reluctant to mine them on the face of the government's decision to cap fixed charges based on regulatory considerations.
All the power sector coal-block auctions had gone into forward-bids, where not only would developers not pass on the cost of coal to customers, but, in some cases, even pay the government an additional premium (over and above the mandatory royalty and reserve price). It was claimed that the 66 blocks, awarded through auctions and allotments to state-owned firms, will generate revenues of Rs 3.35 trillion and electricity tariff benefits worth Rs 693 bn to consumers. Power producers, instead of bidding at a discount on the reserve price, even offered to give money to the government. Since you cannot buy something and give that free for 25-30 years, these bidders, all of whom have sunk investments in plants which are currently idle and bleeding money, were presumably betting on "smuggling" in the fuel costs elsewhere.
It was abundantly clear during the auctions that the developers had bid aggressively for fuel in the hope that they could recover the costs by transferring it into the fixed capacity charges for the untied part of the plant capacity (aside from the already existing PPA) and/or by the sale of the 15% of generation capacity as merchant power. Livemint also points to an ICRA report which estimated the under-recovery in fuel cost in the range from Rs.0.39/kwh to Rs.1.02/kwh on a levelized basis over a 25-year period and the aggregate under-recovery for the bidders at Rs.8 billion in FY2015-16 and about Rs.18 billion by FY 2017-18.
At that time, Partha Bhattacharyya, who knows a thing or two about coal mining, had this interesting observation in an oped,
However, whether it is conducive to promoting sustainable mining depends only on the premise that the bidders be fully aware of the implications of their actions. Unfortunately, self-destructive bidding is not unknown in the Indian context. Bidding for ultra mega power projects (UMPPs) has provided examples in the not too distant past, with winners throwing up their hands after finding it impossible to deliver power at the offered price. Analyses of the root cause in all of these cases indicate an inadequate core competence in coal mining or coal sourcing as the underlying reason. In the present case of bidding among end-users, the possibility of a similar inadequacy cannot be ruled out.
Now that the government has capped the fixed capacity charges and the spot markets are down on their knees, the developers have no choice but to take unsustainable losses. In fact, even if the government had not capped the fixed charges, it is unlikely that developers would have been able to realize higher charges given the perilous state of discom finances. It is undeniable that the lack of clarity in the tender documents on the calculation of capacity charges and the failure to quell the doubts in unambiguous terms before the auctions encouraged the aggressive bids.
Much the same story is repeating in telecommunications, with call drops being the commonest manifestation. Irrespective of whether the spectrum available is adequate or not, it cannot be denied that telecom operators, who bid very aggressively in the 3G auctions, have, for some time now, been skimping on capacity improvement investments. As Shyam Ponappa describes, there are other failures arising from the quest for revenues maximization, India's telecoms spectrum market,
India brought in more operators than other markets, didn't provide as much commercial spectrum, fragmented what it had, and priced it out of sight. Consequently, substantial spectrum is idle with the government, while large operators with very little spectrum and the legacy of underdeveloped fixed networks have over 100 million customers each, with high voice and growing data usage. This situation is likely to worsen as more spectrum holdings come up for renewal.
The widely acclaimed telecoms spectrum auctions realized revenues worth nearly $17 bn. Unlike with coal, spectrum already under use by incumbents was re-allocated through auctions. This left existing operators, who have massive fixed investments, with little choice but to bid aggressively to retain their spectrum. The net result is that India has become one of the costliest telecoms spectrum markets.
The exorbitant cost of spectrum adds to other headwinds that telecoms operators have to navigate. Though one of the fastest growing telecoms market in the world by customer-base, operator margins are squeezed by the lowest average revenue per user (ARPU) of about $3, less than a tenth elsewhere. This is exacerbated by cut-throat competition, with nearly ten operators in each circle. And now, the high cost of spectrum has sharply increased the debt burden of operators, leaving them with little room to raise resources to invest on network expansion, maintenance, and upgradation.
This leaves operators with no option but to raise tariffs significantly, which will certainly constrain demand, and thereby work against the government's ambitious Digital India objectives. In a highly price-sensitive market where just one in hundred have access to high-speed broadband, and where the baseline penetration of data-services is very small, affordable prices are critical to expanding both customer base and services.
The aggressive bids made both in the reverse auction (for coal blocks designated for power plants) and forward auction (for non-use specified blocks), and telecoms spectrum, and the attendant squeezing of possible margins, raises more questions about the unqualified acceptance of auctions in the allocations of natural resources.
There is a compelling argument that in the spectrum and mineral allocation auctions, government's immediate fiscal considerations have crowded-out larger sectoral objectives. In other words, the details of the auction design may have been skewed towards maximizing auction revenues than sustainable introduction of new technologies into the telecoms market or delivery of power at a reasonable price and rate of return.
Interestingly, this skew may reflect the institutional power balance within the Ministries of Government of India, in particular the balance between the Ministry of Finance (MoF) and the respective line Ministries, Power and Telecommunications in this case. The MoF has a very hands-on approach in any such contract formulation, applying due diligence that invariably revolves around the binary "public interest" touchstones of expenditure control and/or revenues maximization. The recommendations of the respective regulatory commissions tend to get sidelined in the face of "public interest". The recent history of scandals and the chaotic investigations and prosecutions that followed, may have only amplified this trend. Not only have the advocates of "public interest" become stronger, the voices of the primary stakeholders, the respective Ministries, have become more wary of being seen to be doing anything which would appear to support the private market participants.
To the extent that the operator or developer's cost is directly translated as the government's revenues, the MoF's role is clearly that of an agent of the government. Therefore, if the MoF prevails in setting the terms of contracting in such auctions and the departments abdicate their responsibilities as neutral arbiters in the auction, it necessarily becomes an one-sided contract. Winner's curse and renegotiations invariably follow.
One of the oldest axioms of life is that there is no free lunch. The examples of natural resource auctions and public private partnerships (PPPs), which governments have come to view as as a resource mobilization opportunity and the latter as a means to avoid committing large resources for infrastructure investments, and their respective failings, are forceful reiteration of this axiom.