India’s electricity sector needs structural reform. Increase price for domestic sector first

The more domestic consumption gets subsidised, the larger the burden on C&I. This power is also inconsistent. This has set the stage for C&I consumers to exit the system.

25 September 2024
The Print

A recent story highlighted the woes of the electricity sector in Pakistan. Large-scale exit of the high-paying customers—typically businesses—from the grid has made it unviable. While we often think that we are different, the reality is that the likelihood of such a scenario in India is not zero. We need to urgently engage in structural reform of our electricity sector to be able to power our growth aspirations.

Electricity for C&I consumers

That electricity is highly subsidised is well-known. What is, perhaps, less understood is the extent of cross-subsidy between commercial and industrial (C&I) and domestic users. For example, domestic (or residential) users now pay between Rs 4.8 and Rs 6.45 per kWh of electricity consumed in Tamil Nadu. The C&I consumers pay around Rs 8 per kWh plus fixed charges.

In Maharashtra (outside of Mumbai), residential users pay between Rs 8.9 and Rs 9.5 per kWh, while C&I users pay approximately Rs 9 to Rs 15 per kWh. It is safe to assume that the difference between domestic and C&I consumers is between Rs 1 and Rs 7 per kWh across different states. The more domestic consumption is subsidised, the greater the burden on C&I consumers. Furthermore, power procured from distribution companies can be inconsistent—many regions still suffer from power cuts and voltage fluctuations. These are much more damaging and costly for C&I consumers. Given the high prices and relatively poor quality, C&I consumers choose to exit the system.

Once they do, they set up their own captive plants (thermal and renewable) to provide the required power. When they are able to source storage technology for renewable-based captive plants, their exit from the electricity utilities is complete. They also have the option to buy power from third-party producers. This requires using transmission networks and interfacing with distribution companies, so it is not a complete exit.

As of 2023, the installed captive capacity is approximately 79,000 MW. This is about 19 per cent of the total installed capacity in India.

This number has grown rapidly since 2018, when the captive capacity was around 55,000 MW. While a large percentage of this capacity is thermal, there is growing interest in setting up hybrid renewable captive power plants.

What happens when C&I exit

The impact of C&I exit is felt in three ways.

First, C&I consumers are high-paying customers. When they exit and build their own captive plants or buy power from independent producers, distribution companies lose a major source of revenue. Most distribution companies in India are already in financial difficulties and have accumulated large debts due to their inability to raise revenue or reduce costs. The loss of C&I consumers will make the financial problems of the distribution companies worse. If distribution companies continue to make losses and accumulate debt, the remaining consumers—especially residential customers—will see more electricity shortages or poor quality of electricity supply. This will subsequently incentivise more C&I consumers to leave.

Second, C&I consumers have predictable demand. This, in turn, brings predictability to the grid. If they were to exit en-masse, this predictability would be lost, increasing the “load volatility” leading to downstream issues like voltage fluctuations for residential consumers.

Third, with C&I consumers’ exit, there remain fewer people utilising the grid. As a result, the cost of maintaining the grid falls on a smaller base of remaining low-paying consumers. Investments into the grid fall further, causing the downward spiral of the infrastructure. One way distribution companies have retaliated is by making it more expensive to use the grid infrastructure in case of third-party purchases of power. This works by making the distribution companies’ tariffs competitive with open-access sources. However, it is ineffective in keeping the largest C&I customers with the system, as they can just set up their own captive plants. And often, even if tariffs are competitive, the problems with quality and certainty of power may still cause C&I consumers to purchase from third parties.

Electricity reforms

Will India face the same situation as Pakistan? We don’t know for sure, and the answer is likely to vary from state to state. But the condition there paints a picture of what can happen if Indian distribution companies do not get their act together.

Can the threat of further exit of C&I finally provide the impetus for reforming the electricity sector? If the electricity provided by distribution companies has to be competitive, then both the price and the quality have to be attractive. Scaling back cross-subsidies and increasing the pricing for the domestic sector and agriculture will be a start.

The financial sustainability of distribution companies is the first step toward improvements and investments in infrastructure. There is a lot of knowledge in the Indian ecosystem on how to bring about structural reform of the electricity sector—we should harness it.

India’s insolvency law needs a middle ground. Both creditors & debtors need protection

A large portion of household loans are unsecured. It raises concerns about how banks will be able to collect repayments.

The Print
11 September 2024

Bank lending to households has been at an all-time high for a while. This has predictably led to questions of what will happen if we see significant loan defaults? Will banks be forced to write off these loans, and how will that impact their balance sheets? Since a large proportion of these loans are unsecured, how will banks actually collect repayments? Could this lead to more harassment of borrowers? These concerns are probably on the top of the minds of the Reserve Bank of India, banks and non-bank financial institutions, and their investors. Dealing with personal insolvency is different from corporate insolvency. It will require standardised plans that banks and other lenders can use if we hope to recover some amounts from the loans that are going to go bad in the coming months and years.

Debtors vs creditors in insolvency law

When a limited liability firm is not able to pay creditors, the assumption is that there is something problematic about the firm, and an insolvency law should find ways to facilitate repayment. Our collective experience has been that firms are misbehaving, and it is banks (and other creditors) who end up with the short end of the stick. Therefore, India’s insolvency law is relatively creditor-friendly, as we don’t have a formal debtor-in-possession model. If a firm defaults and a creditor files an insolvency petition, a “committee of creditors” takes over, effectively stripping the debtor of control over the firm. The firm may end up with a different set of people, or liquidated to repay creditors. While there are concerns about cutting the debtor off completely, India’s Insolvency and Bankruptcy Code 2016 (IBC) has not faced criticism on this count.

However, this equation changes when one considers retail borrowers—people like you and me. When an individual borrows and is unable to repay, it becomes difficult to argue that the creditor must be repaid at any cost. Individuals cannot be entirely stripped of their assets—they need enough money to live a reasonable life. They need a roof over their head, their children must be fed, they must have the means to earn a living, and healthcare expenditures must be met. In fact, the pressure actually shifts to the creditors to engage in humane ways of debt recovery, while ensuring the individual’s life and dignity. The ability to recover money, even when cost-effective, is limited.

This is the crux of the issue of a debt collection mechanism, and a personal insolvency law for individuals. On the one hand, there are concerns about the well-being and dignity of debtors and their families. On the other hand, there are creditors’ balance sheets. Going toward either extreme is counter-productive. If the law is very debtor-friendly, then individuals can do foul play, and creditors may stop giving credit. If the law is very creditor-friendly, then it makes debtors risk-averse and imposes difficulties when faced with distress.

Personal insolvency in the IBC

The IBC has some mechanisms that may help us arrive at some balance. The “Fresh Start (FS)” process of the IBC allows poor debtors to ask for a fresh start—that is a waiver of their debts so that they get a second chance at life. Their credit records will reflect this, and for some time, credit may be a little scarce. But this allows debtors to resolve credit distress. If a large number of debtors choose this option, then this might have an impact on the creditors’ balance sheets. The Insolvency Resolution Process (IRP) allows for the renegotiation between debtors and creditors to find some resolution to the problem. If there is no resolution, the law allows certain assets of the debtor to be sold into “bankruptcy”, and the proceeds go to repay the creditor.

While this sounds simple in theory, it is anything but. It is perhaps one reason why the law has still not been notified. There are concerns about who qualifies for a fresh start, how to measure the assets of the debtor, and how to determine if the debtor is actually capable of making the repayment or needs help. If the qualification threshold is too high then too many qualify; if too low, too few will.

Additionally, how are we going to ensure a negotiation process between the debtor and creditors so that we can account for the power asymmetry? Sometimes, the process itself could be so expensive that it may not be worth it. In such cases, do creditors have no option but to write off the loan? Having to make a repayment plan in each case may become expensive, and complicated. Moreover, if there is shame involved in the negotiation process, individuals may be reluctant to engage at all.

Specify the repayment plan ex-ante

One process reform that the government or the regulator could consider is adopting a “model baseline plan” that solves some of this discretion. In a paper written in 2020, Designing a Personal Insolvency Regime: A Baseline Framework for India’s Insolvency and Bankruptcy Code, Prof. Adam Feibelman and I had proposed repayment plans and other aspects of the insolvency process should be standardised—enough to ensure a baseline treatment of both debtors and creditors, subject to some flexibility for unique or exceptional circumstances.

The five aspects that could be standardised include the amount of income that debtors are expected to repay during the plan period; the amount and types of assets that debtors are expected to relinquish; the duration of repayment plans; the treatment of secured claims under plans; and the amount of debt that is to be discharged under plans. Such an approach may help us navigate the period of high credit stress on household balance sheets, which is very likely lurking around the corner.