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Rethinking coal auctions

Given how smoothly even the second round of auctions is proceeding, it is not surprising the government should be happy with the way things are turning out. Yet, it is emphasising the wrong aspect of the bidding. What has to be celebrated, and the government is doing that, is the fact that the allocation of minerals is now becoming fully transparent—for a government as committed as this one to eliminating black money, this is a very good place to start. The ‘reverse-bidding’ of coal for the power sector, which the government is celebrating—this has been touted as a way to reduce power sector tariffs—however, needs a serious rethink, at least for the mines that are yet to be bid out in the power sector.

The way the auction works, once a base coal price is fixed, bids have to be made on the basis of this. So, if a coal-based power plant is charging 65 paise per unit of electricity as the fuel cost, the winning bids have to be lower than this. So, if a firm bids 50 paise as the fuel cost based on a particular coal mine, it will win the bid. In the current bids, not only have bidders agreed not to charge anything for the coal they mine, they have also offered to pay the states—in which these mines are located—some extra money per tonne of coal. How are power plants agreeing not to charge for their coal, and even paying more money from their pockets to the states? The government believes this is proof of the padding in tariffs that was going on earlier, but that seems difficult to believe considering the biggest thermal power producer NTPC is a government-owned company. The simpler explanation is that, since several power plants are operating at very low capacity, they feel they will lose less money by absorbing the coal cost as compared to the current situation where their plants are lying idle.

The point, however, is that the bids will not lower costs, they will only change its composition. By and large, winning bids are by firms that don’t, as yet, have signed power purchase agreements—firms that do cannot afford to bid zero values for the coal in their tariff. The winning firms, however, will now bid a zero coal/energy tariff but will simply hike their capacity/capital tariff—there is talk of capping capital costs, but that may not be legally feasible. Another complication, since all costs will now be capital costs, if a buyer wants to stop purchases for whatever reason, it will have to pay all the costs—in the earlier situation, while it also paid the capital costs, these were lower. Also, given firms with lower variable costs get priority in dispatching electricity, power from the new mines—with zero fuel costs—will get priority even though they may cost more than other power which has a coal-price element to it. This changes the way the system operates and is potentially problematic.


source: http://www.financialexpress.com