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Corporate Aug 28, 2012

Why Coal Minister Jaiswal’s heart isn’t in auctions

By R Jagannathan

If politics is the last refuge of the scoundrel, consumer interest is the last justification for flawed policies.

Thus, when A Raja distributed spectrum at rockbottom prices to cronies, it was said to be in the interest of increasing tele-density. If oil companies are being reduced to basket cases through unremunerative pricing, it can be justified as an effort to keep inflation down.

And so with the coal blocks scam. Coal Minister Sriprakash Jaiswal has offered the standard public interest justification for not auctioning coal blocks - even while his ministry is preparing for one.

Jaiswal told The Indian Express: "Today everyone is demanding that auctioning of coal blocks should have taken place. But once they are auctioned, the end-produce generated through the auctioned coal, be it power or steel, is bound to be high (priced). I am not very hopeful about auctioning, but there is no second way. The impact of coal offered through bidding will be visible within five years."

Jaiswal seems to be saying his heart is not in coal auctions because it could mean higher prices for power or steel. AFP

So, there it is. Jaiswal seems to be saying his heart is not in coal auctions because it could mean higher prices for power or steel.

But is this really the whole story?

A lot would depend on when an auction is held: if it is held close to a boom period (say, in 2008), bids would be higher than at other times. At other times, auctions could fetch lower prices (as now).

As Firstpost recently argued, global coal prices have been remarkably stable for 20 years from 1982-2002, and it was only after the world entered the phase of bubble growth - when Chinese demand and George Bush's liquidity binge sent commodity prices soaring - that global prices really took off and auctions looked like a good way to offload coal blocks back home (See the chart with this story here).

If auction is adopted as the norm rather than the exception, all bidders would adopt more long-term views on the rates they should bid since they would have to factor in long-term trends in coal prices.

However, let us assume what Jaiswal is saying is true - and that auction prices do end up taking coal prices higher. What happens then?

There could be short-term concerns and a growth slowdown as power tariffs rise steeply due to higher coal prices. But coal is not the only way to make power. There's gas. There's nuclear energy. There's solar power. There's hydel.

As coal-fired power plants get costlier, power companies will shift to alternative fuels over a five to 10-year period.

Higher coal prices will encourage more coal mines to be opened, and more imports from cheaper sources. If demand for coal falls, companies will invest in more in mechanisation and improve coal production efficiencies to retain their margins on lower production.

At the consumer end, higher prices of power will force consumers to install fuel-saving gadgets, and reduce power consumption. This will generate a whole new range of investment and growth. Manufacturing companies will shift production to off-peak hours, or days when power costs are lower.

The poor, and low power users, can always be protected to some extent by keeping the cost of the first 300-500 units cheap.

In short, what higher coal costs will spur is a great efficiency drive in Indian industry even while forcing consumers to reduce wastage.

From every point of view - from better mining practices, to conservation of fossil fuels, to efficiencies in production and consumption - higher coal prices will lead to better long-term results.

The only losers will really be politicians - who may not be able to fool around with coal prices to feather their nests and woo vote-banks with cheap, subsidised power.

In any event, power plants will not buy coal on a day-to-day basis, but will enter into long-term arrangements which will keep prices stable.

The best argument for coal auctions and free pricing in coal comes from the mess we have created in oil - where diesel, cooking gas and kerosene are heavily subsidised. Not only does this lead to higher subsidies and take resources away from more important uses, but this also shifts consumption towards wasteful areas like diesel SUVs.

Now, consider what is really happening with the coal blocks that were allotted between 2004 and now.

*There is almost no appreciable increase in coal output.

*Power plants are often starved of coal, thus reducing their output and earnings.

*Owners of coal blocks may be sitting on the coal in the hope of selling a stake when prices are higher.

*There may also be a tendency to mine coal illegally and siphon profits out.

If, on the other hand, they had bid high for the blocks, they would be doing the following:

*Ensuring the quickest and fastest production of coal to start paying for their bids.

*Reducing the tendency to illegally sell coal, since promoters would have to bring the earnings to the balance-sheet to repay loans.

*Investing in the best conservation and production technologies since it is now in your interest to follow best practices.

As this writer noted earlier, this is what needs to be done in terms of policy.

First, the government must commit itself to competition as a means to improving coal production efficiencies and keeping costs in check. This means Coal India's monopoly must be formally ended by either amending the Coal Mines Nationalisation Act of 1973, or by offering its mines for private co-ownership. (Each mine could be spun off into a company and 49 percent stakes given to private operators for captive use).

Second, coal pricing has to be freed - subject only to a review by a neutral coal regulator.

Third, bidding for coal mines should be delinked from power tariffs. Currently, companies bid for supplying power on the basis of tariffs, and the coal block itself comes for free. Given that coal can be used for power and many other things, the economic value of coal should be delinked from power policy imperatives. If power tariffs have to be kept low for any reason, they should be kept down through direct state subsidies. Not by gifting away coal blocks - with possibilities of pilferage and misuse.

Fourth, since coal projects are always going to be vulnerable to ecological issues (many coal reserves are in forest areas), clear laws must be formulated on absolutely no-go areas, and places where forests can be partially cut and then reforested after the mining is done.

Fifth, imports and exports must be freed - so that global prices exercise a moderating effect on domestic coal pricing and demand and vice-versa.

by R Jagannathan

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