The new electricity tariff structure leaves room for considerable improvements

By Resident Fellows of the Advocata Institute

The recent revision of electricity tariffs was a step towards reducing the tax burden caused by the supply of electricity below its cost of production. While the new tariff structure is an improvement over the previous one, anomalies remain.

When determining tariffs, three characteristics of electricity must be taken into account:

I. Electricity is an interchangeable commodity both in its production and in its use. A megawatt-hour (MWh) of electricity produced from coal or hydroelectricity contains the same amount of energy. Different categories of users consume the same product.

II. It must be produced and used simultaneously. Electricity storage is still prohibitively expensive. Supply must exactly match demand in the power grid.

III. The cost of supplying electricity fluctuates throughout the day depending on the electricity production mix, the cost of fuels used, transport costs and energy losses.

Since electricity is a commodity, there should be no difference in the prices charged to different users. The tariff should also reflect the variable cost of supply depending on the time of day and should, as far as possible, balance the production of electricity with its use. For sustainability, the tariff should be based on cost recovery.

The new tariff corrects some of the shortcomings of the existing structure, but there is still a lot to be done.

1. The proposed structure reduces discrimination between different types of wholesale supply customers.

For users under 42 kVA, the various rates charged to hotels, government and general purpose bulk supply have been merged into one general purpose rate, but a lower rate remains applicable to “industrial” customers . However, it is positive that the gap between general purpose bulk supply and customers classified as “industrial” has narrowed.

For large customers, it is welcome that the distinction between categories has been removed and that a single tariff, close to cost recovery and reflecting the time of use, has been applied.

The PUCSL consultation document states that the average cost of generation is Rs. 32.87 but the tariff applied to low-use industrial users (Rs. 20) and low-use general purpose customers (Rs. 25 for those consuming less of 180 kWh) are both below cost.

The only justification for a discriminatory tariff is a vital tariff for the poor. While domestic users below 90 kWh receive a subsidized tariff, domestic consumers who exceed this tariff pay the higher tariff (50 rupees for use between 90 and 180 kWh, 75 rupees above 180 kWh), almost double that of all heavy users. Thus, high-use domestic consumers subsidize industrial and commercial users. Also, instead of increasing the tariff for each block of usage, as soon as domestic customers exceed 60 units, the tariff increases by an average of Rs. 9 to Rs. 16. A customer who consumes 59 units will pay Rs 9 but whoever consumes 61 units will pay Rs. 16 per unit. This is unfair and can promote corruption in meter reading. In general, such cross-subsidies are undesirable as they may lead to inefficient allocation of resources or have unintended consequences.

For example, the higher domestic tariff may have a disincentive effect on remote work. Remote or flexible working arrangements can reduce transportation costs, traffic congestion, energy consumption and, for some, allow for a better work-life balance. The government should facilitate flexible working, but the higher rates for some domestic consumers may be a deterrent.

The PUCSL has an unusual definition of the industry; it includes ‘Agriculture’, ‘Forestry and fishing’, ‘Mining and quarrying’, ‘Manufacturing industry’, ‘Electricity, gas, steam and air conditioning supply’, ‘Water supply, sewerage and waste management’ . As a matter of principle, the producer should not pass judgment on the way a product is used or attempt to encourage or discourage certain activities through prices. If the government wishes to encourage particular industries, it is more effective to do so through a transparent system of subsidies rather than distorting prices.

Economic activity is increasingly complex and a value chain can involve many different sectors. For example, the tea industry includes farming, processing in factories, transportation, warehousing, blending, financing, marketing, and exports. In addition, products are now more knowledge-intensive, so more of the added value comes from the non-production-oriented components of the value chain. With differential pricing, parts of the same value chain can pay different prices for using the same product.

Religious and charitable organizations continue to receive preferential treatment in the domestic rate category, but there is a slight reduction in the discount offered to these organizations. High usage customers in this category should also be subject to a TOU-based tariff. Advocata reminds that there should be no price discrimination between users; there should be a maximum of two categories of households and enterprises.

2. It should be noted that the new tariff structure extends the time-of-use (TOU) tariff to the agriculture sub-sector, but this should be extended to small wholesale users and made mandatory for the category of high domestic use. For customers using solar power on a net metering basis, export and import tariffs shall be TOU based. A tariff based on the TOU reflects the evolution of the production cost during the day. Peak-hour production relies more on thermal energy, which is more expensive. The tariffs charged to customers should take this into account so that consumers have an incentive to shift demand to off-peak hours.

3. The new tariff maintains a lower rate for domestic customers with low consumption and it is welcome that the new structure applies marginal tariffs based on different bands of use. The previous system was inherently unfair to the consumer, the new tariff removes this anomaly.

4.The decision to charge for public lighting, which should be paid for by local authorities, is welcome. Previously, as the CEB did not charge for public lighting, local authorities who controlled when lights were switched on and off had no particular incentive to switch off public lighting during the day. A lower tariff for public lighting is justified because most of the use falls during off-peak hours.

5. It is regrettable that the PUCSL allowed the CEB to force certain customers to pay for electricity in US dollars. This is a step towards the forced dollarization of payments and is excluded under Section 4 of the Monetary Law Act No. 58 of 1949. The proposal aims to address the current shortage of USD for importing fuel for the energy sector. However, this would only divert resources from other alternative users and may not be the most efficient way to allocate the scarce foreign currencies in the country. It would be preferable to allow the dollar to enter the banking sector (removing all restrictions and requirements such as forced conversions and redemption requirements) and that these funds be allocated according to price (exchange rate).

The increase in the electricity tariff is inevitable but will impose an additional burden on consumers. It is therefore imperative that this is accompanied by increased transparency and efficiency within the public service.

Consumers can expect to pay higher world prices, but they cannot be expected to pay higher costs due to inefficiency, waste or corruption. SOEs should be open and transparent in their affairs, particularly in procurement, and, to the extent possible, should operate in competitive markets.

As a first step, the CEB should provide a detailed breakdown of the components of its tariff:

Energy costs: (costs of own production and those paid to private production companies). This must be broken down between the cost of fuel and the costs of operating the plants, such as labor and maintenance costs, as well as the capital cost of the plants.

Grid costs: This reflects the cost of transporting electricity through the electricity grid.

Overhead: Recovers the costs of central administration, billing and meter reading, data management, retail market systems and market development initiatives.

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