A Whole Lot of Gas

No one should be surprised at Arvind Kejriwal’s claims to have found dirty (and very costly) deeds in the natural gas sector in India. But while Kejriwal’s anti-corruption campaign is a necessary shakeup for a complacent elite, when it comes to economics, this self-styled socialist sounds like a cross between Mamata Banerjee and Sitaram Yechury.

There may well be some funny games going in between Reliance and the gas ministry, but Kejriwal hasn’t proven anything. He has highlighted — as did the comptroller auditor general before him — that the pricing of natural gas in India is so complicated that it is easy to claim it’s rife with corruption. And it is equally valid to claim that prices are honest and based on existing government policy, as Reliance claims. The point is, no one can tell.

Natural gas in India doesn’t have a price. It has, at last count, 27 different prices. If one were to include differences created by state or local levies, transport costs and whatnot I suppose the variations would number in the hundreds.

The method of pricing gas in India is absurd because it was put together when the market for this fuel was regional (if not local), domestic production was minimal, and importing supplies was difficult.

It also reflected a balancing act between commercial and political interests. Electoral compulsions meant gas at low prices for fertilizer and power production. Commercial compulsions required regular and rich profit margins: natural gas is extremely capital-intensive, with billions needed for infrastructure. This is why 20-year contracts are common in the gas sector. Getting back that sort of investment requires guaranteed supply.

Indian gas prices vary widely, with many different price clusters: cooking gas (which is largely imported, and for which prices are internationally fixed), fertilizer and power (both subsidized), and gas found by domestic exploration (like KG-D6).

Prices span the spectrum. India imports Russian gas at over $10 mmbtu. It is getting the first shiploads of US shale gas at $3 mmbtu. The gas used for power and fertilizer is $6 mmbtu. KG-D6 is presently $4 mmbtu. But the common thread is that the user price is set by the government, which means it is inevitably politicized. And it leads oil and gas firms to pressure the political leadership to make changes in the prices. Since politicians will try to make prices as low as possible for their voters, the end result is overly low prices and underinvestment in the Indian gas sector.

And Indian gas prices are low. Until 2009, India’s administered price mechanism price for gas was about one-seventh or one-eighth that of the European standards, UK Heren NBP and the EU cif (measured in dollar/oil tonne equivalent). Which is why I am very cautiously sympathetic to the arguments of Reliance and other private producers (though Reliance’s demand for $14 mmbtu does seem high). Indian gas is still lower than those two standards, but what has become cheaper is Henry Hub.

Henry Hub is the US natural gas benchmark price, like Brent Crude is for oil. It used to be about five or six times higher than India’s price. Then shale gas came along and Henry Hub dropped through the floor. In 2010, it fell below the Indian average price.

In theory, this should provide India with an incredible opportunity. India could import US and Canadian gas at $2 or $3 mmbtu, driving Reliance and Russia and Qatar to lower their prices. It could let gas prices in the country be market-based. Power, fertilizer, and the works could be much cheaper as a consequence.

What’s the catch? The answer goes back to what was said earlier: gas is capital intensive. India simply doesn’t have the infrastructure to import so much gas. It has only two gasification terminals and its pipeline network is primitive. This requires money, and lots of it. But that money will be hard to find if prices are low and the gas market is so politically controlled.

A real solution would exploit the present international low prices to keep domestic prices in check, yet provide domestic and international investors sufficient incentive to invest in the needed gas infrastructure. This should produce a virtuous cycle: more investment would mean cheaper gas, would produce more investment. Sadly, neither the government nor Kejriwal nor even Reliance is working to that end.

Copyright © 2012 the Hindustan Times.