A Granular Comparison of International Electricity Prices and Implications for India

Executive Summary:

This study compares electricity prices across countries in an attempt to understand whether electricity is cheap (or expensive) in India. Electricity prices vary across the globe. However, a simple comparison can be misleading, as prices include a number of components, vary across consumer types, and levels of consumption. This paper aims to draw lessons for India and its electricity pricing structure by comparing prices in a granular fashion, across a sample of both developed and developing countries.

While a range of factors—including taxation structures and the degree of market competition—explain why electricity prices vary by market, it is clear that cost-reflective pricing (on a number of quality indicators) is crucial for the proper functioning of the electricity sector. Effective pricing is key to the efficient overall functioning of the electricity sector. However, pricing must also be balanced with affordability concerns, for which options other than cross-subsidies can be considered. Effective pricing is especially urgent, given the financial state of India’s electricity distribution companies (DisComs), and the scale of transformation and investment required for India’s electricity sector to meet its climate mitigation and renewable energy targets.

While India has low electricity prices on average, the poor quality of supply adds a cost for consumers, especially for those consumers who rely on back-up power. Indian electricity is amongst the most expensive in the world, when measured on the basis of purchasing power parity (PPP). The spread in prices by consumer type—residential, commercial, industrial, and agricultural—is also amongst the highest in the world. Commercial users and industrial users pay high prices (industrial users especially so), because of social welfare redistribution norms and attendant cross-subsidies. Users in these two categories pay high prices not just in relative terms but even in absolute terms (using market exchange rate comparisons).

Electricity prices are a balance between affordability and viability of the supplier. A number of case studies point to the tools available to tackle issues such as affordability and competitiveness. These tools include tax exemptions for certain large consumers (in Germany); a subsidy regime (in Indonesia); and varying ownership structures (in the USA). There are also disparities between the ‘developing’ countries selected for the present study, and they cannot always be clubbed together. Given that Indian DisComs lose money on average, consumer prices will need to rise even after achieving maximum efficiency gains (improving losses). This analysis shows that such price rise should not be spread across consumer categories but should focus on selected consumer types.

Selected highlights from the paper:

Electricity retail (consumer) prices are meant to cover costs, but most countries have differential pricing for different types of consumers. India is relatively unique amongst larger nations where the majority of differential is based on social welfare redistribution, as opposed to supply marginal cost efficiency.

We see below the split by consumer type across major nations. While it is well known agricultural and household consumers under pay, what is important is that C&I users don’t just overpay, in other countries, their retail tariffs are also much lower than average, to the extent that India’s absolute commercial pricing is often higher than some other countries. This is before accounting for affordability (PPP methods) or quality of supply.

Figure 1: Consumption Category-wise Electricity Prices (FY19)

1. Retail Electricity Pricing

Making retail tariffs reflect costs for end-users would mean lowering of C&I tariffs in India, not merely because of the cross-subsidy, but also because the cost-to-serve such users especially bulk users is lower than average. Hence, voltage level pricing would further increase the discrepancy between India and many of its peers.

As Figure 2 shows, the actual price paid by many large industrial users is much lower than the notified or average price for that segment. Regulators or policy-makers explicitly reduce their charges through tax or surcharge waivers/reductions.

Figure 2: Reduced Effective Price for Large Industrial Consumers in Germany (2017)

Lowering bulk consumer prices is important not just for global competitiveness, but also because such users will otherwise exit the grid though RE generation or 3rd party procurement.

1.1 Heterogenity

• India shows huge heterogeneity at sub-national level. Countries like the US also have similar heterogeneity, but the US relative spread by categories is more consistent by category (see Figure 3).
• The Indian electricity pricing spread is much more distorted, which suggests that impact of political economy matters more than underlying economics when setting retail tariffs.
• In the US the average spread (category average price to total average price) ranges from 1.2 for domestic consumers, 1.0 for commercial users, and 0.66 for industrial users (Figure 3).

Figure 3: Spread of Prices by category for the US and India (FY19)

2. Cost Coverage of Electricity

• While a few countries operate under markets, many regions, including India, operate on cost-plus regulation, covering all the cost incurred. However, Indian cost recovery is less than costs, leading to a low or negative rate of return.
• While efficiency (reducing AT&C losses) can help reduce costs, adding in a proper rate of return would raise costs. Notional India Return on Equity is 14-15.5%, but these are rarely achieved.
• There are several reasons for the low RoE, including mis-valued asset bases, lack of payments received and so on. This further shifts the burden on to lending institutions and governments as DisComs attempt to make up shortfalls.
• There is no single market system or structure that inherently has lower costs – factors like fuel supply, consumer mix, legacy issues, etc. all play a strong role in setting costs, which vary within countries as well.

Figure 4: Average Cost of Supply and Average Revenue for Energy Sold (2018)

Even if Germany, UK, and US are expensive per unit electricity, they are commensurately high in quality of service and affordability. India’s T&D losses (distinct from AT&C) are 20.6 %, worse than peers like Brazil and South Africa. SAIDI and SAIFI are on the poor extremes too. In terms of affordability, India’s household expenditure on electricity is 1.53% of total income, which is low only due to low levels of consumption, but consumption is only expected to grow. If household prices continue to stay artificially low, the burden on DisComs will only continue to increase, which highlights the urgency of the issue.

In addition to pricing improvements by the regulators, increasing use of market mechanisms can also bring in wholesale (procurement) pricing efficiency.