What happened to circular debt in Pakistan since 2013?
Circular debt has grown from Rs 450 billion in FY 2013 to Rs 1.6 trillion in FY 2019. Currently it stands at Rs 2.1 trillion in FY 2020. This is an oft heard term in the print and electronic media these days. A big figure in trillions of Pakistani Rupees is quoted and the common man wonders what is it and why should it matter to him if the circular debt is big or small. This article aims to define the circular debt and tries to identify the current situation on some of the reasons behind it.
Circular debt, as the name implies has the word root “circ” in it which means “around”. Therefore as the term implies circular debt affects everyone associated with the power sector but more evidently the end consumer of electricity who suffer from load shedding and tariff hikes regularly. As such there is no formal definition of circular debt within the context of Pakistan. In some reports it does appear that it is the shortfall of cash within one particular entity i.e Central Purchasing Power authority (CPPA-G) but on its own it paints an incomplete picture unless we know the complete flow of payments and power within the sector. Simply put, we can view circular debt as being a debt which keeps revolving from one stakeholder to the other because of the complex structure of the sector itself.
In Figure 1 below the flow of electricity and flow of money in the power sector is described whereby in exchange of the commodity (in this case electricity) consumers have to pay the tariff, set by the government, to the distribution companies(DISCOs) across Pakistan. These in turn have to pay to the Central Purchasing Power Authority for the electricity bought, on DISCO’s behalf, from the producers. The CPPA-G is then liable to pay to the transmission company (NTDC) and the power producers. PHPL is a special company, under the Ministry of Water and Power and was established in 2009.¹ It can borrow from the commercial banks on government guarantees and the resultant loan is used to ease out the liquidity constraints of the CPPA-G.²
As it is there seems to be no problem in the flow of money and flow of the commodity and no one is indebted to anyone. However there is an external factor of the Government of Pakistan whereby the GOP has an objective to suppress the price of the electricity to the end consumer. Circular debt figures first started to get reported in FY 2007. This was also the time of a sharp rise in the international oil prices and devaluation of Pakistani rupee. With an oil-heavy generation mix and therefore the imported fuel to be paid in US$ just these two external factors made electricity expensive to produce but the effect was not passed onto the end consumers. The consumer tariff was subsidized, which inevitably created a liability for the government to pay to the distribution companies. It was the difference between the tariff paid by the consumers and the tariff that the regulator of the sector (NEPRA) determined for the DISCOs. This subsidy was termed as Tariff Differential Subsidy (TDS). Whether for political reasons or whether as a quick fix to brush the inefficiencies of the whole system (i.e costly generation mix as a result of past policies, inefficiencies of the distribution, or the power theft etc), this interference has been identified by experts as one of the primary causes of the circular debt in Pakistan.
Tariff determination by the regulator and notification by the government was always delayed but with a subsidy to be determined based on this tariff, the delay was costly in terms of incorrect budgeting of this subsidy and when paid, it is so delayed that the system gets clogged by then. Over the past many years the difference between the budgeted subsidy and the revised subsidy for every fiscal year has been massive. (See Table 1 below)
The USAID and Planning Commission report in 2013, identified many causes of the circular debt but unfortunately not much progress has been made on any of these causes. Clearly something has gone wrong when we see a 5-fold increase in the circular debt since 2013. Primary causes were mainly divided between non collection and tariff and subsidy issues. From the collection perspective, non-collection from the private consumers has been the main driver of the circular debt and from the tariff and subsidy head, difference between the DISCO’s claims of the subsidy and the actual disbursed as well as the delays in tariff determination and notification were the key drivers in FY 2012’s circular debt.⁴
According to the analysis of the USAID report, delays in tariff determination and notification contributed Rs72.19 billion to the circular debt for FY 2012. Tariff determination for all the DISCOs were delayed by nine months with an additional month needed for notification by the government. Recent newspaper reports suggest that NEPRA still takes many months for consumer tariff determination. The consumer tariff for Nov 2019 to June 2020 was determined in July 2020 which is going to be charged in August and September 2020. This means that the tariff that the consumer was actually charged in Nov 2019 was based on the prior year values and therefore the status quo remains whereby the actual cost can not be recovered by the DISCO at the time when it is incurred.
Poor revenue collection is another major reason.
At the time of tariff determination by NEPRA, a 100% recovery ratio is assumed whereas actual average recovery by DISCOs has been about 90%. Upon further dissecting these recovery ratios by comparing statistics from NEPRA’s state of the industry report 2019 to the USAID report, it is noted that nothing much has changed in terms of the collection rates in the past seven years. QESCO, SEPCO, HESCO and TESCO continue to be poor performers in terms of the revenue recovery ratios over a span of 7 years. There have been only marginal improvements for LESCO, MEPCO and FESCO, significant improvements in PESCO but IESCO and GEPCO have worsened in terms of their recovery ratios.
Table 2: Recovery Ratio by DISCOs
Same is true for DISCO’s transmission and distribution losses. The allowable (weighted average) transmission and distribution loss limit by NEPRA in FY 2019 was 15.72% whereas on average the transmission and distribution losses are 17.7% in 2019.⁵ The main reason is the lack of modern technology and metering as well as the inability of the DISCOs to disconnect the defaulters.⁶ Meter-readers have been a part and parcel of the monitoring process which also provides an additional opportunity of collusion. Smart metering⁷which has been suggested as an alternative has been seen as an expensive route to reach out to current 25.4 million consumers of electricity in Pakistan.⁸
A multi pronged approach and a strong commitment for implementation is required to deal with the circular debt as the underlying causes are multiple and multi-faceted and it affects everyone in the power-sector nexus. The snowballing of the circular debt numbers suggest that we as consumers should expect further tariff hikes or a worsening situation of load shedding. It seems that an understanding exists in the relevant circles as to what are the problems areas but the delay in action is still haunting the power sector of Pakistan. While the government has taken a decision to reduce the power sector subsidies⁹ but it requires legal backing. In the FY 2020 the budgeted power sector subsidies were Rs 226 billion (including KESC) which have been reduced to Rs 139.5 billion in the budget for FY 2021, a decrease of 38%.¹⁰But simply reducing the subsidy in an ad hoc manner is not an incentive enough for DISCOs to improve their performance metrics. So far no concrete step has been taken to align the incentives for the DISCOs to reduce their line losses and improve recovery. Similarly no mechanism is devised so that tariff notifications and determinations are done in a swift manner.
References:
¹Sustainable Energy Sector Reform Program- Subprogram 1 Asian Development Bank
https://www.adb.org/sites/default/files/linked-documents/47015-001-sd-04.pdf
² First Review Under The Extended Arrangement Under The Extended Fund Facility and Request For Modification Of Performance Criteria- IMF December 2019
³ ibid
⁴USAID and Planning Commission of Pakistan,2013 See pg 8
⁵State of Industry Report 2019, NEPRA
⁶USAID and Planning Commission, 2013
⁷ “Smart meters enable a utility to monitor online consumer meters, penalise defaulters, cut off connection or release it” — Redesigning the smart meter project by Syed Akhtar Ali, Tribune May 2020
⁸ “Public sector DISCOs serve more than 23 million consumers while the private sector serves around 2.4 million consumers.” State of Industry Report 2019, NEPRA
⁹ “Govt to withdraw all general power subsidies” by Shahbaz Rana, Tribune 07 July 2020
¹⁰ Chapter on Subsidies, pg 15, Budget in Brief 2020–2021,Ministry of Finance, Government of Pakistan.
