The International Monetary Fund (IMF) has asked Pakistan to increase electricity and gas prices in order to align energy tariffs with cost recovery.
According to the IMF’s staff report, released after the Fund’s Executive Board approval of sixth review and $1 billion tranche under $6 billion Extended Fund Facility (EFF) for Pakistan, stressed that the regular implementation of tariff adjustments in line with established formulas was critical to lend credibility to the newly-independent energy regulator, halt the accumulation of arrears and implement the Circular Debt Management Plan (CDMP).
The IMF report says that authorities concur that a subsidy reform is needed to effectively protect the vulnerable, introduce more fairness, and reduce budget costs. Key elements are a smaller group of subsidised consumers and a more progressive tariff structure.
To this end, they completed some first reforms on September 18, which however failed to reduce total net subsidies (as previously envisaged in the end-June 2021 SB). Supported by the World Bank, the authorities seek cabinet approval by end-January 2022 (new end-January 2022 SB) for (i) removing the previous slab benefit; and (ii) increasing the effective tariff of the unprotected slabs by at least PRs0.5 per kwh. The next step would be for NEPRA to approve the new tariff structure by end-February 2022.
The Pakistani authorities noted that the delays aimed to alleviate the cost of the Covid-19 pandemic to the population, support the economic recovery, and dampen persistent inflation. As the economy has gained momentum, they have implemented all pending tariff adjustments in two steps: (i) the FY2020-Q4 quarterly tariff adjustment (QTA) on October 1 (end-September 2021 SB), along with NEPRA’s scheduled QTAs covering FY2021-Q1/2 in October and FY2021-Q3 in November; and (ii) the remaining FY2021 annual rebasing (AR) on November 5 (June 1, 2021, Structural Benchmark).
“The FY2022 Annual Rebasing is on track to be notified by February 2022 as per the updated CDMP, which will help contain monthly fuel price adjustments (FPA),” the report added. It clearly indicates that more tariff hike in the shape of FPA is on cards, which may go up by Rs1.50 to Rs 2 per unit, said the official sources.
The IMF report says that the energy sector is in a precarious situation because of long-standing deficiencies. Over the past decade, they have resulted in an unsustainable stock of arrears (circular debt, CD) that affects the entire power-gas/petroleum chain and weighs on the financial sector, budget and real economy. Sectoral viability eroded further during FY2021, despite the collection of deferrals granted in FY2020, as the authorities continued to delay regular price adjustments and grant temporary subsidies.
The Circular Debt (CD) flow in the power sector reached 0.6 percent of GDP in FY2021, growing the CD stock to 4.8 percent of GDP at end-FY2021. More generally, the CD flow has remained well above the levels expected since the start of the program, mainly because of the delay in tariff adjustments,16 high debt costs, and operational losses by distribution companies (DISCOs).
The IMF says that restructuring the energy sector requires sustaining reform efforts. This is particularly important as recovery costs are poised to increase in the near term with the coming-on-stream of new generation capacity, rise in international commodity prices and recent rupee depreciation. While some recent measures (including the enactment of the NEPRA Act amendments in late July and renegotiation of IPP contracts) will help tackle rising arrears, making a dent requires steadfast implementation of a comprehensive, socially-balanced reform strategy.
In the gas sector, the report states that a substantial CD stock of more than 1 percent of GDP has also accumulated in the gas sector, pending the finalization of the authorities’ ongoing cleanup of the underlying data. The main drivers are high unaccounted for gas losses (UFG), often delayed sales price adjustments, uncovered subsidies (especially for export and zero-rated industries), and collection shortfalls.
The authorities agreed that this objective requires action on several fronts. They are currently working on revising end-user prices, which would be the first since September 2020. Staff reiterated the importance of the parliamentary adoption of the OGRA Act by end-June 2022 (end-June 2021 SB; reset to end-June 2022) to support regular and full cost recovery going forward. Moreover, the two T&D companies have stepped up measures to bring down UFG losses (including through infrastructure improvements, network rehabilitation and theft control programs). Staff noted that the unbundling of the Transmission & Distribution (T&D) companies would further incentivize a speedy implementation of these UFG-reducing programs. While the recently introduced regular UFG monitoring reports help transparency and better planning, steadfast implementation of cost-reducing reforms is needed as well as the establishment of accountability and mitigation measures for missed UFG targets, the IMF report concluded.