The rising cost of natural gas has become a new challenge for key sectors such as fertiliser and power

Faced with steep rise in the international prices of natural gas or NG triggered by Ukraine war and disruption in global supplies, and its attendant impact on cost of energy to industries across several sectors especially most sensitive ones such as fertilizers, power, etc., the Ministry of Petroleum and Natural Gas (MPNG) has set up a committee under Dr Kirit Parikh to review the current pricing formula for domestically-produced NG. Out of 54.6 billion cubic meter or bcm consumed in the country, nearly 50 per cent is met from imports such as liquefied natural gas or LNG.

Mandated to restructure the formula in a manner as to ensure “a fair price to the end consumer”, the committee has been asked to submit its report by the end of this month. Under the pricing guidelines effective since November 2014, for all domestic supplies from fields given under the New Exploration and Licensing Policy (NELP), as also blocks given on nomination to State-owned ONGC and Oil India Limited (OIL) before the NELP, the price, call it normal price, is a weighted average of prices at four international locations -- Henry Hub (the USA), Alberta gas (Canada), NBP (National Balancing Point) (the UK) and Russian gas. It is revised every six months in a financial year.

Also, under a special package for deep/ultra-deep (D/UD), high-pressure/high-temperature (HP/HT) fields announced in March 2016, the supplies are allowed a “premium” price, arrived at based on a process of competitive bidding in which earlier, affiliates of gas producers were not allowed to participate. The price thus determined is subject to a ceiling which is linked to the prices of alternate fuels, including fuel oil, naphtha and LNG. If the bid based price exceeds the ceiling, then the buyer pays only the ceiling price.

From October 2020, the bar on participation of affiliates of the gas producing firm in the bidding process was removed. This meant that the producer can buy its own gas (albeit through its affiliate or subsidiary) and sell it to third parties at a higher rate, thereby circumventing the ceiling price.

For instance, Reliance Industries Limited (RIL), which produces gas from the KG-D6 field in the Krishna Godavari basin off the Andhra Pradesh (AP) coast, did precisely this. In an auction on February 5, 2021, offering 7.5 mmscmd (million standard cubic meter per day) of new gas from this field, its subsidiary Reliance O2C Limited bought 4.8 mmscmd at a price of $4.06 per million Btu (British thermal unit) – then prevailing ceiling price - and sold it for $6-7 per million Btu to GAIL India Limited (Ltd), Shell and others.

Apart from the above two major sources, which account for bulk of the domestically-produced NG, the supplies from fields given under the Open Acreage Licensing Policy (OALP) (introduced in July 2017) are eligible for market-based pricing.

Against this backdrop, the NG pricing scenario facing Indian consumers looks something like this: the average international price in the spot market is $ 50 per mBtu; effective from April 1, 2022, normal price from old and regulated fields is $ 6.1 per mBtu; premium ‘ceiling’ price from D/UD/HP/HT fields is $ 9.92 per mBtu even as bid based price is normally above $ 15 per mBtu.

Fertiliser sector is the largest consumer of NG, accounting for 33 per cent of the consumption, followed by city gas distribution or CGD at 23 per cent and power at 13 per cent. These sectors receive priority in allocation of regulated low-price gas. In fertilisers, bulk of the gas is used for producing urea, whose maximum retail price (MRP) is controlled at a low level to make it affordable to farmers. The excess cost of supply over MRP is reimbursed as a subsidy to manufacturers.

Of the NG requirement for fertilizers, nearly 67 per cent is met from domestic sources and 33 per cent from imported LNG. Within domestic sources, the industry draws around 50 per cent each from ‘regulated’ and ‘premium’ gas. The effective price of this gas comes to $ 8 per mBtu (6.1x0.5+9.92x0.5) resulting in its contribution to overall gas cost to be $ 5.5 per mBtu (8x0.67).

As for the imported gas, India sources 80 per cent under long-term contract, average price $12 per mBtu, while 20 per cent is from the spot market current price being $50 per mBtu. The effective price is $19.6 per mBtu (12x0.8+50x0.2). Its contribution to overall gas cost comes to $ 6.5 per mBtu (19.6x0.33).

Put together, the cost of NG to a urea producer comes to $ 12 per mBtu (5.5+6.5). This excludes add-ons such as handling charges, cost of re-gasifying LNG, transportation tariff, marketing margin, taxes and duties, etc. Including them will boost it to $ 15 per mBtu. Taking 24 mBtu for a ton of urea, gas cost alone comes to $ 360 per ton or Rs 28,800 per ton - 5.5 times urea MRP at Rs 5360 per ton.

The high cost of NG is a major reason behind galloping fertilizer subsidy which for 2022-23 is expected to be Rs 250,000 crore. In the power sector, high NG cost is threatening the viability of gas-based generation plants as buyers can’t pay for the resultant high cost of electricity. The CGD sector too is facing the heat due to the hike in price.

The price of NG in the international spot market is beyond control. In fact, it is expected to move up at a fast pace as EU countries proceed with their plan to replace 2/3rd of the gas coming from Russia by supplies from other sources viz. the Middle East, the USA, etc. This can also disrupt Indian purchase under long-term contract, which will result in a steep increase in cost (as its substitution by spot gas will happen at price $ 50 per mBtu which is over fourtimes).

Therefore, the focus has to be on reducing the price of domestic gas. What is the way forward? There is no valid justification for granting a higher price from D/UD/HP/HT fields. If producing from difficult fields involves more investment, these also deliver more gas. Even with normal prices, the producer can generate more revenue. With this logic in mind, initially, the Modi government had no intent to allow higher prices from these fields.

But, in March 2016, it buckled under pressure. Today, other than old/regulated fields, supplies from all others get market determined prices. The demand being far in excess of supply, this price is bound to be exploitative. The principle should be shunned; instead all domestic supplies should be eligible for formula-based price as per 2014 guidelines.

The current ‘normal’ price at $6.1 per mBtu effective from April 1, 2022 is 100 per cent more than it was during October 1, 2021 to March 31, 2022. Given the trend in NG price at four global locations, this will increase further (next revision is due on October 1, 2022). The government should freeze the price at the existing level and the freeze should continue till the global situation normalizes.

(The author is a policy analyst)