India's Energy Situation: Crisis in the Making

-Shebonti Ray Dadwal, Research Officer, IDSA

 

Introduction

After World War II, the discovery of more sources of oil as well as its low price created the necessary stability for the industrialised countries to strengthen their economies but it also made world economy deepen its dependence on oil. In fact, oil has been the primary source of energy almost all over the world for the last several decades now, so much so that it represents 39 per cent of the total energy consumption worldwide with experts predicting only a slight decline to 37 per cent by 2010.1

Now, over the last decade, it is the Asian economies like China, India, South Korea, Indonesia and Thailand which are consuming more energy than ever before. According to a World Bank estimate, the increase in energy demand in these countries will account for more than 40 per cent of the increase in global energy demands between 1990-2005, which, in turn, will place great pressure on energy prices. To meet this increasing demand for energy, these newly emerging economies will have to increase as well as diversify their domestic supplies and sources of energy--both conventional as well as non-conventional--build new power plants, expand their electricity distribution systems and port facilities and strengthen the transport infrastructure.

To meet their growing energy as well as environmental needs, more and more countries these days are also turning to natural gas as an alternative source of energy. For a long time, natural gas was considered an inferior second source of energy to oil. But a generation after the first liquified natural gas (LNG) bound for Japan left Brunei, its significance has changed, so much so that today it is no longer considered an auxiliary to the oil industry but an intrinsic part of the energy industry, both in the developed and the developing countries. As gas reserves continue to rise sharply while discoveries of new petroleum fields lag, most Asian countries realise that their future economic growth lies in the development of gas. For those countries which are heavily dependent on oil imports, natural gas not only signifies a diversification of energy sources but a more secure supply. And for developing countries like India, Pakistan and Thailand, which have limited liquid reserves, it is a necessary supplement to oil. Even net oil exporters like Indonesia, Brunei and Malaysia, view natural gas as a replacement of oil for domestic use, thereby freeing oil for export; abundant reserves of gas also create more opportunities for LNG exports and ultimately pipeline exports.2

Since the mid-1960s, the demand for natural gas has steadily outstripped that for oil. Between 1965-92, while oil consumption doubled, during the same period, gas consumption rose by 170 per cent. In the 1980s, while oil consumption stagnated, gas demand continued to rise steadily at a rate of 3 per cent per annum.3

The reasons for this are: gas is cheaper, cleaner and plentiful, and in an increasingly environmentally conscious world, developed countries see this as an attractive alternative to oil and mineral fuels. Hence, oil-producing states in the Persian Gulf, like Qatar, Oman and Abu Dhabi, and even Iran, which has the second largest reserves of natural gas at 24,000 billion cubic metres or 19 per cent of world conventional reserves, are striving to develop their gas reserves to supplement their dwindling oil reserves.4

The India Scenario: A Dismal Picture

Where India is concerned, the growth rate of total energy demand is expected to increase from 5.3 per cent per annum during the 1980s to 5.8 per cent per annum from the period 1991-2005, and by 2005, the energy demand is expected to be two-and-a-half to three times higher than in 1990.5 Earlier, the rise in demand for petroleum products was mainly due to the growth of the transport sector, but now it is because of the increased use of high speed diesel (HSD) and gasoline for transport purposes, naphtha and natural gas for manufacturing fertilisers and HSD and furnace oil for power generation.6

With domestic crude production also dropping by about 2 million tonnes (m.t.) in 1996-97, the United Front government, in an effort to reduce the deficit in the oil pool account, increased the prices of all petroleum products in July 1996, except kerosene for domestic consumption, LPG for domestic consumers, and HSD, albeit reluctantly. As a result, the amount realised, thanks to the increase, was Rs 8,200 crore and it was hoped that the deficit in the oil pool account would be reduced to Rs. 2,000 crore by March 1997 from Rs. 5,500 crore in the same month the previous year. But the government's calculations were upset by the subsequent rise in world oil prices after the US missile attack on Iraq, while a severe winter in Europe, the US and Canada also increased the demand for petroleum products for heating and other purposes. Therefore, while the price adjustments in India were undertaken on the basis of world crude prices being $18 per barrel at the rate of Rs. 34.87 per dollar, the price for crude rose to around $24 a barrel, while the rupee weakened to Rs. 35.98--a drop of 2.3 per cent in July 1996. In fact, in four years alone, the rupee has dropped by 15 per cent and by 40 per cent in six years.7

The Ministries of Oil and Finance made ominous predictions that the oil pool account deficit would go up to anything between Rs. 15,500 crore to Rs. 20,000 crore by March 1998, assuming that world oil prices would not go up and the rupee would not be depreciated any further. The Finance Ministry further warned that the import bill would be over Rs. 33,500 crore, thanks to larger imports of refined petroleum products as well as the net depreciation in rupee value by over 10 per cent as compared to 1995-96, and announced that it could be even higher at $11 billion in 1997-98, unless vigorous steps were taken to raise domestic crude output to 35 m.t. or more as well as avoid a further slide in the rupee value. Therefore, it was imperative that a further weakening of the rupee was prevented as well as keeping the import of petroleum products down to 22.5 m.t., while increasing domestic output to about 35-36 m.t. by the next financial year and further to 38-40 m.t. by 1998-99.8

In the case of natural gas, after the discovery of large scale gas reserves in the north-east and an increase in output from offshore areas in Bombay High (BH), the government was euphoric and a number of fertiliser plants came up in Maharashtra, Gujarat, Madhya Pradesh, Rajasthan and Uttar Pradesh. Natural gas was also used for power generation by the National Thermal Power Corporation (NTPC). But expectations that output of oil and natural gas would continue to rise were dashed as not long after, the uptrend in crude and natural gas production until 1989-90, became more irregular. In fact, there was a net decline in the output of crude to 27 m.t. in 1992-93. Though with energetic measures to revive sick oil wells in the Bombay High region, crude output in 1995-96 rose to 35.55 m.t.--which was only slightly higher than the peak production of 34.1 m.t. in 1989-90.

As there were no significant breakthroughs in exploration and exploitation in the onshore areas either, production from indigenous sources was reduced overall. At the same time, production of natural gas too suffered concurrently as associated gas constituted a large proportion of total output. Free gas supplies were not available in the required volume and they were not also effectively exploited in areas like Tripura, where there were problems in establishing projects which would ensure regular offtake of natural gas.9

But though this emergency situation is being given a lot of media coverage of late, this crisis situation began to take root more than six to seven years earlier when the first Das Gupta Report on the Bombay High reservoir was submitted on the damage caused by over-production of the field. Though the Oil and Natural Gas Commission (ONGC) began to carry out damage control exercises by closing down several wells for repairs, and production did begin to rise over the next four to five years with the development of the Neelam and Mukta offshore fields, which were expected to yield 4.5 and 2 m.t. of crude annually, officials say that no monitoring of operations took place after an initial period. Not long after, output from both wells dropped while the condition of all the offshore fields worsened. The decline in production from the Western offshore areas has been estimated at over 5 m.t., with serious reservoir problems emerging at Bombay High and Neelam fields. A year ago, ONGC had predicted that over 23 m.t. of oil would be produced from the Western offshore areas. This was gradually whittled down to 22 m.t., and then to 19 m.t. by end-1995. Now the final output looks set to be about 18 m.t.--down by 5 m.t. from the original estimates, which means an extra outgo of Rs. 2,300 crore at the then international price of $22 a barrel.10

In the case of the Neelam field, ONGC says that the geological model turned out to be different from the original projections. Water output from the field rose over 20 per cent from October 1995 to March 1996, while oil production fell by 22 per cent. To deal with the situation international experts have been called in to study the Neelam reservoir.11

At present, while India's petroleum products consumption is 78 m.t. per annum, and is expected to grow at an annual rate of 10 per cent, it is unlikely that oil and natural gas production will be able to keep pace with the demand. While domestic oil production stands at about 31 m.t. in 1996-97, demand is expected to be around 66 m.t. with an anticipated jump to about 212 m.t. by 2001-02.12 Therefore, if domestic production does not rise substantially (and given the present circumstances, it is not likely to) and we have to resort to substantial imports, we have to devise our oil policy keeping in mind the international and national scenarios, like reserves, supply security, pricing mechanisms, new and steady sources of supply, political relations with suppliers, etc. According to estimates, by the first half of the next country, India will be one of the top five consumers of petroleum products, even ahead of industrialised countries like France, the UK and just behind Russia and China.

The obvious way to enhance production is to accelerate the exploration programme, both within and outside the country. The number of wells drilled per 10,000 sq km in India is only 20 compared to the world average which exceeds 100. In India, there are a total of 26 basins out of which six basins and a number of other areas remain totally unexplored. Even in offshore, deeper waters have yet to be explored.13 However, major policy changes will have to be made in the exploration programme before it can be made effective, like involving the private sector--both Indian and foreign.

Need for Supply Security

It is a fact that for some time at least, India will have to continue to remain dependent on foreign suppliers for almost 40 per cent of its requirements. The implications of this dependence on foreign sources can be seen from the major oil shocks which have taken place so far. During the 1973-74 crisis, for example, India's import bill rose by over 50 per cent in the first year, while the direct overall adverse impact of the 1990-91 Gulf war on India's balance of payments for the fiscal year 1990-91 was estimated at Rs. 5,180 crore, and for the first time in decades, inflation went into double digits and remained around 13 per cent for the next two years. India's economic growth also slowed down considerably.

From December 6-9, 1996, the government hosted an international energy conference in Goa, where Prime Minister Deve Gowda emphasised that the consumption of petroleum products would be doubled to 150 m.t. by 2010 from the present level of 75 m.t. Even now, for meeting current requirements, large volumes of crude had to be imported and output was not expected to exceed 33.22 m.t. in 1996-97 with a corresponding reduction in natural gas supplies. On the other hand, the consumption of naphtha, natural gas and HSD particularly was expected to increase, thanks to the growth of the transport sector and increased utilisation of natural gas, naphtha and furnace oil for power generation. Also, because of the delays in executing hydel and coal-based thermal projects and severe shortage of power in several states, it has become necessary to implement medium sized power projects based on naphtha or furnace oil, while major industrial enterprises were increasing their captive generating capacity in order to minimise dependence on supplies from the state grids.14

According to the Foreign Minister, I.K. Gujral, the security of energy supplies for consuming nations as well as security of demand for producing countries was of paramount importance and he emphasised on the need for greater degree of predictability which would benefit national policy making, as volatility in energy prices had a destabilising impact for both producers and consumers.

On the future role of natural gas in the energy scenario as an environmentally friendly fuel, it was felt that its full potential could not be realised unless large investments were mobilised to create an economically viable infrastructure to transport natural gas from regions which were known to have large reserves. Further, long-term arrangements would have to be made between producers and importers of natural gas to make investment viable.

At the conference, India held discussions with several countries including Indonesia, Brazil and Myanmar on cooperation in the oil and gas sectors. The Minister of State for Petroleum, Baalu, said there was a positive response to India's interest in importing LNG from Indonesia and to associate in the LNG project with it. In view of expertise in Brazil in exploration and development of deep water fields, India and Brazil had agreed to facilitate interaction between ONGC and Petrobras. Also the feasibility of forming a joint venture company would be examined.

Regarding talks with Myanmar, Baalu said that the two countries had agreed to exchange geo-technology data of basins lying across the India-Myanmar border so that both sides could optimise their exploration programmes in these basins, while ONGC would also study exploration opportunities in Myanmar.

However, most of India's energy needs are still met by imports from the Persian Gulf states. While oil is transported in tankers across the Arabian Sea, in the case of natural gas, where increased offshore production has not been able to meet the growing demands of the country, the government is now negotiating with a number of countries for supply of natural gas, including building of pipelines to transport gas, mainly to reduce the cost of transport.

For instance, to meet the growing demand of petroleum products in the country, the Ministry of Petroleum and Natural Gas is contemplating the import of oil and natural gas through LNG tankers from Central Asian countries like Turkmenistan and Kazakhstan, as part of a short-term plan. The Ministry is also in an advanced stage of negotiations in exploring the possibilities of importing oil and natural gas through a pipeline from these two countries. Both have enormous reserves of oil and natural gas and are desperately looking for buyers and the Ministry feels that it would be easier to import LNG from these countries through traders than from West Asian countries.

Also pipeline projects with these two countries are economically viable as they could be laid directly from the source of gas supply. However, the pipeline would have to pass through either Afghanistan or Tibet, and the political situation in both countries is far from stable.15

In fact, Unocal Corporation of the US has proposed setting up a 2,000-km Turkmen-Afghan-Pakistan-India onland natural gas pipeline. Making a presentation at Petrotech 1997 on January 9, John Vandermeer, President of Unocal Asia Pacific Ventures, proposed to transport 55 million cubic metres of natural gas per day through a 48-inch pipeline. He said the proposed pipeline would be 1,400 km long till Multan in Pakistan and a further 600 km to New Delhi.

Pakistan's Petroleum Secretary, Gulfaraz Ahmed, said that in the Unocal presentation, "We have a proposal which aims at regionally and optimally bringing gas from a nearby source to both India and Pakistan, by exploring the economies of scale and multiple markets and thereby cutting costs. The proposal is a win-win situation for both countries." He said that only the political situation in Afghanistan could hold up the proposal from being realised.

India is also in an advanced stage of negotiations with Iran for the import of natural gas via offshore or onshore pipelines. However, once again the pipelines will have to either pass through Pakistani territorial waters or through Pakistani territory. In fact, for a while it seemed that the deal would fall through given the state of political relations between India and Pakistan. But during the energy conference, Pakistan assured India that it would not disrupt supplies in case the Iran-India pipeline is laid on a land route through its territory. According to Gulfaraz Ahmed, the economic cost of such a disruption would be too heavy. He also said that an agreement would be worked out between producers, financiers and consumers to ensure that it would be difficult to stop the gas supplies and assured India that any stoppage would be at the Iranian end. He, however, emphasised that Pakistan would consider the Iran-India project as only one of several options and said that Pakistan already had several competitive offers for supply of gas from Qatar and Turkmenistan and said that his country would accept the most economically favourable proposal.16

Recently, with the setting up of the newly elected government of Nawaz Sharif in Pakistan, prospects for the project have brightened with Pakistan showing its willingness to allow the pipeline to pass over its territory. On February 12, officials said that the Governments of India, Iran and Pakistan had agreed in principle to officially pursue the matter with urgency.17

However, Vandermeer said that as the issues affecting energy supply in India included unclear energy supply strategies, both in the middle and long term, as well as foreign exchange constraints and lack of large investments in the energy sector, the government would have to take some hard decisions to bridge the widening demand-supply gap.18

Conclusion

India's economic problems are complex in nature and can be solved only if a multi-pronged and integrated approach is taken to deal with outstanding issues. To reduce the country's dependence on hydrocarbons, to start with, power generation through hydel and coal-based projects as well as use of other non-conventional sources of energy, should be encouraged, as the use of petroleum products by transport operators and by manufacturers of fertilisers and petrochemicals cannot be avoided. Similarly, greater emphasis should be laid on railway electrification and replacement of the use of petroleum products wherever feasible would go a long way in slowing down growth in consumption.

At the present rate of consumption, the demand for petroleum products is expected to grow to over 100 m.t. by the beginning of the next century and it will be difficult to meet the demand unless several steps are taken simultaneously. While arrangements with neighbouring countries for promoting joint ventures and getting oil and gas supplies on a reasonable basis are necessary, implementation of projects for utilising surplus natural gas from West and Central Asian regions with the establishment of fertiliser and petrochemical projects and the construction of sub-sea pipelines will also be helpful in reducing costs of imports and minimising outgo in foreign exchange.19

However, what is absolutely imperative is an intensification of exploration of indigenous oil reserves. Many analysts feel that at least 50-60 per cent of the rising consumption can be met from indigenous sources, if only exploration in areas where large reserves are believed to exist can be expedited along with more efficient exploration of proved reserves. It has been emphasised that the method adopted for recovering these reserves in an optimum manner have not been effective and unscientific methods of exploitation have led to sickness in oil wells as happened in Bombay High.20

That the government is aware of the grave energy situation in the country is apparent from the steps that are being formulated to tide over the crisis. Prime Minister Deve Gowda announced recently that there will be gradual deregulation of prices as well as the distribution process of petroleum products. Policies will also be recast to allow entry of entrepreneurs in the private sector and foreign companies in the field of exploration so that output of crude and natural gas can be raised at a faster rate than has been achieved so far. Schemes have also been launched for increasing refining capacity, but without a corresponding increase in indigenous crude output, larger volumes of imports will have to be resorted to, at least for some time, thereby causing a drain on foreign exchange which has been exacerbated by variations in world prices and sharp depreciation in the rupee value.

As a result, though the prices of petroleum products were not increased as was expected in the budget, it is only a matter of time before prices are hiked, and according to officials, only the modalities have to be worked out before an announcement is made, for, as the Minister of State for Petroleum said, not raising energy prices was a promise that could not be kept "till eternity." One of the options is to decontrol prices of petroleum products in a phased manner instead of resorting to a direct hike in administered prices, so that the subsidy on diesel will be removed while those on kerosene and cooking gas will be reduced substantially. Also, a cut in crude and petroleum product import duties as well as restoration of the excise duties on these items to the July 1996 levels is being considered.21

In September 1996, a Cabinet note based on the recommendations of the R-Group (a group of experts on restructuring of oil industries headed by Petroleum Secretary, Vijay Kelkar) called for a phased dismantling of the administered price mechanism over a period of six years by which time it was envisaged that the petroleum sector would be totally deregulated and prices would be market-oriented. The first phase recommended the removal of subsidies on diesel and reduction of subsidies on kerosene, cooking gas and input for fertilisers, as well as rationalisation of the tariff structure, withdrawal of the concept of retention margin for refineries, decanalisation of furnace oil and bitumen and partial deregulation of the marketing sector, including granting freedom to companies in appointing dealers and distributors.22

However, it was decided at a recent meeting of the Steering Committee that a price hike should be deferred till the exaggeration in world prices during the winter months settled down as there was usually a seasonal decline in demand for oil in summer. Also limited sales of crude by Iraq were expected to have a sobering effect on prices, so that eventually it would be necessary to raise prices by only around 10 per cent, provided of course, the rupee did not depreciate further.23

Experts feel that as the impact of the depreciation of the rupee after September 1995 will be felt fully only in 1996-97, it is estimated that the import bill in terms of the Indian currency will be over Rs. 33,500 crore or a rise of 39 per cent, while the import bill for 1997-98 may be even higher at $11 billion unless vigorous efforts are made to raise significantly crude output to 35 m.t. or more as well as avoid a further slide in rupee value. In fact, according to experts, more serious problems would have been encountered in 1995-96 if there had not been an increase in crude output to 34.50 m.t. from 32.23 m.t. in 1994-95 and 27.02 m.t. in 1993-94. As a result, crude imports were marginally lower at 27.342 m.t. in 1995-96 against 27.349 m.t. in 1994-95, though imports of refined products were higher at 20.33 m.t. against 13.95 m.t. for meeting rising internal consumption. The oil import bill rose abruptly to Rs. 24,094 crore from Rs. 17,837 crore, or by 35.07 per cent against an increase in the quantum by 15.42 per cent.24

It is obvious that India's energy situation is in dire straits, especially when one sees the disastrous performance of our indigenous production sector. This in turn means more imports to meet the rising demand, which means inflated import bills and, therefore, outflow of valuable foreign exchange. While it is certain that a price hike will have to be resorted to, it is equally necessary to implement the recommendations of the R-Group to stem the rot before the situation becomes irredeemable.

 

NOTES

1. Johar Hasan and Bahgat Gawdat, "The American Dilemma in the Gulf Region," Journal of South Asian and Middle East Studies, vol. xix, no. 1, Fall 1995.

2. Petroleum Economist, September 1995.

3. Petroleum Economist, December 1995.

4. Ibid.

Also see Narsi Ghornam, "The Evaluation of Recent Gas Export Pipeline Proposals in the Middle East," The Iranian Journal of International Affairs, vol. VII, no. 2, Summer 1995.

5. Economic Times, December 5, 1996.

6. Hindu, December 9, 1996.

7. Hindu, January 21, 1997.

8. Hindu, February 17, 1997.

9. Hindu, December 1, 1996.

10. Hindu, December 16, 1996.

11. Ibid.

12. Times of India, March 14, 1997.

13. Vijay Kelkar at the third Lovraj Kumar Memorial Lecture, August 1996.

14. Hindu, February 1, 1997.

15. Observer of Business and Politics, January 9, 1997.

16. Hindu, December 9, 1996.

17. Observer of Business and Politics, February 13, 1997.

18. Business Standard, January 10, 1997.

19. Hindu, February 1, 1997.

20. Ibid.

21. Times of India, March 8, 1997.

22. Ibid.

23. Hindu, January 21, 1997.

24. Ibid.