A great game for India's energy

Read this article on the Wall Street Journal: Business Asia







A new version of the Great Game is afoot. Or so New Delhi believes, as it has nervously watched Beijing acquire energy assets from Africa to Central Asia over the past decade. Now India is belatedly trying to get into the same game. The latest gambit came last month when Montek Singh Ahluwalia, India's Planning Commission head, said the government was looking into forming a sovereign wealth fund (SWF).


That might make good politics at home. But is it good business sense from the perspective of how best to secure India's energy needs in the future? Almost certainly not.


To be sure, India's private-sector energy companies have enjoyed success venturing overseas. Reliance Industries has taken stakes in U.S. shale gas ventures to gain know-how about the latest revolution in global energy. Adani Power has gotten into deals with coal-miners in Indonesia to beef up its supply chain against the possibility of supply disruptions within India.


But that's very different from the Chinese model some in New Delhi now want to emulate of foreign investment driven by state-owned companies for strategic aims. India has tried this by mobilizing the state-owned Oil and Natural Gas Corp., or ONGC, with far less success than the private sector. An SWF would likely meet the same fate.


The first problem is state capacity. India lacks China's top-down culture, which can mobilize the state's diplomatic and financial wherewithal to lobby a foreign government for a big asset. Hence ONGC has lost when bidding in Kazakhstan and elsewhere.




Yet even if this weak and decentralized state could be revamped, it still wouldn't be worth it. Proponents of state-led investment argue that if international crude oil prices were to move up dramatically, so would the valuation of the oilfields in which, say, the SWF had purchased equity. India would reap a windfall that could be distributed as a subsidy.


The problem, as former IMF chief economist Raghuram Rajan pointed out in a 2006 essay, is that this means states almost always use such windfalls to bankroll preexisting inefficient uses of energy. India's subsidies cloud market signals that would encourage greater efficiency. This arguably is a step backwardfor energy security.


Instead of trying to beat China at its own game, India would be better off doing something completely different: meeting India's energy needs by allowing the market to work.


The first step would be to gut the subsidies to consumers, a lot of which is paid for by oil companies. Producers could then keep more of their profits when prices are high and have more capital to deploy for further exploration and production.


In other ways too, overreliance on the state sector has contributed to Indian energy insecurity. Consider the case of coal, which accounts for 40% of Indian energy consumption.


Despite holding the world's fifth-largest proven reserves, India is a net importer of coal. One reason is evident. In 1973, the government nationalized all coal mines and created a new firm to manage them. The resultant Coal India Ltd. today controls all the mines in the country whose coal can be sold in the open market—this accounts for 82% of the country's mines. The private sector is only allowed into captive mines, where the coal has to be used for an attached power or steel plant.


Beholden to unions, the state-owned behemoth spends nearly half its costs on a bloated labor force. Without competition, it can afford to fall behind production targets, so it does. Though coal prices were officially deregulated in 2000, Coal India doesn't change them without political approval. Domestic prices are far lower than global ones.


One bright spot came last year when New Delhi privatized 10% of the firm. The government is also contemplating legislation to scrap its monopoly. If policy makers gathered the will to push their own measures through, Coal India, already the world's largest coal producer, could become a world-class miner. With deregulation, price discovery will improve and send the right signals for new producers to make the best of this geological blessing.


The predicament of the two other fossil fuels—oil and gas—is similar, with administered prices and excessive regulation dissuading producers. No surprise that 34% of India's sedimentary oil basins lie unexplored or poorly explored, according to Gokul Chaudhri of BMR Advisors. India has 50 trillion cubic feet (tcf) of proven natural gas reserves and 300-1200 tcf of shale gas, according to exploration firm Schlumberger's initial estimates in December. Yet global majors stayed away from an exploration auction this year. Exports of oil and gas produced domestically are forbidden, so multinationals would be forced to market the product within India at uneconomical prices.


Beijing is making a costly bet that it can't trust markets to meet China's energy needs. But India doesn't have to play the same game. Rather than racing against China in a futile effort to gain access to every last oilfield abroad, India would be better off playing to its strengths as an increasingly market-driven economy. That includes encouraging the development of a true market for energy.