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The coming gas conundrum

Updated September 21, 2017

GIVEN all the noise in the system these days, a few crucial developments that will have far-reaching implications for the economy are passing by unnoticed. One of these is the growing role of imported gas in Pakistan’s economy.

This is a necessity, and was required over a decade ago. But the original deal for importing LNG was scuttled due to noise in the system, and we floundered with the consequences, suffering years of gas load-shedding that saw industry shut during the winters and street protests in key industrial cities like Faisalabad. A new deal was arranged by the present government, which began in earnest last year, and now some of those years of shortages are receding from memory.

But a new conundrum is opening up before us. In the years to come, imported LNG will play a rapidly growing role in our gas sector as at least six more terminals are under negotiation. According to some estimates, LNG imports could rise fast enough to become as large as the total stock of domestic gas in the system in less than a decade, if things go forward smoothly. This will be a positive development undoubtedly, but it presents the economy with a steep challenge.

Imported LNG is far more expensive than the domestic gas we have grown used to. The two are identical, except for technical differences such as differential heat rates. For the layperson, it is enough to understand that both can be mixed and carried in the same pipeline to the same consumer. Except one is cheap, because its price is set by the government of Pakistan, and the other is not cheap, because its price is set either by the market or the terms of a long-term supply contract.

Our stocks of domestic gas are dwindling and we are relying more and more on imported gas to fire our furnaces and boilers.

Now as we are mixing expensive and cheap gas in the system, and the proportion of the expensive gas is expected to grow rapidly in the years to come, it follows that something will have to change in the pricing regime for the mixture to be feasible. And that is where the run comes in.

Simply put, the conundrum is this: our stocks of domestic gas are dwindling and we are relying more and more on imported gas to fire our furnaces and boilers and keep our economy going. With this growing reliance comes a price shock, and sooner or later the price of natural gas is going to have to move upwards sharply if the enterprise is to continue smoothly.

At the moment, our pricing regime is built on the fact that all the gas in the system was domestically produced, largely from fields owned and operated by the government. So the government extracted the gas, transmitted it to the load centres, and distributed it onwards to final consumers. Along the way, the government set the price as well. The price varied depending on the category of consumer. So household consumers receive a steep subsidy, as do fertiliser producers. Power plants are less lucky, and the textile industry was less luck still.

So now a choice will have to be made, and very soon, over who is going to bear the brunt of the price increases as LNG replaces more and more domestic gas in the system. And this will entail the most brutal wrangling amongst all the various categories of consumer.

There are five main categories of consumer in the gas sector. Households account for the largest share, and they are likely to be the last to feel the price impact of LNG because politically this is a very sensitive issue. In industry, the main stakeholders are fertiliser, power generation, textiles and vehicular. The last one has shrunk significantly in the past three or so years though.

A few years ago, when the wrangling over dwindling stocks was at its peak, and LNG imports were on the cusp of getting going, the four main industry stakeholders fought a battle amongst themselves over who would be forced to switch to LNG as their source, and effectively be evicted from the regime of subsidised pricing that dominates the gas sector.

The vehicular sector lost that fight, and CNG stations were told to import their gas supply themselves, after the government agreed to reduce its role in determining the end consumer price of CNG. As a result, the CNG sector has been devastated, shrinking to a fraction of what it used to be even three to four years ago.

Now that choice will have to be made once again. As LNG imports grow, once more a choice will have to be made as to who will be the next to be evicted from the regime of subsidised natural gas pricing and told to arrange their own supplies from global LNG markets. If the example of the vehicular sector is anything to go by, the consequences can be potentially devastating for whoever loses the next round.

Fertiliser cannot survive if its feedstock gas, with which the sector makes the fertiliser, is not heavily subsidised. Textiles is already screaming about the ‘high cost of doing business’ in Pakistan, that it claims is eroding its competitiveness and pushing it out of key export markets. Both are highly organised sectors, with a large voice in policymaking.

That leaves the power sector. The key thing here is that the price of fuel is what they call a ‘pass-through’ item, which means the power producers can simply bill their buyer for the cost of fuel separately from the power tariff. This makes the sector the next suitable candidate for eviction from the regime of subsidised domestic gas, something that is already afoot with the introduction of LNG-fired power plants.

But it will not stop there. Eventually, all industry will have to adapt to the shock of shifting to LNG pricing, and if they are not prepared for the eventuality, which is approaching faster than they may realise, they could share the fate of the CNG stations.

The writer is a member of staff.

khurram.husain@gmail.com

Twitter: @khurramhusain

Published in Dawn, September 21st, 2017