Guideline on forex variation risk cover will probably be finalised in 28 to 35 working days


    Sanjay SharmaNepal boasts of having the potential to generate over 50,000 megawatts of electricity through hydro resources. However, as of last fiscal, the country’s installed capacity of hydroelectricity stood at 782.45 MW, whereas peak demand in that year stood at 1,291.10 MW. There is big gap in demand and supply of electricity as Nepal has not been able to build relatively bigger hydropower plants since 70MW Middle Marsyangdi Hydroelectric Project came into operation in 2008. The fuel crisis currently being faced by the country has highlighted need to invest more in electricity generation by tapping the hydro potential. But funds available in the country are not adequate to build huge hydro plants. This means Nepal will have to encourage foreign investors to pour money into the sector. But foreign investors are wary of making investment in the hydro sector because of lack of mechanism to cover foreign exchange variation risk. Rupak D Sharma of The Himalayan Times talked to Sanjay Sharma, head of the Policy and Foreign Coordination Division at the Ministry of Energy, about steps being taken to attract foreign investment in the hydro sector.

    The fuel crisis being faced by the country has suddenly brought the issue of energy security to the limelight. What is the government doing on this front?

    Energy security is vital for any country. In Nepal, we have to relate this issue with water resources because a huge portion of electricity is generated through hydro plants. But this is also a problem because we have failed to diversify the means of generating electricity. This means we have to look for alternative sources to generate electricity, such as coal or thermal plants. But whenever we float these options, we face accusations of trying to serve some party’s interest. These people need to understand that diversification in power generation sources is essential to ensure stability in power distribution mechanism. A master plan prepared by Nepal Electricity Authority (NEA) in 1995 had laid various options for electricity generation. But those recommendations were not heeded. That’s why we are now in a vulnerable position. Having said this, I’m not trying to propose that we shouldn’t focus on development of hydro sector. In fact, we have to reap maximum benefit from water resources that we have. So, generation of electricity through hydro resources should be the country’s top agenda. At the same time, Nepal should also push for regional integration in energy sector to ensure energy security. This, however, should not mean Nepal should rely on other countries in South Asia to fulfil its energy needs. Nepal has to build its capacity and eventually try to become self-reliant in the energy sector.

    How can financial resources be mobilised to build adequate hydro plants to fulfil the country’s energy needs?

    Nepal has prepared dozens of policies, plans and strategies to attract investment in the hydro sector. These documents have laid a range of options, such as tapping the country’s capital market, to mobilise adequate funds required to develop hydro projects. But these recommendations have not been heeded. As of now, we have only achieved success in establishment of Hydroelectricity Investment and Development Company, but this state-owned company has not been able to mobilise adequate funds to finance big projects. Also, we have not conducted a proper study on funds that could be raised from domestic sources. Yet, we believe we can mobilise resources to build 80 to 100 MW of hydro plants per year. But addition of 80 to 100 MW of electricity per year to the national grid will not fulfil the country’s energy needs. So, foreign investment in the hydro sector is a must. And we have to frame policies, Acts, regulations and strategies accordingly so that we do not lag behind in attracting investment in the energy sector.

    A recent study conducted by Deloitte showed that investment in Nepal’s hydro sector without foreign exchange risk protection could generate losses to the tune of 26 per cent of the capital cost. This means foreign investment will not flow into the hydro sector unless there is guarantee that dollars that investors bring in are fully protected against currency variation risk, isn’t it?

    The figure presented in Deloitte’s report is a bit inflated. This is because estimates on operation and maintenance cost used by the consulting firm are not accurate. Once the adjustments are made, a completely different picture will emerge. But this should not mean concerns raised by foreign investors on forex valuation risk are exaggerated. This means forex variation risk is there because value of Nepali currency has been depreciating against the US dollar every passing year. So, we will have to give some assurance to cover that risk by purchasing electricity from foreign-funded hydro projects in a mix of rupee and dollar or by making adjustments to price of electricity that NEA purchases from these developers. In this regard, the Ministry of Finance (MoF) has recently extended approval to sign dollar-denominated power purchase pact for a period of 10 years so that the investors can repay the dollar-denominated loans acquired from foreign institutions. We will now have to frame a guideline based on the MoF’s decision.

    However, what needs to be taken into consideration is that MoF has paved the way for signing of power purchase deal for a period of only 10 years. This means foreign investors will have to acquire dollar-denominated loans of short term in nature. Interest on short-term loans is generally higher, so this will increase project cost and eventually electricity cost. In fact, another report prepared by NOVI Energy on the same topic has mentioned that the government cannot provide cover for forex variation risk for a very long term, and such benefits should be given for certain years.

    So, we have to do a trade-off here and a proper balance needs to be created to ensure foreign investors are able to repay dollar-denominated loan without too much of exposure to forex variation risk. And once the dollar-denominated loan has been paid back, NEA can start paying the hydro developers in local currency and raise electricity tariff by certain per cent every year. This means we will have to allow NEA to purchase electricity from hydro project developers in a mix of US dollars and Nepali rupee. This, however, may not solve all the problems because we cannot predict how exchange rate of Nepali rupee vis-à-vis US dollar will fluctuate. In other words, we have to take into account the possibility of rupee depreciating sharply. To address this issue, we must create a stabilisation fund. This fund should be tapped whenever there is huge depreciation in the value of Nepali rupee.

    As you said, this is a complex issue. But the latest fuel crisis has shown that the country needs to do something to gradually reduce its reliance on fossil fuel, isn’t it? However, the government has not given any indication of gradually replacing petroleum products with clean energy like hydroelectricity. Is it because one of the biggest sources of government revenue is petroleum products?

    One of the major responsibilities of the MoF is to maximise revenue collection. But it would be pragmatic if we could link this issue with energy security. To create that linkage, we can channel certain portion of revenue generated from petroleum products to development of the hydroelectric sector. As of now, development of the hydro sector has been guided by different hydro policies. In a way, this has isolated the hydro sector from the energy sector. Now, we should focus on developing a national energy policy, and rapid development of the hydroelectric sector should be the focus of that policy. In fact, the parliamentary committee on agriculture and water resources has already directed the Ministry of Energy to prepare a national energy policy. I hope the policy will address these issues. However, what is also true is that we can’t completely replace petroleum products with hydroelectricity in the near future.

    Many doubt the government would focus on the issue of energy security once the fuel crisis is over. This is because the government is never far-sighted. Had it been visionary, it would have reaped maximum benefit from around 6,000 rivers, rivulets and tributaries that the country has, and focused on research and development to export technology related to hydroelectricity, isn’t it?

    Issues like investment in research and development have been mentioned in the Hydroelectricity Development Policy and other strategies and plans related to water resources. But they have never been implemented. Non-implementation of policies is the biggest challenge facing the country. Also, lack of qualified human resources is another problem being faced by the country. Lately, quality of engineers that the country is generating is also deteriorating. And those who are qualified do not get proper incentives. So, they try to find jobs abroad. The government, therefore, needs to focus on generating qualified human resources, and put in efforts to make the sector attractive for qualified fresh graduates. Also, skills of those working in the sector need to be upgraded from time to time, and capacity of various institutions, including the Ministry of Energy, needs to be strengthened. If these issues are not addressed, energy sector will face a big problem in the coming days.

    Another area where the country has lagged behind is in selection of hydro projects. For instance, the government built 144MW Kaligandaki A hydro project in 2002. It then built Middle Marshyangdi, with capacity of only 70 MW, in 2008. The focus then shifted to Chameliya, a hydro project with installed capacity of just 30MW, followed by 14MW Kulekhani. This shows the installed capacity of hydro projects built by the government over the years has been falling. So, we have failed to select projects that could address the country’s energy needs.

    Another issue is forecast on energy demand made by NEA. This is based on current energy consumption, which is suppressed because of load shedding. Is this, in any way, discouraging investors to put money in hydro projects?

    We cannot doubt the estimates prepared by NEA because they are based on GDP growth rate. However, it’s true that forecasts are made on business-as-usual scenario. But before discussing this issue, we have to first ascertain whether it is NEA’s responsibility to predict country’s energy demand. I think we will find answer to this question once we begin drafting the national energy policy, as we cannot prepare that document without referring to load forecast. But whichever government agency does the study should try to make it as comprehensive as possible. That study should also show how the scenario could change if there is change in consumption pattern because of shift to hydroelectricity-powered industries or introduction of electricity-based mass-transit systems, like monorail.

    Don’t you think the country also needs to conduct a study on how over-dependence on petroleum products has triggered outflow of cash from the country, widening the country’s trade deficit ever passing year. If the government could explain this, probably there won’t be much hullabaloo every time the state tries to seal hydro agreements, isn’t it?

    We may have made some mistakes in the past. But it wouldn’t be wise to bring those issues to the front. We should learn lessons from those episodes and move forward. And I think the fuel crisis the country is facing has made everyone aware about the importance of hydroelectricity. So, I think decisions will be made accordingly in the future so as to reduce our dependence on fossil fuel. In this regard, the country must frame appropriate policies and strategies to attract as much of domestic and foreign investment towards the hydro sector.

    Does that mean the government intends to deal with the issue of forex variation risk head-on?

    Yes. But it’s too early to say what provisions would be introduced to facilitate foreign investors. We are currently looking at various options and going through dollar-denominated power purchase deals signed by NEA in the past. For instance, Lower Solu is one of the hydro projects that had entered into dollar-denominated power purchase agreement. In that particular project, the dollar-rupee tariff ratio stands at around 55:45, (which means NEA makes 55 per cent of the entire payment for supply of electricity in US dollar). So, a ratio of that sort needs to be fixed. Also, the government has to take a bold decision and allow NEA to pass risks related to fluctuation in value of currency to end consumers. But while doing so, we have to ascertain that consumers do not become victims. So, this is quite a complex issue and can become political hot-potato as well. However, we will have to make necessary arrangements soon to attract investment in hydro sector. I think we will require 28 to 35 working days to finalise the guideline on covering forex variation risk.

    Source : The Himalayan Times.