Towards oil & gas autonomy

To fuel its massive economy, India has an accelerating oil and gas demand. Historically, this industry has been import-dependent. Though capable of accelerating domestic production, India has fallen short of capitalising upon its reservoir of oil opportunities. In a year of rapid price fluctuations, India's import oil dependence rose from 81.7 per cent in 2016-17 to 82.8 per cent in 2017-18. While the Centre is deliberating upon an array of policies to ease India's domestic oil production, an essential impediment remains in the autonomy of producers.

FY 2018 has been India's sixth year of negative growth in oil production. On the other hand, natural gas production, after falling for six consecutive years, increased by 2.36 per cent in the same period. The increasing import dependence of oil and gas, due to falling levels of production and a complementary rise in demand, is adversely impacting India's macroeconomy. India's current account deficit widened to 2.9 per cent of the GDP in the second quarter of the current fiscal, compared to 1.1 per cent in the year-ago period, primarily due to a widening trade deficit.

Given India's falling production and increasing import dependence, Prime Minister Narendra Modi, in March 2015, urged all stakeholders to increase domestic production of oil and gas to reduce import dependence from 77 per cent to 67 per cent by 2022. The Ministry of Petroleum & Natural Gas (MoPNG) responded swiftly and introduced numerous progressive policies over the last three years – Hydrocarbon Exploration & Licensing Policy (HELP), Open Acreage Licensing Policy (OALP), Marketing & Pricing freedom for difficult gas, promoting & incentivising enhanced recovery methods, among others.

While these are indeed positive changes, it is important to continue this reform momentum and also bring into purview a long-standing industry demand – pricing and marketing freedom for oil and gas producers. While HELP & Coal Bed Methane (CBM) policies provide for pricing and marketing freedom, all Pre-HELP contracts lack this freedom. This policy anomaly has been a detriment of meagre foreign investments.

India has varying pricing mechanisms in place for oil and gas. Some contracts provide pricing freedom, while others are regulated by government pricing guidelines. Marketing freedom, however, remains elusive. Marketing is regulated through allocation and though producers enjoy an apparent freedom to price their products, they lack due autonomy in accessing the market. They are then forced to sell at subdued prices. This policy anomaly undermines the symbiotic relationship between pricing and marketing freedom. Pricing freedom without marketing freedom is meaningless as regulated marketing would always lead to sub-optimal pricing.

Oil and gas allocation without commercial optimisation has led to suboptimal prices, lower returns for both producers and the government, and serious market distortions. Over the years, this lack of pricing and marketing freedom has led to value erosion across the sector. It is pertinent to highlight that for a USD 1/bbl lower price, the public exchequer loses USD 41 million in terms of profit petroleum, royalty, cess and share of its nominee.

Globally, comparable countries are adopting market reforms to attract investments and enhance domestic production. Egypt, for instance, had become a net importer of LNG despite being endowed with immense resource potential. To address concerns of International Oil Companies (IOCs) and to bring back investor interest, the government set out to reform the upstream and gas markets. It introduced the New Gas Market Law of 2017, which enables private sector entities to procure and market their own gas supplies without going through the NOC/central aggregator, Egyptian Natural Gas Holding Company (EGAS). Upstream producers with contracts signed post-2013 are allowed to sell their profit share gas to end users directly or through EGAS. Customers classified as 'qualified' can choose their gas suppliers and directly negotiate prices with them. Major changes in the pricing mechanism for gas production was able to address concerns of IOCs and bring back interest to the high-risk, high-cost upstream projects in Egypt.

Similarly, in China, definitive policies continue to support the acceleration of gas deployment. According to the Global Gas Report 2018, in a decade, gas has grown to more than 5 per cent of the energy mix and consumption growth has been sustained at an average of 12 per cent per year. In that time, China added over 100 bcma of import capacity and sustained domestic production growth of more than 7 per cent per year. This growth was a result of multiple policy measures aimed at expanding natural gas usage.

Price reforms were necessary for China to support the increasing demand for natural gas arising out of new government policies and priorities. Historically, gas prices have been heavily regulated by various levels of the government and were set on a cost plus profit margin basis, which kept local prices well below international levels. However, due to the immense growth in demand, there was an unmistakable need to develop a better pricing system that would encourage growth in domestic production and be fairly remunerative to the essential imports of LNG and pipeline gas.

In 2013, the pricing mechanism of natural gas was reformed. This has ushered the clear evolution from a highly regulated 'cost plus' model to a 'market minus' model. The linkage of gas prices with prices of imported fuels (LNG and fuel oil), has enabled the market to play a more important role in price formulation. China has, thus, been successful in making substantial progress towards establishing a market-based pricing system – encouraging producers and importers to provide additional supplies of natural gas.

To attract investments and stem declining production in India, it is imperative to provide producers with complete autonomy in practising pricing and marketing freedom. This will certainly encourage investments, domestic production and import substitution. Moreover, adopting this will bring Nomination, New Exploration Licensing Policy (NELP) & Pre-NELP regimes in line with the HELP and CBM policies. If, however, the Government wants to continue with regulated marketing, the commercial returns of producers must not be compromised. The road towards reduced import-dependence will, thus, demand a healthy balance of autonomy and regulation.

(The views expressed are strictly personal)