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Will India succeed in oil and gas sector; here is how politics is trumping energy security

Unless the political leadership realises that Investors must earn returns commensurate with the risk, India will not succeed in developing its oil & gas reserves

gas sector, oil sector in india, Narendra Modi, US gas production, M King Hubbert,  LNG importing terminals,  Hydrocarbon Exploration and Licensing Policy , Cairn,  KG-basin D6 oil exploration, reliance
To ensure gas supplies for essential needs like residential heating, new gas power plants were banned. (Reuters)

Bhamy V Shenoy

Thanks to the US shale revolution, the US may finally achieve energy independence, set as a goal by every president since Richard Nixon. Will India be able to achieve even the modest goal set by PM Narendra Modi, of reducing oil dependence by 10% by 2022? Most likely, it may remain a pipe dream. Why? No oil expert could have predicted that the US oil production would increase after it reached its peak as predicted by the geologist, M King Hubbert, in 1970. As in the case of oil, US gas production was declining in the 1970s because of price controls. To ensure gas supplies for essential needs like residential heating, new gas power plants were banned. Once the prices were deregulated in 1978, gas production increased and prices came down. When production started to stabilise in late 1990s, the US started to invest in large LNG import terminals, expecting a gas-deficit. However, thanks to the shale revolution, production started to increase in the later part of 2000. Soon afterwards, the US started converting LNG-importing terminals into exporting terminals. India is beneficiary of such gas exports today.

What a contrast from the US when we compare India’s oil and gas production during the last 50 years! India’s oil dependence has steadily increased to 81%. In the case of gas, it is even worse. There was steady, though not spectacular, increase in gas production. After reaching a high of 50 billion cubic meters (bcm), production fell below 30 bcm. One obvious question, though not raised by our political leaders and planners, is why did India fail when the US succeeded?

Often, the argument given is that the US has huge petroleum reserves while India doesn’t. While it is true, such an easy reasoning is erroneous. India still has a large area (78% of India’s sedimentary basin) which has still not been explored for reserves. Till extensive exploration has been carried out, it is wrong to write off India. Since last year—when India unveiled its new Hydrocarbon Exploration and Licensing Policy and opened up its large unexplored areas— no foreign oil company has expressed interest. In the case of the US, even an oil-rich country like Saudi Arabia has shown interest to explore for shale reserves. This is because the US offers attractive terms to explorers. Regulations, though stringent (environmental regulations of the US are stricter than India’s), are transparent and not left to the discretion of the officials and certainly not to the influence of politicians. In India, there is the perception that even if the oil companies comply with all the rules, unless politicians and officials are taken care of (in other words, bribed), it is difficult to operate.

When a Canadian company, Cairn, wanted to sell its company to Vedanta, thanks to the intervention of the petroleum ministry, it took enormous time and political intervention to resolve a reasonably straight forward commercial transaction. Again, such transactions should have been easy, without hassle and without political intervention. Once the transaction was complete, there was the perception of crony capitalism. The poster-case for crony capitalism and bureaucratic intervention is the KG-basin D6 oil exploration by Reliance. A dispute arose because of the gas price. Only because of the dispute between the Ambani brothers, the government was forced to intervene to ensure that it was not taken for a ride. Finally, it was the Supreme Court which resolved the pricing issue. Attracted by the early assessment of huge gas-reserves in the Reliance KG block, and also buoyed by the confidence of leveraging its technical ability to find even more reserves, BP bought into the block.

To its great disappointment, BP’s gamble did not pay off. BP’s unpleasant experience of dealing with the government in the KG-basin matter must have sent wrong signals to the potential international investors. This is not to say that, in the US, politics has no role or influence on the petroleum industry. In fact, oilcos have a huge lobby in Washington,DC to influence the policy-makers. What is different from India is that if any specific company is favoured by tweaking the law by any influential politician, chances are that such corrupt practices will be exposed and there will be heavy penalties. There are also instances when the US Congress brought in legislation which harmed the economy because of the role of special interests. Ethanol-subsidy is one such example. The corn lobby has been successful in getting a law passed that is not in the interest of the overall economy.

However, there are also several examples of the US Congress quickly changing policies detrimental to the economy. Soon after the first oil-shock, it legislated to support small refineries by imposing price control. It resulted in a mind-boggling number of crude oil classifications. However, when it found that such controls were counter-productive (hundreds of small, inefficient refineries got built in a short time), it removed the control. When it realised that gas price control is not helping the industry, and resulted in falling production, it dismantled that.

Let us contrast this with India. Every political party wants to control oil and gas prices. They also want to control who gets these controlled gas and oil. The argument is that, by controlling price and shielding the economy from external price shocks, we are helping poor consumers. Often, energy security is also made the plea, though the real driver is political security. We haven’t yet realised that price control has killed India’s gas sector. In 2002, India decided to liberalise oil price for producers by dismantling the Administered Pricing Mechanism. However, soon after, when oil prices went up from 2004, India “punished” public sector companies ONGC and OIL India by forcing them to sell oil at below the market price. Then, they compounded the problem by forcing public sector oil-marketing companies to sell petrol and diesel (household LPG and PDS kerosene have always been subsidised) below the market price.

Private companies like Reliance, Essar, and Shell, which were far more efficient, had to close down their service stations. One can’t think of a more Tughlak-esque strategy, of subsidising petrol and diesel to help the poor.
Of all the wrong policies, it is the irrational pricing policy of natural gas which has caused the maximum harm to petroleum sector. For example, in 2012, the administered price for public sector oilcos was about $2/mmBtu, and for new gas reserves, it was around $4-5/mmBtu while India paid about $13/mmBtu for LNG imports. Various expert committees recommended the liberalisation of the gas market. But neither the NDA nor the UPA government had the political will to implement such a policy. It was further compounded by a complicated pricing formula based on four international benchmarks which had no relevance to the Indian gas market.

In the US, when exploration areas are leased, there are no special contracts for natural gas and shale gas. India’s bureaucracy, in its wisdom, used to have separate agreements for shale gas. Only recently did it decide to drop such restrictive practices. All over the world, production sharing agreements use the concept of profit-sharing. There is always the suspicion that oilcos will try and minimise upstream profit or gold-plate the investment. To avoid such a possibility, the petroleum ministry switched to revenue-sharing. Since the oil companies are not familiar with the revenue-sharing model, that might have also worked against India. The highest regulatory bodies for the sector in the US are autonomous and free from political control. However, in India, the Directorate General of Hydrocarbons is under the control of the petroleum ministry.

The US’s shale revolution was not because of the efforts of large oilcos. The chief architect of shale revolution is a wildcatter, George Mitchell, whose persistence in use of hydraulic fracturing and horizontal drilling resulted in the biggest gas plays in the US. India should encourage entrepreneurs like Mitchell in the petroleum sector. The NDA’s strategy of developing “Discovered Small Fields” partly meets this criterion. It succeeded in creating 15 new entrants.
In short, unless Indian bureaucracy and political leadership appreciates the importance of investors earning attractive rates of return commensurate with the risk, India will not succeed in developing its petroleum reserves. Petroleum investing is an extremely risky business. It is close to gambling. Can India work to create a rule-based environment for the petroleum sector without the hassle of winning the “goodwill” of the officials or politicians?

Author is former manager, Conoco, and former board member of the national oil company of Georgia

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First published on: 22-01-2018 at 05:10 IST
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