Business World
Introspective
The current electricity shortage in the country is stirring up memories of the power crisis in the early 1990s when daily blackouts of as long as 12 hours in Manila pushed investors to the exit causing economic output to contract.
I wrote a report a week back for GlobalSource, a global network of independent analysts, explaining how the current shortage differs from that of 20 years ago, noting that:
1. Power outages today are not due to an acute shortage of power generating capacities but have been triggered by an El Nino-induced drought, hence the surprising severity especially in Mindanao, which relies on hydroelectric plants for over 50% of its electricity needs.
2. Severe power outages have so far been limited to Mindanao; in comparison, power interruptions in Luzon, which depends much less on hydroelectric plants (about 10% and less than 1% in Visayas), have been intermittent and of much shorter duration.
Thus, in the near term, from a macroeconomic perspective:
3. Mindanao's less than 20% contribution to economic growth (vs. two- thirds for Luzon), while not insignificant, is not expected to cut into overall growth appreciably.
4. Despite the more than doubling of spot prices, the impact on electric bills are expected to be muted as utilities are allowed full recovery only on 10% of their purchases from the wholesale electricity spot market (WESM) while any excess purchases are recoverable based on time-of- use rates of the National Power Corp. (NPC).
The big picture
Still, beyond election and short-term macroeconomic risks, incidents of massive blackouts in a country that has a history of power shortage and where competitiveness is dragged down by high power costs, tend to undermine investor confidence further and raise the hurdle rate on investments. This risks underinvestment all around resulting in an inability to expand the country's growth frontier, thus bringing forward to the present the issue of long-term supply adequacy.
The Department of Energy's power supply and demand outlook does not provide much comfort. For Luzon, government estimates the critical period, when existing generating capacity will not be able to meet peak demand plus a 23% reserve margin, to come as early as 2011. Private industry estimates range from 2012 to 2014, which nevertheless also point to the need for capacity additions today.
Meanwhile, the critical period has come and gone for Visayas, which has been experiencing rotating blackouts for a couple of years already before the construction of a new baseload coal plant, expected on stream by the third quarter this year. Mindanao is also expected to face power shortages this year, albeit the current severity has not been anticipated.
In sum, the supply/demand outlook reveals the need for immediate new investments in power generating capacity, especially considering the three year lead time needed to get all the requirements and financing for building power plants. Indeed, industry experts are one in saying that shortages even in Luzon would have happened already had it not been for the following developments: (i) lower economic growth due to the global financial crisis, (ii) higher dependence of recent past growth on the services sector which is less energy intensive, versus the manufacturing sector which has been losing out to China, (iii) rehabilitation and better maintenance of privatized plants which have translated into higher energy sales, and (iv) functioning of the WESM with peak/off-peak pricing that encourages optimized energy dispatch to improve returns and spread out power demand.
Work in progress
To be sure, investor interest of late can be gleaned from successes in government auctions of existing assets - after much delay, over 80% of government's power generating assets is finally in private hands. It has been much more difficult to get them to put up new baseload plants without open access, where electricity buyers of a certain size can freely shop for suppliers.
Thus far, investors find simply buying existing public generating assets the easier route to participating in the local power industry. Moreover, the transition supply contracts that come with the plants help to ease the way into complete merchant plants that will operate in an uncertain regime.
The Energy Regulatory Board is expected to soon issue rules on open access on a voluntary basis, ahead of the Power Sector Assets and Liabilities Management Corporation (PSALM) achieving the threshold. It is hoped that this will help investors see the emerging landscape and make business decisions to address Luzon's power needs anticipatorily.
Also, the WESM, introduced in 2006, continues to have rules that undermine price discovery and is thus unable to telegraph shortages through price signals. Instead, it has been observed that WESM prices have tended to be artificially depressed due to the operation of government's must run plants whenever there are supply disruptions on the private side that results in spot prices not reflecting the true scarcity of electricity.
Unlike fiscal sustainability which boils down to a taxing problem, it is less clear to us, based on the economic platforms presented so far by leading presidential contenders, how the winning candidate will tackle power sector issues, which are in truth much more complex. Even if the next administration learned the lesson of 20 years ago, i.e., to be anticipatory and not wait for a crisis to happen before acting which imposes huge costs on the economy, rules have changed under the Electric Power Industry Reform Act (EPIRA). EPIRA now bars government, except with Congress's approval, from doing what the Ramos administration did in 1992- 93 to solve the power crisis then, i.e., enter into energy purchase contracts with independent power producers.
A worst case scenario, if the next administration dilly-dallies, will see a repeat of the end of Aquino administration power crisis that will seriously damage investor confidence, pull down economic output. and lead to expensive solutions that will affect the country's long-term competitiveness. A rough calculation, based on the $1-million-per megawatt rule of thumb for costing power plants, indicates that every foregone 1% of GDP growth translates into over P70 billion of loss per year for the economy, which is enough to pay for a 1500-MW power plant. When viewed in the context of a negative growth rate in 1991 and near zero in 1992, the losses can be quiet staggering if the next administration fails to avert another power crisis.
We remain optimistic though that with memories of the last crisis still fresh in the minds of people now holding decision-making posts, the next administration will have enough political will to iron out kinks in the present setup and do enough to give comfort by way of improved regulatory and macroeconomic environment to investors and lenders before reserves dwindle further in the main grid. If investors continue to shy away, we expect it to be able to find interim measures involving public provision that do not run afoul of the EPIRA, a far second best option though.
This was based on a report with the same title by Christine Tang and the column writer for Global Source, a network of independent analysts.
Mr. Romeo Bernardo is board member of The Institute for Development and Econometric Analysis, Inc. and managing director of Lazaro Bernardo Tiu & Associates, Inc. He was formerly undersecretary of Finance during the Aquino and Ramos administrations.
