New pricing tiers add to instability

The building blocks of coal security - availability and affordability - have recently been questioned. The coal availability that was believed to be in plenty is proving to be a myth. Now there are concerns about its affordability too, given the frequent price revisions. The domestic demand and supply gap is widening. The Annual Plan Document (2011-12) has projected the coal imports at 137 million tonnes as against 83 million tonnes in the last fiscal. Such high import levels are likely to destabilise the financial structure of the coal-dependent sectors.

Though coal pricing is decontrolled, the industry, with its low price elasticity and a majority of its production and demand coming from the government sector, continues to be under the influence of the ministry of coal.

Prior to nationalisation, the price of coal was determined by the market forces, with very little government intervention. However, the nationalisation of the industry in 1973 brought the sector under a monopoly market structure with coal pricing shifting to an administered regime. Under that regime, several committees were constituted and the prices were revised at frequent intervals to cover the rising input costs. Subsequently, the prices were linked to the useful heat value of coal, and the Bureau of Industrial Costs and Pricing (BICP) developed a formula for estimation of coal prices based on the average long-run marginal cost. Finally, coal prices were completely decontrolled in 2000. Coal producing companies were given the right to determine the price levels, but in practice the ministry still is in full control.

Now different grades of coal are supplied at different prices fixed by Coal India in consultation with the ministry. The supply of coal is ensured to the regulated sectors, based on the historical prices set by the BICP. The regulated sector is defined to include power, fertiliser and defence sectors, however, the latter two constitute only a miniscule share. For other sectors about 75% demand maybe met through the Fuel Supply Agreement and the rest is acquired via imports or e-auction. In addition, due to the shortage of coal and high transportation costs to the western region, the consumers are compelled to accept the cost-plus pricing. But the price of premium quality coal is estimated at import parity level. Therefore, different grades of coal are priced either on historical rates i.e. price determined under ministry's guidance; or via e-auction i.e. highest bid price; or at an import parity price level; or at cost-plus price. To add to the complexity, the Union Budget (2011-12) has rolled out a dual pricing mechanism for the first time. This implies same-grade coal will now be available at differing prices to different consumers.

In this year's Budget, the price revision has been three-tiered: 30% hike for the sectors whose prices are market-driven (excluding power, defence and fertiliser); price hike for coal produced by MCL to bring it on a par with SECL; and price hike for higher grades of coal to bring it on a par with international rates.

Besides, it is being speculated that Coal India may increase prices across all sectors again during July-August 2011, after it has negotiated a salary hike for its employees.

These unstable prices and the lack of transparency translate into a highly complex market structure.