Wednesday, May 4, 2011

The perilous state of Nepal’s state-owned enterprises

A majority of the state-owned enterprises (SOEs) are running budget deficits for long time on top of mounting loan and debt. Only one or two SOEs are making profits mainly due to monopoly powers. As competition intensifies, these SOEs’ account might also go into the red. The top three politicized, corrupt, and perennially loss making SOEs are Nepal Electricity Authority (NEA), Nepal Oil Corporation (NOC), and Nepal Airlines Corporation (NAC). Keeping them alive with the existing management structure and operation system has meant choking development funding and widening fiscal deficit. All these SOEs had sizable profits before they became infested with corruption and a recruiting tool/job bank for political parties.

The solution is simple: adjust market prices according to international prices, and domestic demand and supply (for NEA and NOC); and for NAC it is just cleaning the entire enterprise with better management and less politicization.  To do this in a sustainable fashion, privatization is one potentially viable option. The other option is to break up monopoly  and monopsony powers of NEA and NOC and operate them under a PPP model with complete management and financial independence.

Below I detail the state of NEA, NOC and NAC. I will have further comments on this issue in later posts.

For electricity, per unit investment is NRs 8.97, but is sold at NRs 6.57 per unit (a loss of NRs 2.40 per unit). The NEA’s total income is NRs 1.5 billion but its yearly operating expense is NRs 1.65 billion. Its total loss is about NRs 19.47 billion, several times more than its total assets. It still needs to pay around NRs 500 million each to India and power contractors. More details here. It was running in profit until FY2058/59.

During fiscal year 2009/10 the annual peak demand reached 885.28 MW, a 8.96 percent growth over the peak demand in previous fiscal year. Annual energy demand recorded 4367.13 GWh out of which 3076.69 GWh was met by domestic power generation, 612.58 GWh was imported, and 667.860 GWh was managed through load-shedding (Nepal Electricity Authority 2010). Currently, power outages have reached up to 14 hours a day. Since supply of electricity is trailing behind demand for electricity by over 50 percent (on an average the demand is 900 MW, but supply is around 450 MW), especially during dry season, it has affected pretty much everyone in the country. Due to acute power crunch cost of production of industries is going up, cost competitiveness of Nepalese products is decreasing, industries are closing down, production is being winded down, a shortfall in domestic production is leading to an increase in imports of even the most basic goods and services (contributing to widening trade deficit), and future growth potential is being severely crippled. It will take years to make up for the lost growth potential due to the ongoing energy crisis even if the power outages are solved in five years time.

For fuel, NOC is running a deficit of NRs 15 billion. Right now, it is incurring a loss of NRs 8.1 in a liter of petrol, NRs 23.42 in a liter of diesel, NRs 13.61 in a liter of kerosene, and NRs 322.6 in a cylinder of LPG gas. It has been maintaining a profit of NRs 7.6 in aviation fuel.It means that the monthly loss is about NRs Rs 1.96 billion. Why so? Because NOC is beset with corruption, political infringement in management, poor governance, and poor accountability. The financial health of NOC is so worse that the no financial institution is willing to lend money to it against any guarantee. Recently, the government had to implore Employment Provident Fund (EPF) to lend NRs 2 billion and ask India to give NRs 3 billion line of credit to resolve fuel shortage for two months. It is just a very short term band aid to a recurrent problem, which needs structural adjustment (it may be painful).

NOC is probably the most politicized SOE in Nepal. Due to long running structural issues, mainly disinclination to adjust domestic fuel prices with international prices, NOC is running huge deficit. As I alluded to before, tt is a recurrent problem. It happened before, is happening now, and will happen in the future if the structural constraints underlying the poor performance of NOC, and market and labor rigidities are not addressed in time. Apart from stopping leakages and ensuring efficiency in the whole process, there is no option but to make domestic petroleum prices consistent with international prices.

The country cannot repeatedly bail out NOC by slashing development expenditure.  Unless we find an alternative to petroleum products, there is no simple fix. The demand for petroleum products is pretty much inelastic, so even if prices change, quantity demanded will not decrease. It means the contribution of imports of petroleum products on balance of trade deficit will continue unabated. Worse, long power outage is forcing firms to use petrol or diesel to run generators. This has further hiked demand, leading to higher imports. So, unless we address this situation, reduce dependence on petroleum products, and find alternative sources of energy, the problem will persist more rigidly that it had persisted in the past. The long term solution is to generate hydroelectricity by injecting large amount of investment sourced from both domestic and foreign sources. There is no easy fix unless we fundamentally change the way we have been producing and consuming energy in this country.

For airline, NAC has been embroiled in repeated scandals related to purchase of aircrafts, appointment of staffs, loans and so forth. It has been a recruiting tool for the major political parties. Its losses are mounting (over NRs 2 billion; its total asset is worth NRs 16.80 billion). It has just two big aircrafts (one was just repaired after months of grounding the plane at TIA) and three small aircrafts for domestic flights.  And it is running a budget deficit. At one time NAC was the pride of the nation. It had 21 aircrafts, including eight Twin Otters, two Boeing 727s and two 757s. It was also one of the biggest foreign currency earners. Unfortunately, at a time when domestic and international airlines are making profits by operating flights in Nepal, it is sad to see that Nepal Airlines is running a deficit again and again.