An agenda for energy

India needs to bring structural changes, reset targets, influence global policy and choices.

Written by Neelkanth Mishra | Published: October 23, 2018 12:11:18 am

You need energy to grow. This is as true for economies as it is for humans. Whether it is the use of machines in a factory, appliances like washing machines and refrigerators in households that help save time on chores, or automobiles to move people and goods faster, energy is needed to grow output. Even the use of materials like metals, plastics, chemicals, bricks and cement, without which a decent quality of life is now hard to imagine, means use of more energy: The production of steel accounts for nearly 9 per cent of India’s total energy needs, and brick-making is the second largest industrial use of energy. Put simply, an un-electrified house with mud walls and a thatched roof only needs manual energy to build, but a brick-and-cement house needs much more. Energy consumption per person for a country is correlated to its average output per person.

Higher productivity also needs denser energy. Grass, for example, has lower energy density than cooking gas: Cooking a bowl of rice by burning straws would take a lot more time than by using a gas cylinder. While traditional societies across the world all relied on biomass (that is, sources like firewood and crop residue, which are less-dense), their growth in productivity was associated with a move to denser fuels: Imagine running a car directly with coal or wheat-straw. It is said that the transition of the fuel for ships from the less-dense coal to the higher-density oil contributed to the success of the British navy in the First World War. In the early 1990s, biomass was 30 per cent of China’s energy, but is only 5 per cent now. India’s ratio currently is 30 per cent, but should start to fall as household electrification picks up, and government policy raises the penetration of cooking gas cylinders.

So, the Indian economy’s energy needs will rise with growth, and demand for denser energy sources will grow even faster. Between 2000 and 2015, when India’s output (as measured by GDP) grew at 7 per cent a year, its energy demand grew at 4.5 per cent a year, implying that efficiency of energy use improved at about 2.5 per cent annually. The problem was that the annual growth in domestic production of energy was only 3 per cent, and imports therefore had to grow at 8.5 per cent to meet the demand. The share of energy needs met through imports rose from 21 per cent in 2000 to 36 per cent by 2015. If similar trends persist, we estimate that nearly half of the demand in 2040 would be met by imports. The main constraint in India is the lack of reserves of oil, gas and metallurgical coal (used for steel-making), but poor management of what India does have is also a reason.

Importing large amounts of energy is by itself not a problem (except possibly for security reasons — one can imagine the problems of this vulnerability in times of war). But how does one pay for it? The energy import bill this year is already at a record high of $125 billion, despite energy prices being half of what they were at the peak a decade back: Volume growth has more than offset the price decline. Three years from now, even if the recent surge in prices reverses, the value of energy imports would be nearly $40 billion higher than this year. By 2040, even with minimal price growth, the import bill could be $660 billion. As a share of national income, this will most likely be a manageably low number, but the constraint would be in getting that quantum of dollars.

The recent troubles for the currency have originated from slowing foreign capital inflows coinciding with rising energy prices: Capital inflows as a share of GDP this year have fallen to 2002 levels, and paying for imports has become a struggle. Only part of this decline is cyclical: That is, it may pick up over time without any policy level changes; the rest may need policy changes. The necessary dollars can also come from exports, but export growth has slowed too, particularly for services: A decade back, rapid growth in these had prevented the external balances from deteriorating during the oil price spike.

The fact that India may struggle to pay for the energy it needs to grow the economy at even 7 per cent a year is concerning, and challenges the widely held view that 8 per cent growth is just around the corner. Structural changes on several fronts may be necessary to overcome these hurdles: Improve capital inflows, grow domestic energy production, increase energy efficiency, and also accelerate the transition to more domestic sources of energy.

Of high priority should be freeing up energy pricing, not just in electricity but also coal and gas. Controlled and distorted pricing drives inefficiency in usage, and also inhibits a supply response at times like now, when rupee depreciation has made domestic energy so much cheaper than imported energy. The legal monopoly of Coal India on merchant mining of coal was unwound a few years back, but no licences have been issued yet to private enterprises. The country also needs to collectively move away from carting its low-grade coal over hundreds of kilometres instead of moving power, which is cheaper, easier and less wasteful: This would need national-level planning.

The ambition on solar and wind power may need to be reset substantially upwards: Even if solar and wind capacity reaches 650 Gigawatts by 2040 (a nine-fold increase from now), they would only be able to cater to 4 per cent of India’s energy needs that year. Given the scale of required capacity, self-sufficiency in such equipment should also be sought. Further, given the natural fluctuations in output from renewable sources, the grid would need to be re-planned/architected. India also needs to accelerate electrification of various energy-guzzlers. Electric vehicles are expected to be just 6 per cent of cars globally by 2030: This may be too slow for Indian requirements.

India is expected to drive almost a fourth of global energy demand in the next two decades. Not only should it be pulling its weight on global forums and influence global policy and choices (something that is beginning to happen), there needs to be significant investment in India-specific solutions: The country’s medium-term growth potential could otherwise be at risk.

The writer is India Strategist for Credit Suisse.

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