Pipeline lessons from Ukraine

The drama last week when Russia cut off gas supplies to Ukraine holds lessons for the proposed gas pipelines to India from Iran and Turkmenistan, and for our entire energy strategy.

Typically, Russia has supplied gas to neighbours (like Ukraine, Belarus, Moldova, Georgia) at a highly concessional price in return for political influence. Putin was upset by the “Orange Revolution” in Ukraine, which ousted his nominee and brought his foe Yushchenko to power. Ukraine was heavily dependent on Russia for concessional gas at $ 50/mcf. Major gas pipelines from Russia to Western Europe ran through Ukraine, which therefore also had leverage. When Russia demanded (and Yushchenko rejeceted) a quadrupling of a gas price to $ 230/mcf, Russia cut off supplies to Ukraine.

But cutting off supplies to Ukraine affected Western Europe too. Putin claimed that there was no reduction in gas to Western Europe, but gas pressure in the pipelines fell dramatically. Western countries warned Putin to restore the gas pressure or be viewed as an unreliable energy supplier to be given the lowest priority. Putin backed down, negotiated a new deal with Ukraine, and the gas flowed again.

Some analysts have criticized Putin for counter-productive bullying. They feel Western Europe must now diversify its gas sources, buying more from North Africa and the Persian Gulf. Other analysts, however, point out that Putin ultimately got a big increase in gas price, and proved that Russia would use energy as a weapon when required.

What are the lessons for India? One, getting gas through pipelines traversing several countries carries political and commercial risks. Most Indian defence experts have opposed the Iran-Pakistan-India pipeline on the ground that Pakistan can stop gas supplies to India at will. But Ukraine highlights an additional danger. A dispute between Iran and Pakistan could disrupt supplies to India, and India lacks the leverage to restore supplies that Western Europe had in the case of Ukraine. Pakistan is under US political influence, and the US might turn the screws on Iran over its nuclear program.

Second, high energy prices have encouraged energy-rich countries to treat oil and gas as a political weapon. Russia is not the only example. In Venezuela, President Chavez has just expropriated majority stakes in all fields operated by foreign oil companies. Iran too is having internal debates on how to use energy as a political tool.

So, India should minimise its energy dependence on Iran. Safer will be gas from Qatar, Indonesia and Australia.

Third, if Western Europe diversifies its energy and buys more gas from the Gulf, prices there will shoot up. Five years ago, India hoped to get gas from the Gulf at a delivered rate of 3/mmbtu. But today the US price is $ 10/mmbtu. With Europe wanting to buy more gas from Gulf countries, the delivered price in India will be at least $ 7-8/mmbtu, (whether through pipelines or LNG)and the price after regasification in for long-term contracts. Buying gas at this price will be a recipe for creating more Enrons.

Free power to farmers and high power thefts mean that State Electricity Boards cannot pay more than Rs 2.50/unit for power. If gas is supplied at $ 7-8/mmbtu, power will cost Rs 3.50 at a 90 % load factor, and maybe Rs 7/unit if the electricity regulator orders plants with the highest fuel cost to stop generation when demand falls in the night (this is what happened in Enron’s case).

Former Petroleum Secretary Vijay Kelkar once said the 21st century would be the century of gas, and we must import as much as possible. I thought then that he was right. I know now that he was wrong.

India must rethink its strategy of importing fuels for power generation. The global prices of oil and gas are so high and volatile that we must not base power plants on them. We must shift to coal (of which we have the third largest reserves in the world) and nuclear power.

India imports coal today on the ground that our coal has a very high ash content, and is uneconomical to transport from Orissa to the West and South. But imported coal has become so costly that power stations in the south are now refusing to pay for it.

A better long-term solution is to gasify coal from the big fields in Orissa, Jharkand and Chattisgarh, and then pipe the gas to Southern and Western India. In earlier decades, coal gasification was uneconomic, but not any more after world oil and gas prices have skyrocketed.

We must urgently launch pilot plants for coal gasification, using technology from Sasol or Lurgi, and then scale up after solving the inevitable glitches. Gas from high-ash Indian coal will not be cheap, yet will be cheaper than gas from Iran or Turkmenistan.

What do you think?