Energy projects under CPEC: Financial lifeline for Pakistan

Saud Bin Ahsen |

Pakistan’s energy crisis, emanating from a significant gap between generation and supply became acute in the 1990s. By 2006, the gap had equaled half of the country’s generating capacity. For a brief period from 2014 to 2015, installed generating capacity was adequate to meet the demand, however other factors that exacerbated the crisis again. These factors included high petroleum prices, low availability of indigenous sources, circular debt, and Transmission and Distribution (T&D) losses created a shortfall of about 4743 megawatts (MW).

Moreover, in the 1980s, when oil prices were low, Pakistan invested heavily in petroleum-fueled thermal generation. With essentially no indigenous oil sources, Pakistan relied on imported oil. When prices rebounded, Pakistan’s cost for energy increased, creating a significant burden on the economy and hindering the ability of thermal plants to meet growing energy demand. To reduce oil consumption, in 2005 the government made natural gas available to the transportation sector. Moreover, financial issues have also plagued Pakistan’s power generation.

China Pakistan Economic Corridor (CPEC) has been called the game changer for Pakistan and Pakistan’s economy. Pakistan has exhibited a volatile and cyclical economic growth pattern over the past 70 years going from bust to boom and back to bust again.

In addition to costly oil imports, Transmission and Distribution (T&D) infrastructure is highly subsidized to keep electricity prices low and reduce the burden on consumers. These subsidies, however, have been criticized for not benefiting the populations that need them most. Only 0.3% of subsidies went to the poorest consumers in 2012. Another problem came after the increase in a generation through the private sector, starting after 1994. The government failed to pay back the Independent Power Producers (IPPs), and without this revenue, it became difficult for the IPPs to operate at optimal capacity. Because of the demand-supply gap, Pakistan’s cities experience blackouts for 10 to 12 hours a day and up to 18 hours a day in villages.

According to the figures of 2015, Pakistan’s installed electricity generation capacity was about 23 gigawatts (GW) and consisted of natural gas (45%), hydroelectric (hydel) (32%), and oil (13%). Solar, nuclear, and wind made up a small portion (9%). Only 150 MW of coal capacity was installed (<1%). Not all renewable capacity is used for generation. Non-hydro renewable energy only made up about 1% of generation in 2015. Pakistan currently has a target to reach 5% of non-hydro renewable energy generation by 2030, but this target is expected to increase to 15%.

Currently, there are twenty-six CPEC energy specific projects including coal, solar, wind, and hydropower as well as transmission and distribution projects. Of these, twenty are considered “Priority Projects” that range from operational to still in the permitting stage. The remaining six projects are considered “Actively Promoted” or “Potential” projects.

China Pakistan Economic Corridor (CPEC) has been called the game changer for Pakistan and Pakistan’s economy. Pakistan has exhibited a volatile and cyclical economic growth pattern over the past 70 years going from bust to boom and back to bust again. In 2013, Pakistan was economically at ebb with macroeconomic indicators at their worst resulting in poor service delivery from the state to the citizens. One of the manifestations was load shedding which had reached an unprecedented level both in the urban and rural areas. Pakistan was not a destination for foreign direct investment and capital investments had almost dried up. Pakistan was looking for a way out of the economic mess and especially to ending of the load shedding.

In 2013, almost concurrently with the installation of the new government in Pakistan, President Xi of China announced the Belt and Road Initiative (BRI), stating China’s intention to vastly expand international investment for infrastructure and economic development in Asia, Europe, and Africa, including transportation, energy, and industry.

The Ministry of Environmental Protection banned the use of coal in 28 cities, including heavily polluted regions like Beijing and Tianjin. This freed up capacity is being used up in Pakistan.

One of the key land-based strategies under BRI is CPEC. This partnership intends to connect northwest China’s Xinjiang Uygur Autonomous Region to southwest Pakistan’s deep-water Gwadar Port, through significant infrastructure development, including energy. This focus on energy stems from Pakistan’s deep-rooted energy crisis, which has caused persistent black-outs and debt. Coal capacity makes up about 69% of planned CPEC capacity.

The remaining capacity comes from renewables, mostly hydropower, with smaller portions of wind and solar. In Pakistan, the task of formulating and implementing the CPEC related energy projects was assigned to the Private Power Infrastructure Board (PPIB), which is a statutory organization operating under the Ministry of Energy.

Ministry of Water and Power (MoW&P) directed PPIB to bridge the demand-supply gap using the opportunity of investments under the China Pakistan Economic Corridor (CPEC). Many of the projects are now complete whereas some are in the pipeline.

Externalities of CPEC Energy Projects

The energy projects under the China-Pakistan Economic Corridor (CPEC) have both positive and negative externalities.

Positive Externalities

Increase in Economic Growth

The overcoming of the Energy crisis in the country would help strengthen the industrial sector of the country and hence boost economic activity and exports of Pakistan. This will have a substantial effect on the economic growth of Pakistan. According to leading economists, overcoming the power crisis is likely to increase the GDP of Pakistan by 2% per annum.

Pakistan’s natural gas reserves are depleting fast and therefore LNG currently Pakistan’s primary energy source, natural gas accounts for 45% of installed electricity capacity and about half of the country’s Total Primary Energy Supply (TPES).

Effect on Balance of Payment Position

Almost half of the coal-based power plants under CPEC are based on imported coal, which means not only a compromise on the environment but also a drain on foreign exchange. However, according to Dr. Ishrat Husain entire energy portfolio will be executed in the IPP mode and the loans would be taken by Chinese companies, therefore, they would service the debt from their own earnings without any obligation on the part of the Pakistani government. Therefore, where the balance of payments is concerned, there will not be any future liabilities for Pakistan about Energy Projects of the CPEC.

Negative Externalities

Environmental Impact

As stated above about 69% of the CPEC projects are based on coal. While supporting coal projects in Pakistan, China is shutting down and canceling coal projects at home to combat air pollution. In 2017, China’s National Energy Administration canceled more than 100 coal projects that were planned or under construction, eliminating at least 120 gigawatts of the country’s future coal-fired capacity. The Ministry of Environmental Protection banned the use of coal in 28 cities, including heavily polluted regions like Beijing and Tianjin. This freed up capacity is being used up in Pakistan.

The environmental impact of CPEC investments in coal has been questioned. So far, CPEC coal investments are a combination of sub-critical and supercritical plants, with no ultra-supercritical plants. Additionally, much of the coal projects are mine-to-mouth, meaning domestic coal reserves will be tapped. This coal has high sulfur and ash content. Supercritical coal plants require higher capital costs, but also reduce the amount of coal needed per unit of electricity generated.

Besides the type of technology and quantity of coal used, health impacts of coal also depend on other factors, such as topography and distance to populated regions. Lacking reliable energy transmission infrastructure in Pakistan means that some power plants are likely to be built close to populated areas where energy will be consumed. Unlike greenhouse gases emissions with their global effect, smog-forming emissions, such as SO₂, have greater local effects. The shorter the distance from plants to populated areas, the greater the health and environmental impacts. Local pollution, when severe, can become a national political problem.

CPEC energy projects are solely funded by Chinese Banks at market rates or even higher, usually, such development projects are funded by development banks at a low cost such as World Bank and Asian Development Bank (ADB).

While the CPEC has been focused on coal primarily the PPIB has not been sitting idle. It facilitated the setting up of three (03) LNG based power plants in Punjab with a cumulative capacity of approximately 3600 MW.

Pakistan’s natural gas reserves are depleting fast and therefore LNG currently Pakistan’s primary energy source, natural gas accounts for 45% of installed electricity capacity and about half of the country’s Total Primary Energy Supply (TPES). Pakistan’s domestic natural gas reserves, however, are declining. In response, Pakistan has turned to imported gas.

As many as nine energy projects under CPEC use coal for the production of energy which constitute 69% of planned CPEC capacity. Although Sahiwal Coal Project and Port Qasim Coal Project are classified as super-critical, yet skeptics believe that the coal used has high Sulphur and ash content there are bound to significantly increase greenhouse gas emissions. The emissions of SO₂will be inevitable even though the plants use gas desulphurization equipment. The transportation of coal from Karachi to Sahiwal through railway line will cause pollution all along the way.

There is a considerable force in the argument that coal, when used as a preferred mode of production of energy, causes a significant amount of pollution. A relevant example is that of China which has made remarkable progress in economic development in the last few decades but has also inflicted irreparable damage to its environment. In addition, Sahiwal Coal Project would put additional pressure on Pakistan Railways to invest more in its infrastructure.

High Tariff Associated with CPEC Projects

Pakistan has offered exceptionally high internal rates of return (IRRs) to CPEC projects, thus causing high upfront tariffs, which makes electricity expensive for the consumer. Levelized tariff of the 1320 MW Port Qasim Coal Power Project i.e. $0.0836/kWh is higher than similar projects in Bangladesh involving Chinese sponsors, such as the 1224MW Banshkahli Coal Power Project with a tariff of $0.08259/kWh.

It has been estimated that Chinese companies and Pakistani cosponsors have benefitted from at least $1.35 billion in tax exemptions through CPEC. Such exemptions ultimately cause loss to the government exchequer. CPEC energy projects are solely funded by Chinese Banks at market rates or even higher, usually, such development projects are funded by development banks at a low cost such as World Bank and Asian Development Bank (ADB). This means that the Chinese Government is not only taking Return On Equity (ROE) but also the cost of financing from the Pakistani Consumer through electricity tariff.

Pakistan has embarked on wide-ranging initiatives including CPEC energy projects and so far PPIB remained partially successful in attracting foreign companies to undertake new exploration and production activities.

Moreover, CPEC projects have a “Take or Pay” tariff, which means that even if the power purchaser does not purchase electricity, capacity payments are made to the power producer. This causes a burden on the national exchequer and on the consumer tariff.

Debt Trap

Through CPEC, Pakistan currently serves as a centerpiece for BRI. The total value of CPEC projects is currently estimated at $62 billion, with at least $33 billion of this amount expected to be invested in energy projects and China will reportedly finance roughly 80 percent of that amount. Most of the financing for CPEC projects is in the form of loans, rather than unconditional grants by the Chinese government. Adding to Pakistan’s risk of debt distress are the relatively high-interest rates being charged by China. Unlike the 2-2.5 percent “concessional rate” given to some China Exim Bank customers, reports indicate that some of Pakistan’s loans reflect rates as high as 5 percent.

The risk for the central government is quite real as many of the power projects are under the umbrella of sovereign guarantees. Failure on the part of these companies to meet their debt obligations would directly weaken the government’s economic position, as it would have to bear the responsibility of making good on its sovereign guarantee. The IMF notes that adverse shocks could lead to public debt ratios well above 70 percent. As a country that has requested six debt treatments from the Paris Club, Pakistan’s massive amount of borrowing from China raises concerns that it will need to return a seventh time.

Currently, Pakistan’s liabilities (debt), both private and public, have exceeded 70% of GDP whereas this ratio must not exceed 60% as per Fiscal Responsibility and Debt Limitation Act, 2005 as amended in 2016. Pakistan’s circular debt, primarily within the energy sector has also reached new highs. The dangers stemming from Pakistan’s debt-to-GDP ratio and the administration’s short-sightedness viz-a-viz CPEC projects can pose significant dangers to the economy.

Socio-cultural Impact

Coal power plants are bound to cause displacement of population and some displacement has already taken place in the villages of Tharyo Halepoto and Sinhari Dars villages.

CPEC will contribute to be a source of coordination for developing energy-related projects through indigenous energy resources such as coal, hydro and renewable sources.

The projects would also lead to a decrease in already depleted grazing areas. Villagers in the surrounding areas have a serious concern that construction of a reservoir at Gorano village by the Engo Company will contaminate the wells serving a population of 15000 and their livestock spread over 2700 acres. The influx of people from other parts of the country in the wake of these projects will affect the local culture and ways of life but at the same time the company under corporate social responsibility is building roads, schools, and hospitals which would go a long way towards creating job opportunities for the local populace and would contribute to their prosperity.

Thus, PPIB under Ministry of Energy is making all efforts to increase and diversify its energy supply with a long-term vision of the Power Sector to meet Pakistan’s energy needs in a sustainable manner. Pakistan has embarked on wide-ranging initiatives including CPEC energy projects and so far PPIB remained partially successful in attracting foreign companies to undertake new exploration and production activities.

CPEC will contribute to be a source of coordination for developing energy-related projects through indigenous energy resources such as coal, hydro and renewable sources. However, CPEC is not the panacea for all ills unless state institutions also get restructured in a new manner. Thus, Pakistan has been given a financial lifeline through CPEC. It remains for the government and the implementation agencies to use this opportunity in the best long-term interests of Pakistan.

Saud Bin Ahsen is associated with a Public Policy Think Tank Institute and has done MPA (Master of Public Administration) from Institute of Administrative Sciences (IAS) Punjab University, Lahore. He is interested in Comparative Public Administration, Post-Colonial Literature, and South Asian Politics. He can be reached at saudzafar5@ gmail.com. The views expressed in this article are author’s own and do not necessarily reflect the editorial policy of Global Village Space.

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