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India hints a rise in domestic gas prices is on the horizon

The newly elected government is attempting to boost state finances

India’s newly elected government has hinted that it will raise domestic gas prices by round 60%, as it eyes divestment opportunities in leading oil companies to boost state finances. As expected, no energy reforms were announced in its maiden budget. But the Bharatiya Janata Party, which won power in May, has signaled its determination to push through higher wholesale gas prices. 

New prime minister Narendra Modi, whose government romped home with the biggest majority in 30 years, looks set to cut the state’s oil-subsidies burden by more than a quarter, but a slight increase in the fertiliser subsidy may hint at higher gas pricing of $6.8 per million British thermal units (Btu) later this year, says Abhishek Agarwal, an Indian energy specialist at Macquarie Research

Under a new pricing formula, domestically produced gas prices would have jumped from between $4.20 and $5.70/m Btu to $8.40/m Btu from the start of April. But the much-needed reforms stalled as general elections loomed. 

Modi’s government has also promised to simplify the hydrocarbon tax structure and shake up licensing policy to encourage investment in the energy-short nation. The country is richly endowed with potential mineral wealth, but still imports about 80% of its daily oil use. 

At the same time, the new government is also encouraging India’s oil companies to invest overseas. Modi is even talking with Russian president Vladimir Putin about an ambitious $40bn gas pipeline that would ship Russian gas to Indian customers. There is also speculation that Asia’s third-largest economy is preparing the groundwork for more privatisation in its energy sector.

The Modi government is plagued by the same economic ills that brought down its predecessor: weak growth and high inflation triggered by too much spending and too little investment. A decade ago the country was seen as a future superpower, only to see its economic expansion stumble below 5% today. That is half the level of ten years ago. Selling stakes in leading state oil firms would bolster state finances and buy Modi time for structural reforms to revive a weak economy. 

A draft proposal has been sent from the treasury to the cabinet office, suggesting a further 5% could be sold in the largely state-owned Oil & Natural Gas Corporation (ONGC). With the national oil company valued at near $60bn the sale could net the government a $3bn windfall. A 5% stake in ONGC was previously auctioned in 2012 for $2.2bn. But the sale was largely considered a flop with the bulk of equity purchased by a state-owned insurer. 

Still, buoyed by Modi’s pro-development approach, the Indian stock markets have rallied to all time highs, offering opportunities for big-ticket divestments. Leading the pack is Indian Oil, which has gained 62% in 2014. ONGC is up 46%. Further clarity, particularly on pricing reform and subsidies, could make them even more attractive. Any divestment is likely to be carried out after the government has ruled on domestic gas pricing, expected by September.

Dharmendra Pradhan, the minister of petroleum and natural gas, promised last month that there would be a wider new gas pricing policy “very soon”. But promises are easier to make than achieve. Already the pledge to raise gas prices from 1 July has been pushed back again. 

Reliance Industries, run by Indian billionaire Mukesh Ambani, along with its foreign partners BP and Canadian independent Niko Resources, remain unconvinced that action on pricing reforms is imminent. The trio has launched an arbitration challenge against the postponement and wants the new government to honour a prior commitment that gas prices from their deep-water KG-D6 fields off the east coast would be doubled on 31 March. 

ONGC is Macquarie’s top pick for investors as it offers the most direct play on the theme of energy subsidy reduction in India. Similarly state-backed Oil India will benefit and is cheaper than ONGC, but its leverage to the politically volatile, economically weak and geographically difficult northeast of India are constraints. Agarwal is also positive on Reliance, which will benefit from gas-price reform.

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