The Double-Edged Sword of Electricity Subsidies

Martin Scherfler

Energy subsidies are found in virtually every country. Justifications for their use range from social welfare protection, job creation, encouragement of renewable energy sources, promotion of economic development, to energy security. However, as public funds are a limited resource that could otherwise finance essential services such as the public education and health systems, the opportunity cost of subsidies for the energy sector are not negligible. The pitfall of this trade-off can be mitigated if the social performance of an energy subsidy is evaluated. In the case of electricity subsidy for domestic consumers, the following three questions may be asked: 

  1. Who are the beneficiaries? 
  2. How significant is the amount of subsidy received by low-income households? 
  3. How well does the subsidy benefit the low-income households as opposed to other households? 

Electricity subsidy is given by the State Government to TANGEDCO and directly translates into reduced electricity tariffs for certain consumers. However, the electricity subsidies provided by the Government of Tamil Nadu for certain consumer categories do not cover TANGEDCO’s actual cost of delivering this energy. Therefore cross-subsidies are required. Commercial or industrial consumers, for example, pay a higher per kWh price for electricity. The revenue gain from these higher tariffs is used by TANGEDCO to cross-subsidized consumers with lower tariff rates. TANGEDCO’s average cost of supply stands at around INR 8.00 per kWh (May 2020). Consumer tariffs above this average cost of supply subsidize tariffs that are below this cost. In reality, however, TANGEDCO is not able to collect enough cross-subsidy from high paying consumers, which severely impacts its financial health.

Subsidy levels in Tamil Nadu

In Tamil Nadu all domestic service connections have subsidised tariffs. The first 100 kWh, on a bimonthly basis, are free of cots. The State Government reimburses TANGEDCO for these 100 kWh at INR 2.50 per kWh, whereas the actual cost of supply is around INR 8.00 per kWh. For bimonthly electricity consumption above the first 100 kWh, a progressive slab system – the higher the consumption, the higher the applicable tariff, is in place. The table below shows for different levels of bimonthly energy consumption the cost of supply, the Government tariff subsidy, the bill amount payable by the consumer, the cross subsidy and the total of subsidies.

It may be noted that although the Government tariff subsidy is less than 50% for bimonthly consumption above 500 kWh, the total subsidy (with reference to the actual cost of delivered energy) is high on account of the cross-subsidy component. On the higher-end, a domestic consumer with a bimonthly energy consumption of 1,000 kWh effectively pays INR 5.08 per kWh, which is 36.75% lower than TANGECO’s actual cost of supply, and receives a total subsidy (subsidy and cross subsidy combined) of INR 2,920 per month. A low electricity consuming household, with a bimonthly electricity consumption of 100 kWh, receives electricity free of cost, these 100 kWh have a value of INR 800.

Subsidy and Income

As can be seen, the higher the electricity consumption of the household, the higher the total subsidy and cross subsidy amount received. If one were to equate higher per household electricity consumption with higher household income level, then it can be concluded that higher income households receive more electricity subsidy than low-income households. Clearly that cannot be the aim of the subsidy scheme. There are 130 lakh domestic consumers with a bimonthly electricity consumption of less than 400 kWh (consumers in Slab 1 and Slab 2 of the current domestic tariff system). Assuming an average monthly income of INR 25,000 for low income households, the bimonthly electricity bill as a percentage of bimonthly income is in the range of 1.6% to 4.74%.

 

In the FY 2019-20 the State Government of Tamil Nadu allocated a total subsidy amount for domestic electricity consumers of INR 3,073 Crore. This represents 1.16% of the State’s total budget expenses for the same year. 17% of this subsidy amount was spent on domestic electricity consumers falling in Slab 1, 35% of the subsidy went to the consumers falling in Slab 2, 40% to Slab 3 and 8% to Slab 4 consumers. Per household allocation shows a similar trend, the subsidy tends to benefit households with higher energy consumption more than households with lower energy consumption. Slab 1 consumers received an average of INR 735 Government subsidy in FY 2019-20, whereas all the other consumer slabs received INR 1,500 per year, or more. 

Considering the above some major changes are called for. Firstly, the current tariff mechanisms, subsidy, and cross subsidy approach is to be redesigned; and cross subsidies need to be phased out altogether. At a time when TANGEDCO is reeling with mounting debts (INR 79,630 cores in FY 2017-18 which represents about 30% of the State’s annual budget provision for this year) a solution for phasing out cross subsidies is urgently required.  Secondly, energy subsidies should be provided to low-income households only, and are best disbursed with a direct cash benefit transfer to the consumers bank account.

If the State were to stop electricity subsidy for the domestic consumer Slabs 3 and 4, it would save INR Crore 1,459 per year. This amount could be utilized to transition low-income households to rooftop solar. Such an approach would help the State to meet its solar energy target, create jobs in the solar installation and manufacturing sector, and contribute to the State’s long-term energy security and climate change targets.

Auroville Consulting
a unit of the Auroville Foundation

Help us solarise 100 villages in India by 2030
Subscribe to Solse and set it as your default search engine