Covid-19 pandemic & Russia-Ukraine war: Black swans in India's gas economy

The war in Ukraine is upending the Modi government's efforts to make the creation of natural gas infrastructure and access a critical component of its economic programme

Natural gas is India’s new battleground for politicians, industries and transporters. Protests and strikes have erupted after utilities sharply hiked prices of compressed natural gas (CNG) and piped natural gas (PNG) to record levels, affecting autos, buses and households. Utilities complain over delays in allocation of cheaper domestic cooking fuel. The government is not to blame, however, and consumers must prepare for long periods of high prices as the global gas market has structurally altered in the face of the pandemic and the Ukraine war.

Let us look at what led to this transition in the gas market, which carries huge implications for India’s economy and investments this fiscal and beyond. India expected demand for gas to surge by a record this fiscal on the back of an aggressive build-up of distribution infrastructure and a resurgent economy, enabling a faster transition to a gas-led future.

Demand for gas is expected to increase 13-15 per cent in FY23, said Hetal Gandhi, director at Crisil Research. That is a big jump from the 7.7 per cent growth seen in the April-February period of FY22 to 59.6 billion cubic metres from a year earlier. 

But in absolute terms, demand for the entire fiscal may still stay flat from pre-Covid levels of 64 billion cubic metres in 2019-20.

India may use as much as 76 billion cubic metres of gas this year to power homes, factories and vehicles, according to industry estimates, but the war in Ukraine has drastically altered the energy landscape, especially for gas. Domestic consumption of gas may now grow by only around half of the more bullish double-digit estimates, said senior officials from state-run oil companies, unless prices drop. That means growth will be more at last year levels of 7-8 per cent despite possibilities of a pandemic-free fiscal.

Affordability is a key issue because India is a price-sensitive market, said R Ramachandran, an oil industry consultant and former refinery director at BPCL. Refineries and some industries may switch to cheaper low sulphur fuels from gas, Ramachandran said. Utilities cannot pass on higher gas costs to consumers and expect demand to grow, as seen in wealthier nations such as Japan and South Korea.

Demand for gas in India is driven by city gas and fertilisers, which have been steadily increasing their share of the total gas consumed over the years on the back of new distribution projects and facilities, low gas prices and government subsidies. Fertilisers accounted for 28 per cent and city gas for 24 per cent of India’s total gas use of 4.3 billion cubic metres in February, according to an oil ministry report. Crisil last month expected the use of gas by city gas distributors and fertiliser units to grow 25 per cent and 22 per cent respectively this fiscal. This is unlikely after the recent fuel price hikes.

“High gas costs will impact gas utilities volumes,” said Aditya Bansal, an analyst at Nomura. If city gas is affected, overall gas use will drop. Gujarat Gas, a leading gas distributor, recently restricted industrial PNG volume supplies amid high prices for Liquefied Natural Gas (LNG), which is imported.

The stakes for India have increased after Indian companies committed investments of over Rs 2 trillion in gas infrastructure projects, seeking to connect homes and factories to gas grids. These decisions were made in a benign gas environment when domestic APM (administered pricing mechanism) gas rates — molecules from conventional areas — were $2-$3 per million British thermal units (Btu) and global LNG prices were less than $10 per million Btu.

The pandemic and the Russian invasion of Ukraine upended those calculations as spikes in global demand elevated energy use, pushing up spot LNG prices eightfold late last year from the pre-pandemic levels. Prices exceeded $40 per million Btu after Europe bid aggressively for LNG cargoes to reduce reliance on Russian pipeline gas.

LNG prices beyond $22-25 per million Btu are unsustainable, said Petronet LNG group general manager Rakesh Chawla. India will see demand destruction at high LNG prices, said Rajesh Mediratta, CEO, Indian Gas Exchange.

A structural change for the global gas market promises to keep LNG rates elevated for years, threatening the interests of countries like India. India imports over half of its LNG needs and there is little it can do other than cutting consumption — LNG imports may decline by 3 per cent last fiscal. Utilisation of Dahej, India’s biggest LNG import facility, will fall to less than 85 per cent this fiscal from over 100 per cent in pre-Covid times, amid elevated prices, an industry official said.

High LNG rates also threaten the prospects of three new LNG facilities of 15 million tonnes a year coming up by 2023 — as against India’s annual LNG imports of only 26 million tonnes and 42.5 million tonnes of existing import capacity. Utilisation of facilities will be sub-optimal this fiscal from an average 63 per cent last year, Crisil said.

Of greater concern is the sharp spike in state-set domestic gas rates, adjusted biannually. In the past, city gas and power plants benefited greatly from cheap domestic supplies. But the government more than doubled prices from APM gas areas, India’s biggest source of domestic supplies, to $6.1 per million Btu for the April-September period. Prices may rise to $11 per million Btu in the October 22-March 23 period, according to Nomura.

The sharp hikes have fuelled street protests. City gas companies increased CNG prices by over 55 per cent in one year, and PNG or cooking gas rates rose by over 30 per cent, prompting scores of transporters to call for a two-day strike in Delhi this week. Auto drivers have demanded a subsidy of Rs 35 per kg on CNG, nearly half of current rates, or higher fares. New Delhi cannot afford more subsidies while fare hikes are politically sensitive.

Prime Minister Narendra Modi’s government made creation of natural gas infrastructure and its access a centrepiece of its economic programme, driving growth, investments and jobs. That promise is now threatened by global black swan events.