Looking for reform success, Modi readies power rescue plan

India is preparing a rescue package for power utilities owing tens of billions of dollars, but Prime Minister Narendra Modi must first convince states to make politically hard choices as he seeks a victory for reforms needed to galvanise the economy.

Modi, who has had mixed success pushing through his reform agenda since coming to power 16 months ago, has prioritised tackling a problem that is stifling bank lending needed for a revival in Asia's third largest economy, three senior government sources with direct knowledge of the plan said.

Problematic utility debts account for a quarter of all restructured bank loans in India.

In total, utilities owe USD 66 billion. New Delhi has identified about USD 22.7 billion of debt held by financially stretched utilities as most at risk, one of the sources said, adding to the urgency to relieve a banking system weighed down by bad loans.

Under the proposal, New Delhi wants to persuade state governments to take over some of their utilities' debt.

In return, the electricity distributors would commit to re-investing interest savings in new lines and metering, improving billing and cutting rampant power theft, the sources said, declining to be named because the plan is not public.

To make it work, the distributors are likely to come under pressure to raise electricity tariffs for consumers used to low prices.

One top power ministry official said the proposal was "very close" to being finalised and that states with the biggest problems agreed to back it.

"The states have a very clear incentive to do this. The interest cost comes down significantly," he said.

By forcing tougher action at state level to ensure electricity is paid for and supplies are reliable, Modi hopes to avoid a backlash in parliament, where the opposition has already blocked other economic reforms this year.

Fixing power would temper criticism that Modi's government is not doing enough to improve the lives of common Indians, having made election campaign promises to replicate his success in Gujarat and deliver 24/7 power across India.

As chief minister, Modi transformed Gujarat's power sector by lowering debt and clamping down on theft. Many consumers agreed to pay higher prices in return for round the clock power.

Utilities in India's other states remain largely unreformed.

CONVINCING STATES

Though New Delhi is convinced more Indians are willing to pay for electricity if offered reliable supplies, sceptics say it will be hard to force states to make people pay, when it risks alienating important vote banks, like farmers.

"Unless you make fundamental decisions in terms of running these (distributors) based on commercial decisions, you are just postponing the problem," said Arvind Mahajan, who heads KPMG's energy practice in India.

A three-year restructuring launched in 2012 offered a moratorium on capital repayment in return for reform but failed to end losses because local governments resisted hiking tariffs and cutting theft.

There may be other costs to bear, too. The government may have to relax limits on the size of states' deficits if they are to take over distributors' debts, putting pressure on India's consolidated fiscal position as New Delhi tries to improve its finances.

Modi has made devolving political power a key plank of his agenda, confident individual states will increasingly compete to reform by themselves. After failing to pass legislation to make land purchases easier, for example, central government is encouraging states to enact their own rules.

Six states have agreed in principle to take over some of their power distributors' debts, one of the government sources said. But some others are far from convinced.

The chief secretary of Uttar Pradesh, a vast agricultural northern state with a population bigger than Brazil, said taking on utilities' 420 billion rupees of debt would reduce the state's interest burden by five percentage points but more than double its borrowings.

"We will have to deliberate a lot before taking a final call," said Alok Ranjan.