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Sri Lanka’s CCP demands end to ruling circular debt amid forex crisis

By on January 15, 2022 0

ECONOMYNEXT – Sri Lanka’s state-run Ceylon Petroleum Corporation is seeking to end the island’s power utility “circular debt” as utility losses from price controls land on the oil company as an unpaid debt.

Sri Lanka faces sporadic power outages in January as the utility runs out of fuel with a 300-megawatt coal-fired power station out of commission, while its debt to the CPC rises due to losses.

Losses are then financed by borrowing from state banks or suppliers.

Circular debt

Energy utility debt increases every time the Central Bank prints money to keep interest rates low, which also causes currency shortages and eventually the currency to collapse, adding to losses and endless “state enterprise price reforms”.

In countries with loose dollar pegs that print money and run into currency crises and end up in the International Monetary Fund, “circular debt” between oil and power utilities and electric utilities and independent power producers continues to accumulate in each credit cycle.

Utilities losses mount as the Fed prints money and drives up energy prices under loose policy. As the Fed later tightens policy, a loosely pegged central bank’s currency plummets, adding more losses to electric and oil utilities.

Energy prices are then raised as part of “state enterprise price reforms” and two to three years later the central bank prints money again to keep rates low and the rupee falls back , driving endless “price reforms” amid currency crises.

In the absence of the political will or knowledge to reform the central bank to curtail the arbitrary powers of the Monetary Board to keep rates low, the cycle keeps repeating itself, with the currency peg typically breaking down whenever the US Federal Reserve tightens its policy – which is usually every 4-5 years.

Pakistan and Sri Lanka, which have the worst central banks in the region, are the main victims of circular debt.

Sri Lanka is once again facing a shortage of foreign currency as money is printed to keep interest rates at 6.0%, half the 12.1% inflation seen over the past 12 month ending December 2021.

Most of the money is now printed to sterilize foreign exchange market interventions to remove fuel and other items (giving reserves for imports).

Sri Lanka’s central bank inflation is currently just that of the State Bank of Pakistan.

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In Sri Lanka, however, the losses now come mainly from the electricity sector and not from the fuel sector, which has seen two price increases, despite the current administration coming to power on the basis of a promise to fix fuel prices.

Sri Lanka’s electricity regulator has failed to raise Ceylon Electricity Board tariffs or put in place a mechanism to pass on higher fuel costs when liquid fuel power plants are used or global prices increase.

Sri Lanka has also blocked a cheaper coal-fired power plant, in part encouraged by renewable energy campaigners, undermining the utility’s long-term generation plan and plunging the country into crisis, critics say.

The lack of price increases in recent years to compensate for the loss of the coal-fired power plant has further strained the CEB’s finances.

In an unusual cascading policy mistake, repeated in Sri Lanka, CPC has in the past funded its losses with dollar debt when the central bank prints money to create currency shortages, the utility also being prohibited from buying dollars.

As a result, the CPC has suffered massive “Nick Leeson losses” every time the currency crashes due to money printing. During the 2018 money printing cycle, it racked up dollar debt when the central bank printed money and a massive foreign exchange loss when the rupee crashed.

Energy prices

Unlike the regulated CEB prices, the CPC whose prices are under the control of the Treasury made multiple price hikes as money printing depreciated the rupee and world prices rose in the meantime.

In the past, the CPC has also maintained the fixed price of heating oil at the CEB, when world prices have fallen.

The CEB has payment arrears of 91 billion rupees to Ceylon Petroleum Corporation.

“By April to May 2020, the CEB had to settle around Rs 86 billion for the fuel it purchased,” CPC Chairman Sumith Wijesinghe told reporters.

“With the Covid situation, the Ministry of Finance provided 50 billion rupees to the CEB to settle its debts. The CEB used some of this money to settle the debt to us and with this the debt decreased to around 41-45 billion rupees in 2020.

“But in 2021, with the amount they bought on credit, they now have a debt of 91 billion rupees to CEYPETCO. We discussed how they can fix this. But now we are discussing how to get the diesel to the CEB.

Wijesinghe said that, despite the debt, CEYPETCO will supply the amount of diesel needed to generate electricity for the next four days; however, they have asked the CEB to provide money to buy the diesel they want in the coming weeks.

“Today, to import a liter of diesel, it costs 146 rupees. But we sell it at 121 rupees even for CEB. So we have a loss of Rs 25 per liter when selling,” Wijesinghe said.

“The CEB also operates at a loss when it sells electricity. So they have to calculate how much money is needed to import diesel and the loss that the two public companies will suffer.

Wijesinghe said CEYPETCO supplies 1,500 metric tons of diesel per day for power generation.

No original plan

However, the state-run Ceylon Petroleum Corporation said CEB did not initially request heating oil in January 2021. CPC had previously closed its refinery saying heating oil was not needed .

“CEB’s plan for January 2022 was to generate electricity through hydro, solar wind and coal,” Ceylon Petroleum Corporation Chairman Sumith Wijesinghe told reporters.

“It was their expectation. However, with the sudden outage of the Norochcholai coal-fired power station, 300 megawatts of power was lost to the main grid.

“To achieve this, they had to start the Kelanitissa power station. This is why the demand for fuel has increased.

Sri Lanka has faced sporadic power outages as fuel from the Kelanissa combined cycle power plant ran out. On Tuesday, a gas turbine also tripped due to suspected low fuel pressure.
(Colombo/ January 14, 2021)