Arvind Kejriwal, current Chief Minister of Delhi since 2015, recently announced his ‘Free Lifeline Electricity’ scheme to provide free electricity to consumers in Delhi. Under this scheme, residents consuming less than 200 monthly units will get 100% of their electricity bill subsidised by the government, and those consuming between 201 and 400 units will continue to get a 50% rebate. Kejriwal’s Aam Admi Party (AAP) has set aside approximately INR 1,800 Crore (USD 250 million) in the 2019-20 budget for this initiative wherein power distribution companies (Discoms) shall directly be reimbursed to compensate for the reduction in consumer payments.

Critics claim that the scheme is simply a political play to garner support in light of the upcoming Delhi state assembly elections in February of 2020. In light of the recent free provision of metro travel for women in Delhi, Supreme court Justice Misra has already warned the AAP government, “if you (the government) will give freebies, we (Supreme Court) will stop you”. Supporters of the move, however, underline that electricity should be affordable as a fundamental right to all. Given the complex nature of this situation, it is worth taking a closer look at what the potential ramifications are for the broader ecosystem.

Undeniably, domestic consumers will be better off under this subsidy. In fact, Kejriwal announced that at least a third of Delhi’s population shall be covered by the scheme, which may go up to 70% in the off-peak winter months when average consumption is at its lowest. With 2019-20 being the fifth consecutive year of tariff reductions, Delhi now boasts the lowest average domestic electricity prices in the country. A domestic consumer with a sanctioned load of 2 kW can now consume 350 units at the same cost that they would have otherwise paid for just 250 units last year (and approximately 180 units in 2013).

On the other hand, cross subsidies by domestic consumers in higher brackets, and commercial and industrial (C&I) consumers will likely increase. Faced by further tariff hikes, C&I consumers may react by either lowering their consumption of energy (and therefore productivity), switching to captive generation/ open access options, or voting with their feet by relocating – thereby potentially causing capital flight out of Delhi. Now that national efforts towards privatisation of the electricity sector are burgeoning, the long-term sustainability of Kejriwal’s scheme does come into question.

The effect on Power Distribution Companies will be two-fold. Operationally, providing free electricity could encourage consumers to increase their monthly consumption – though they will still be limited to a maximum of 400 units if they wish to avail subsidy benefits. The scheme may, therefore, incentivise increased consumption and wastage, putting a greater load on a grid that already struggles with provision of reliable 24×7 power.

One may conversely argue that consumers just above the cut-off to qualify for the subsidy could consciously reduce their consumption to be under the limit. It could be safe to assume that since the capacity of a consumer to increase their usage is limited by both the 400 unit limit as well as the requirement for additional appliances (once the option to use existing fixtures for longer durations has been exhausted), there is a higher likelihood that savings/ reduction will outweigh any increase in wastage. It is still too early to say what the overall effect will be, but Discoms should be prepared to adjust their supply of electricity accordingly either way.

Financially speaking, there is precedent for Discoms to harbour concern about payment security as State and Central Government counterparties have been known to delay subsidy payments. Utilising a Direct Benefit Transfer mechanism could prove useful to ensure that Discoms receive their dues directly from customers in a timely manner, though that does reduce the psychological impact of the proposed zero-bill approach for a large vote bank.

Delayed payments can add a heavy burden to already-ailing Discoms as it reduces liquidity and forces them to opt for high-interest loans to meet working capital requirements. Despite the provisions in the Electricity Act (2003) made for advance subsidy payments, delays are “commonplace, leading to strain in Discom finances”. Power Minister R K Singh has gone on record to say that “The only difficulty in this (24×7 power for all) is losses to some distribution utilities. They don’t have the money to pay for power.”

Kejriwal countered this argument by stating figures suggesting that Delhi’s Discoms have shown marked improvement in their efficiencies (both technical and financial) over the past few years. Low tariffs, Kejriwal contends, have mainstreamed small consumers and simultaneously incentivised fiscal discipline by the Discoms – who for years succumbed to “incentivised inefficiencies”. Given the high barriers to entry and subsequent rent-seeking opportunity for incumbent market players, he argues that privatisation at this moment will detract from Delhi’s unique model that is “both pro-people and pro-industry inefficiencies”.

With payment delays being a significant risk to Discoms, the new tariff structure may increase the associated risk perception of capital providers, who will now be wary of offering loans to ecosystem players. Electricity Generation Companies (Gencos) that typically rely on the robustness of their Power Purchase Agreements (PPAs) with Discoms to secure project financing will now likely face higher costs of capital by association. Indicative of the reality of this payment risk, the national total outstanding amount owed by Discoms to Gencos currently stands at INR 73,425 crore (roughly USD 10.3 billion). At a time when power sector investments are being dampened by India’s economic slowdown and bearish market signals (caused in part by contract renegotiations in Andhra Pradesh, NPAs in the power sector, and the poor financial health of most Discoms), this could adversely affect the supply of investment-worthy power generation projects to match Delhi’s grid expansion plans in the short-to-medium term.

Finally, and arguably most importantly, this scheme has far reaching indirect impacts through the signals it sends out to the broader policymaking system. Tariff-setting is supposed to be the responsibility of the Delhi Electricity Regulatory Commission (DERC) – a purportedly independent regulatory authority. Yet, not only is the Kejriwal led government taking credit for keeping tariffs low, they are actively challenging the BJP to follow suit in other states.

The AAP government stands firmly by its ‘Free Lifeline Electricity’ scheme. Deputy Chief Minister Manish Sisodia was recently quoted saying “Every family deserves a life of dignity…a basic quantum of electricity…at home is essential for that.” Despite the obvious benefits, it is important to recall lessons learned from the provision of free electricity to agricultural consumers – a deeply political issue that has been, in part, a cause of the poor financial health of Discoms today. Politically speaking, it is near impossible to roll back subsidies of this magnitude. Now with UDAY 2.0 looming over the horizon, one wonders about the long-term compatibility of the Free Lifeline Electricity scheme and the Central Government’s push for eventually unbundling/ privatising the sector.

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Raghav Anand works as a Senior Program Manager for Clean Energy Finance at Shakti Sustainable Energy Foundation.