Understanding cost-reflective fuel, electricity tariffs
Published On December 8, 2021 » 2445 Views» By Times Reporter » Business, Columns
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COST reflective fuel and electricity tariffs is an issue that Zambia has been grappling with for over a decade.
Think of it, soon after being elected as Republican President in September 2011, the late Michael Sata removed K500 on price of fuel noting that this was the cost of corruption in the procurement process of imported fuel.
It’s even more interesting to note that just two years later, the late Mr. Sata on 2 May 2013 removed subsidy on petroleum products.
Mr. Sata said it is necessary that the subsidy on petroleum products and consequently adjusted upwards the cost of fuel.
Mr Sata said in 2012 the treasury redirected resources amounting to K754 million from implementation of other programmes and activities in the budget to finance the fuel subsidy.
The late President further noted that up to the first five months of 2013, in the 2013 budget, government had already paid a sum of K571.5million in fuel subsidies and a further K1.1 trillion would be paid later in the year in subsidies if no adjustment was going to be made to the price build up or the pump price.
For now, let’s leave this one, alone!
As alluded in the previous article, I have been privileged to interact with Bernard Tembo, a renowned researcher and energy-sector expert in Zambia.
I must say, Dr. Tembo is a generous and selfless expert that is courteous and always willing to share their know-how with the public for the betterment of the country.
Essentially, Dr. Tembo has over the last two weeks shared invaluable insights on the nitty-gritties of cost plus fuel and challenges facing the country as regards cost-reflective fuel and electricity tariffs.
What is a cost reflective tariff?
Remarkably, a cost reflective tariff is one which reflects the true cost of generating, transmitting and distributing electricity to household, commercial and industrial consumers.
In this case, a non-cost-reflective tariff, as is the case in Zambia is one where Zesco charges a lower tariff to consumers while it pays a higher cost in generating or acquiring, transmitting and distributing the commodity.
Therefore, the economy is heavily reliant on Government to subsidise the shortfall between the current tariff and the true cost of supply of electricity.
Therefore, the Zambian Government pays the difference between the tariffs customers pay and the actual cost of the fuel and electricity.
This could be seen from last November’s ‘Tom and Jerry chase’ chase between Oil Marketing Companies (OMCs) and the Zambian Government.
OMCs threatened to stop importing fuel into the country citing that the business of importation of fuel had become unprofitable and therefore not commercially viable.
This was because between December 2020 and October 2021, the prices of petrol and diesel on the global market had increased by a whopping 89 and 76 per cent, respectively.
Notwithstanding the increase in oil prices in this period, the Zambian Government did not effect a corresponding increase in the pump prices to reflect the cost.
Following on, in January 2021, former Finance minister Bwalya Ng’andu suspended value-added tax (VAT) on diesel and petrol by issuing Statutory Instrument number 125 of 2020.
This was to avert an expected price increases in petrol and diesel.
Remarkably the first cost of electricity study was conducted in 2006.
Since then, Zesco has made over five tariff applications to the Energy Regulation Board (ERB) to authorise increase in tariffs.
ERB has in this period subsequently approved average tariff increases of 27 per cent, 35 per cent, 26 per cent, 16 per cent, 75 per cent in 2008, 2009, 2010, 2014, 2017 and the whopping 200 per cent for domestic consumers and 49 per cent for commercial consumers in 2019, respectively
What would be the effect of a once and for all hike in electricity tariffs on customers?
On the other hand, what’s the effect of the continued use of subsidies to cushion the Zambian public on fuel and electricity tariffs?
According to Dr. Tembo, non-cost-reflective tariffs create a bigger problem on attracting investment in power generation in Zambia’s electricity generating sector.
Dr. Tembo further notes that the purpose of Cost-reflective rates is to:
i. Ensure Zesco is able to reinvest in electricity power generation
ii. Encourage private sector participation in the electricity power generation
iii. Facilitate regional integration
Ironically, Independent Power Producers (IPP’s) produce 20 per cent of the country’s power supply while Zesco produces the remaining 80 per cent.
Additionally, IPPs charge 7 to 12 cents per kilowatt hour while Zesco charges 4 to 6 cents per kilowatt hour to its customers.
Following on, When Zesco is importing electricity power, it either pays higher rates than what it charges its customers while at the same time Zesco pays its suppliers in this case in dollars while receives revenue at lower rate in kwacha.
With the frequent rate in the depreciation of the Kwacha in the recent years, Zesco incurs foreign exchange losses.
This is where the quagmire lies!
On the other hand, the current electricity generation plants are old and amortised.
Therefore the current level of tariffs –difficult for Zesco invest in new technology.
Over the years, the demand for electricity has been rapidly growing while Supply remained almost constant.
Even with recent additions of solar projects from the Lusaka south Multi-facility economic zone (MFEZ) at Nangwenya and Bangweulu with cost rates of
7.84 cents per kilowatt hour, the non-cost-reflective tariffs are inadequate to pass on the economic benefits to the country.
On the other hand, subsidies play a key role both to producers and consumers.
Imagine a situation where Zambian manufactured goods are fetching higher than imported goods!
Removing these subsidies will increase the cost of production, reduce profitability, growth and job creation. It also pushes up the cost of living.
Imagine the removal of Excise duty on edible oils which was made by the Government prior to 12 August 2021 came to end and the cost of edible oil has to be increased!
Cost reflective pricing in fuel depends on price of oil, the exchange rate and the pricing regime.
If the pricing regime is unstable one – that is, one where fuel prices are changing frequently to reflect the true cost of fuel, the more cost-reflective the price of fuel will be.
Furthermore, the stable the fuel price is as in the case of the situation in Zambia, the more the subsidies the Government will need to maintain the fuel price and the further the economy is from cost-reflective fuel pricing.
For comments e-mail: ntumbograndy@yahoo.com Mobile +260977403113 +260955403113

The author is the Managing Consultant at G. N Grant Business Consultant, a Chartered Certified Accountant (ACCA), a Master of Business Administration (MBA) holder, with a Specialism in Strategic Planning, and a candidate for the Herriot Watt University (Scotland) Doctor of Business Administration (DBA)

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