The denominator challenge: Navigating Pakistan’s energy crisis

Pakistan’s energy sector is facing unprecedented challenges, with rising electricity tariffs playing a central role. At the heart of this crisis is what can be described as the “Denominator Challenge“— a shrinking base of paying consumers, which exacerbates the already high per-unit cost of electricity. Coupled with fixed capacity payments, this creates a cycle of escalating costs and economic strain that threatens to deepen Pakistan’s energy and financial woes.

Capacity payments— fixed costs paid to power producers regardless of actual electricity demand— are a significant issue plaguing Pakistan’s energy sector. These payments have been steadily rising, as high as 60-70 percent of the total cost of electricity production. This burden is particularly pronounced because, as good paying and industrial consumers transition off-grid, the base of remaining grid-connected consumers shrinks. These off-grid consumers, driven by rising electricity prices and unreliable service, are increasingly turning to solar and other renewable energy solutions.

As a result, the “denominator” of grid-reliant consumers becomes smaller, while the costs of capacity payments remain fixed. This leads to an increase in the per-unit cost of electricity for those still connected, many of whom are lower-income households that cannot afford to adopt off-grid solutions. The capacity payment system, which was initially structured to ensure energy availability, is now amplifying the financial strain on Pakistan’s energy sector.

Pull-quote: Both new generation and transmission projects with well-defined roadmaps will be well perceived both by local as well regional investors from Saudi Arabia, UAE and Qatar. 

- Ayla Majid 

Rising tariffs in Pakistan are partly driven by global factors, such as the increasing cost of imported fuels and the depreciation of the Pakistani rupee. In 2023 alone, electricity tariffs increased by 26 percent, directly impacting consumers. Many households, particularly those with lower incomes, are finding it increasingly difficult to afford basic energy needs, with electricity bills taking up a larger share of their disposable income.

While Pakistan is struggling with these issues, countries in the broader region, such as the UAE and Saudi Arabia, are investing heavily in renewable energy projects to diversify energy sources. Although Pakistan faces different economic constraints, these regional investments demonstrate the potential for reducing long-term energy costs and bringing a balance in the energy mix through a focused shift toward renewables.

Solar energy adoption through net metering has become one of the few escape routes for some residential and industries consumers who have the affordability. Net metering, introduced in 2015, allows solar users to sell excess electricity back to the grid, offsetting their electricity bills. By 2024, Pakistan has added approximately 1200 MW of solar capacity through net metering, with 700 MW added in the current year alone. Solar solutions have become increasingly attractive as grid electricity prices continue to rise.

However, this shift toward solar energy creates its own challenges for the national grid. As wealthier consumers move off-grid, the financial burden falls increasingly on those who cannot afford to transition, further deepening the inequities in energy access. The result is a vicious cycle: fewer grid-connected consumers must bear the fixed costs, leading to higher tariffs, which push more consumers to adopt off-grid solutions.

The industrial sector has been hit hard by rising energy costs as well. In Pakistan, industry accounts for about 28 percent of electricity consumption, making it a key driver of economic activity. However, with rising tariffs, many industries are struggling to remain profitable, and some have scaled back or even shut down operations. This reduction in industrial energy demand further erodes the base of grid-connected consumers, compounding the financial difficulties faced by the sector.

For lower-income households, the effects of rising energy prices are particularly harsh. Many are being pushed to the edge, as electricity becomes a luxury rather than a necessity. This not only reduces quality of life but also undermines economic mobility, as affordable energy is essential for both household productivity and small businesses.

Addressing Pakistan’s energy crisis requires urgent reforms. In the short term, the government should consider targeted subsidies and financial support for the most vulnerable consumers. More equitable pricing mechanisms, where tariffs reflect actual consumption patterns, could help alleviate the burden on low-income households.

In the midterm, Pakistan must diversify its energy mix by increasing the share of renewables in its grid. Investments in solar and wind energy could bring down the overall grid basket price and reduce dependency on expensive imported fuels, which can be achieved through a planned scheme of new generation through auction based mechanisms to get the best market price. 

Additionally, efforts to modernize the grid and reduce transmission and distribution losses will be key to improving efficiency and reliability. Both new generation and transmission projects with well-defined roadmaps will be very well perceived both by local as well regional investors like those from Saudi Arabia, UAE and Qatar among others.

Pakistan could also leverage carbon trading and offset mechanisms to fund further investment in renewable energy projects, fostering a greener, more sustainable energy future. 

Another silver lining is opening a door for significant green jobs. According to the World Bank, Pakistan could generate 300,000 jobs through investments in renewable energy by 2030. This includes 190,000 direct jobs and 137,000 indirect jobs, providing an additional economic benefit that could help alleviate poverty and boost economic growth.

By creating a well-defined road map Pakistan certainly has all the right reasons to come out of the prevailing energy sector challenges. 

- Founder & CEO of Planetive, with financial advisory and governance experience across energy and infrastructure sectors. Sits on many local and global boards. Sustainability advocate. Serving on the Global Future Council on Energy Transition of the World Economic Forum. Young Global Leader - WEF. Eisenhower Fellow. Tweet @AylaMajid