New Delhi, Jun 21 (IANS): The government Friday approved a mechanism under which power companies can hike electricity price if the cost of imported coal goes up.

The Cabinet Committee on Economic Affairs (CCEA), chaired by Prime Minister Manmohan Singh, approved the new mechanism at a meeting here.

Finance Minister P. Chidambaram told reporters after the meeting that the rationale behind the decision was to improve power generation by ensuring adequate supply of coal to the firms.

"There will be a small increase in power tariffs,” Chidambaram said.

The finance minister said Coal India will do the bulk of the imports and supply it to power firms on a “cost-plus” basis.

However, power companies can also import coal on their own. They will be allowed to adjust the prices depending on the import cost.

Chidambaram said 65-70 percent of coal requirements of the power companies will be met from domestic sources.

Under the new mechanism, higher cost of imported coal will be considered for pass- through.

"Mechanism will be explored to supply coal subject to its availability to the thermal power plants with 4660 MW capacity and other similar cases which are not having any coal linkage but are likely to be commissioned by March 31, 2015, having long-term power purchase agreements and a high bank,” said an official statement released after the cabinet meeting.

Addressing an event organised by the Associated Chamber of Commerce and Industry (Assocham), Coal Minister Sriprakash Jaiswal said under the new mechanism, the entire additional cost of imports would be passed on to the consumers.

"Price of coal in India is far below the international coal prices and the same needs to be rationalised for avoiding wastage and inefficient use of the same," Jaiswal said.

To ensure adequate supply of coal, the government has directed Coal India to sign Fuel Supply Agreements (FSA) for a total capacity of 78,000 MW.

"Taking into account the overall domestic availability and actual requirements, FSAs to be signed for domestic coal quantity of 65 percent, 67 percent and 75 percent of annual contracted quantity for the remaining four years of the 12th Five Year Plan (2012-17),” the official statement said.

To meet its balance Fuel Supply Agreements obligations, Chidambaram said Coal India can import coal and supply it to the willing thermal power plants on cost-plus basis.

"Thermal power plants also import coal themselves. Ministry of Coal will issue suitable instructions,” Chidambaram said.