Business

Ticklish issues in oil product pricing

The value-based duty may have fetched handsome revenue in near-term but the likely adverse fall-out of an oil price rise on production and consumption in other sectors of the economy in the long-run cannot be ignored.

THE MANAGERS of the Indian economy are in a quandary. The inflation rate is continuing its upward march to scale a 41-month high of 7.61 per cent for the week ended July 31. For the earlier week, the rate was 7.51 per cent. The rise in inflation has taken the monetary authorities, political mandarins and government managers off guard. They are now engaged in a series of confabulations on measures to rein in the rising inflation number.

A major factor that is bound to push up the inflation in the coming weeks is the runaway increase in retail prices of petrol and diesel. (The impact of the August 1 hike in prices for these two products will be available when the price index for the first week is announced at the week-end). Surely, India has little or no control over global oil prices. The fact of the matter, however, is that the escalating global oil prices will lead to imported inflation in India.

No doubt, the authorities did hit upon a mechanism to address any contingency on the oil price front. The price band system, introduced in July, was essentially conceived to cushion the effect of the oil shock. The system proved a partial successful, however. There was a price increase on July 31. The next fortnightly revision is imminent. Nevertheless, it has already sunk deep into the minds of all concerned that the rising world oil prices have indeed stretched the price band and made it unworkable. The price band mechanism appears to have ended abruptly before it could even begin.

Main stakeholders

There are three principal stakeholders in this highly sensitive issue of petroleum product pricing. They are the government, public sector oil refining and marketing companies and the consumers at large. The effects of the crude price increase have to be shared by these parties in varied financial terms. At another level, pricing of petroleum products has proved a very complex affair.

Until March 2002, there was this administered price mechanism (APM). Ever since it was dismantled, oil companies were allowed the leeway to sell their products at market-determined prices. These are guided by import parity. Consequently, retail prices in the domestic market tend to fluctuate in tandem with global crude price movements. Local crude producers such as ONGC and Oil India charge world market price even for the crude produced in India. This forces the refining companies to charge higher product prices. For the product marketing companies, however, the Government's action in freezing prices at January 2004 levels has come as a major setback. This is partly mitigated after the price band came into effect in July.

In the administered pricing mechanism, the pool price of crude was taken. This was the weighted average of world and indigenous prices. Product price adjustments helped to keep the prices of some items lower and some others higher than the actual prices based on cost. No such cushioning is available after the APM was dismantled. Given this, what is the way forward. Perhaps, it is time the Government took a careful re-look at the indirect taxes on petroleum products and applied meaningful course corrections.

E.V.Kuppuswamy, who retired as Regional Manager (planning and co-ordination) from Indian Oil Corporation, provides some interesting statistics. Out of every 100 tonnes of crude refined, 6.55 tonnes goes waste and 93.45 tonnes come in product form. Light distillates (comprising motor gasoline, naphtha and light diesel) form 18.9 per cent (17.70 tonnes) of the product refined, middle distillates (aviation turbine fuel, kerosene and high-speed diesel) 52.90 per cent (49.40 tonnes) and heavy ends (furnace oil, bitumen, waxes and the like) form 28.2 per cent (26.40 tonnes). Significantly enough, motor gasoline accounts for 30.7 per cent (5.40 tonnes) of light distillates. Kerosene accounts for 35.7 per cent (17.60 tonnes) and high-speed diesel 61 per cent (30 tonnes) of middle distillates.

The Government has all along taxed petrol heavily and cross-subsidised kerosene. Mr. Kuppuswamy wonders how much additional tax can be borne by 5.4 tonnes of motor gasoline to keep 17.6 tonnes of kerosene and 30 tonnes of high-speed diesel cheaper. The taxation policy, he reckons, has resulted in artificial preference for diesel. Out of 100 tonnes of crude refined, only 30 tonnes of diesel can be produced. Perhaps, relative cheapness of diesel is the reason for car companies moving towards diesel engines. And the low price of kerosene has led to its adulteration of HSD and petrol. All these have only ensured that kerosene did not reach the poor in adequate quantity as envisaged by the Government under its taxation policy.

What then is the solution? The answer perhaps lies in returning to the pool account system. Of course, this can at best be an interim measure. This is bound to force domestic crude suppliers to pare prices, providing some relief to the marketing companies and consumers alike in the near-term. More than this, a permanent way out can come only from the Government.

For the Government, petroleum products are a major source of revenue by way of customs and excise duties. The way it shifted duties from specific (volume) to ad valorem (value) basis tells a tale of its own. There is need to seriously consider going back to the specific duty structure. It is ironic that even as the common man is reeling under the impact of increasing oil prices, the Government's coffers are fast filling! The value-based duty may have fetched handsome revenue in near-term but the likely adverse fall-out of an oil price rise on production and consumption in other sectors of the economy in the long-run cannot be ignored. What is worse, the value taken for charging the duty can also include railway freight, which is built into the prices of petroleum products ex-upcountry depots. If New Delhi can do it, why can't the State governments?

With the Left parties taking a strident stand on oil the price increase, the right course will be to rationalise the duty structure so as to cause minimum pain on all concerned.

After all, the current escalation in prices is more to do with politics and less with cost economics. Once the veil of political uncertainty lifts, perhaps prices too may cool off.

K. T. Jagannathan

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