The hike in the price of petrol and other petroleum products was long overdue. The price of petrol was officially deregulated in 2010 but oil companies were informally obliged to seek Government approval for changing retail prices. For a while the Government perhaps thought that it had got best of both worlds: it could control prices indirectly and also withdraw compensation generally offered to oil companies because petrol price was officially de-controlled. Sellers of petrol revolted and the Government had to give in. The decision was correct but the manner in which it was implemented was not.
Going by press reports, it appears that the Government looked at the issue only from a narrow tactical perspective. The Government apparently gave the go-ahead for an increase in the price of petrol when the Minister for Petroleum & Natural Gas was away in a foreign country so that ’the Government could distance itself from the decision’. Given that every man on the street could see the Government’s visible hand in the recent decision, its execution failed to meet even the low standard the Government had set itself.
The price of energy is an issue of critical global importance from an economic, social and ecological perspective and any Government which seeks to ’distance itself’ from the issue can only be called ’uninformed’. The Government should have prepared the people with a clear communication strategy to explain how energy prices are determined, where most of the energy comes from, why energy prices cannot be kept down indefinitely and what would happen if energy prices are not right. Instead the Government allowed television channels and news papers to interpret the issue as they saw fit. The result was the usual cacophony of confusion. There were also hypocritical sympathy expressed by the articulate middle class which cried with concern for the poor. The poor do not buy or use petrol nor will the increase in price feed into their consumption basket. Even if it does, affordability cannot be a criterion in setting petroleum product prices as most of the petroleum used in the country must be imported at a price set by the global markets over which the Government has no control. The middle class as always was only crying over the increase in cost of their driving pleasures.
Three features of energy differentiate it from other commodities and justify considered understanding of its price by the people and by the Government. First, most energy is derived from non-renewable mineral sources which means that the markets may not optimize their production over time. Second, energy use results in negative externalities such as pollution. Again the market may not be the best means to optimize energy use and minimize pollution. Third, energy is a key input for production on the same lines as labour, land and capital. This has important implications for the macro-economy because changes in energy prices particularly oil prices against which all energy prices are bench marked can affect aggregate output, employment, interest rates and price of other products.
India cannot be accused of ’subsidising’ consumption of petroleum products because the average Indian pays more than what even a European pays per unit of fuel, especially when measured on a purchasing power parity basis. What the Government does do is that it curtails price pass through proportional to changes in international oil prices. The Government and publicly owned oil companies absorb increase in energy prices to protect the domestic economy from volatility in international oil prices and to provide clean commercial energy, technically a merit good to all households. The situation today exposes the fact that such an arrangement cannot work indefinitely especially in a regime of rising global crude prices and falling economic output without an impact on the fiscal stability of the economy. The choice before the government today is (1) continue to restrict pass through of global increase in oil prices and destroy the balance sheets of oil companies and the national economy and (2) allow phased pass through of increase in international oil prices and live with the resulting inflation and some loss of output. The former will mean that the India’s global economic power status will be seriously dented by a ’junk’ tag apart from the fact that public sector oil companies will be driven to ruin. The latter is probably lesser of the two evils as it would force the country to adopt measures that would make it more resilient to energy price shocks.
The media also did not correctly distinguish between taxes and subsidies. India does impose heavy taxes on certain petroleum products to raise revenue. As a general principle there is no distinct fiscal rationale for a tax on energy as a source of revenue or for deficit reduction. However given that consumption of petroleum products is price inelastic in the short term, tax on petroleum is a dependable source for the Government whose gross tax to GDP ratio is a meager 10.36. The contribution of the petroleum sector to the exchequer of both the Central and State Governments was 2.8 percent of GDP in 2009-10 with more than 60 percent going to the Centre. The Government also offers cross subsidies to products such as Kerosene but this is a fraction of its revenue from the sector. In 2009-10, the total revenue expenditure on petroleum was less than 0.4 percent of GDP and 0.55 percent of GDP is oil bonds are included. Despite the fact that the tax take is much larger than the subsidy outgo, it would be wrong to argue that tax should be cut or subsidies should be sustained. Tax serves a different purpose and subsidies serve a different purpose. Apart from serving redistributive objectives, taxes on petroleum also indirectly serve the purpose of curbing their unrestrained use which is a good thing as there are limits to its availability and its use causes pollution. The question people should be asking the Government is not about withdrawal of taxes on petroleum products but about what the Government is doing with the tax revenue? Is it just using it to bridge fiscal deficit or is it splurging it on social sector projects to ensure its re- election? How is it delivering energy access to the poor? How has it improved over the years? It is not too late. Deregulation of the price of LPG and diesel must be confronted soon and the Government must prepare the people with honest, transparent and rational arguments.