Deregulation of Oil Prices in India

Raghu is a clerk by profession who lives with his wife and two daughters. He uses the city bus services to commute daily to his office. Though not highly educated, he loves going through the newspapers to keep him abreast of the latest happenings. He is especially fascinated by the news related to the ‘aam aadmi’ (a typical middle class person; the new rage amongst the TV channels and politicians). He was happy that the government was making special efforts to keep oil prices in check so that people like him could benefit. The efforts of the central government had helped him keep his household expense viz. LPG cylinder, bus tickets etc in check. 

But he was surprised how his neighbour Rajesh, a businessman, could afford the latest gas guzzling cars when the government was finding it so tough to keep the fuel prices in check. In order to satisfy this curiosity, he asked this question to Rajesh. Rajesh replied, “In the existing scenario when the international price of crude oil is constantly threatening the 100$ (per barrel) mark and in India you could still afford it for Rs 50 per litre, why not make the most of it?” After replying, Rajesh sped past him in his latest SUV. Raghu was puzzled. Was the government step really pro-aam aadmi or was it bad policy? For the past few days the news related to a panel headed by a gentleman named Kirit Parikh has caught his attention as it is related to “deregulation” of oil prices in India. He wonders what this topic is all about and how does it affect an average Indian? Let’s try to answer his question.

First of all, let’s define “deregulation”. Deregulation (in this case) is the act of doing away with the government administered price regime and replacing that with a market determined one. Why has the issue of deregulation of oil prices in India gained so much attention lately? For this we need to understand the present context. India relies on imports for more than 75 percent of its energy needs and the government sets fuel prices to cushion the poor from high international price. The existing prices (Delhi) for the common fuel are: Petrol Rs 44.63 a litre, Diesel Rs 32.87 a litre, 14.2-kg LPG cylinder Rs 281.20 and kerosene Rs 9.09 per litre. At these prices, the Indian Oil, Bharat Petroleum and Hindustan Petroleum are estimated to lose Rs 46,030 crore in revenues this fiscal. As per the current policy, the revenue loss on petrol and diesel is met by upstream firms like ONGC. Of the Rs 31,574-crore revenue loss expected on LPG and kerosene, the government has so far given Rs 12,000 crore. For a country battling fiscal deficit, it only but worsens the situation.

So, are the international crude oil prices, currently at 70$ per barrel, artificially high (due to speculations) or it is a case of supply-demand mismatch? It seems the latter explanation is closer to reality (anyways we are the price takers). So, we can say that the policy is just not sustainable. Similar concerns are raised in the recently submitted report by the panel headed by Mr. Kirit Parikh. The report goes on to suggest freeing up of petrol and diesel prices, raising LPG rates by Rs 100 per cylinder and kerosene by Rs 6 a litre. By current estimates, deregulating auto fuel pricing would result in a hike of Rs 4.72 a litre in petrol prices and a rise of Rs 2.33 per litre in diesel rates.

So, what are the pros and cons of deregulation of oil prices? Let’s try to enumerate them.

Pros (Advantages)

· It will help us bring down the current fiscal deficit (the raging obsession) which we all know would go a long way in improving our credit ratings and thus help in attracting foreign investments.

· It will help our PSUs (public sector units) remain competitive. After all we intend to divest them in order to fund our social sector initiatives and it’s a no brainer, when will these initiatives fetch better prices.

· It will help in arresting downward revision of credit ratings of PSUs like Indian Oil’s by S&P citing declining cash flows caused by delays in government compensation for selling fuels below cost (source Bloomberg).

· It will restore the competitiveness of our private sector firms like Reliance, Essar who have been literally driven out of the retail business of oil as they can’t afford to sell at such low prices.

· Deregulation will lead to a more equitable sharing of inflation burden, affecting mostly people who can pay (remember Rajesh).

· Alternative measures to counter fiscal deficit like taxation and borrowings affects everyone including the poor and farmers.

· With the oil prices unlikely to come down in near future, it makes more sense to pass the burden of price rise on to the customer else it could become a bottleneck that is structural rather than cyclical in nature and thus become hard to tackle (hope we are wiser by the experiences of fertilizer subsidies). There is just no escaping

· With the recent social initiatives like NREGS, the per capital income of the rural India has gone up so they are in a comparatively better position to absorb the price hikes esp. Kerosene.

· With the oil prices at 70$ per barrel, down from the dizzying heights of 147$ per barrel, it is the case of ‘now or never’ as the price hikes would be much more manageable.

· It might just prove to be shot in the arm for initiatives that are aimed at saving petroleum resources (scarce in nature) and prove a boon for hybrid cars or battery operated alternatives.

· Steps towards deregulation would be taken as a progressive reform by the market and will send positive signals about our economy and will lead to better investor sentiments towards India.

Cons (some remedial measures have been suggested along with)

· This step would lead to higher inflation. So, we can adopt a gradual hike policy for the diesel prices as the transportation sector may be affected badly which could push the food prices further up. Similar arrangements can be made for kerosene oil prices.

· It could cause a great deal of harm to the political base of the central government (after all good economics is bad politics). So, there is all the more reason for the ‘gradualism’ approach. Add to that the PDS (public distribution system) needs to be robust to ensure transparency and effectiveness.

· Leaving everything to the market forces can have negative effects like artificial shortages, irregular pricing etc. So, it calls for transparent pricing mechanism as well as effective government role as a watchdog (as they say, ‘when the cat is away the mice will play’).

So, it seems that “deregulation” is the way forward. In a country saddled with inefficient infrastructure, inadequate health and education facilities, we can barely afford subsidies like these. Let the government take a chance. Let’s bear with it for some time. After all we as citizens of Indian deserve better utilization of the taxes we pay rather than filling in for wasteful usages of people like Rajesh. ‘Go for it now else it will be too late.’