On
June 24, Union Petroleum Minister, Jaipal Reddy, announced
a package of measures relating to oil prices. Prices
of the more ''sensitive'' oil products like diesel,
kerosene and LPG were raised, while customs and excise
duties on these products were reduced or scrapped. The
latter was ostensibly aimed at reducing the impact of
the price increase on the final consumer by absorbing
a part of the increase in the form of reduced government
revenues. Yet, in the city of Delhi, for example, prices
of diesel rose from Rs. 37.75 a litre to Rs. 40.75 a
litre, that of kerosene from Rs. 12.73 to Rs. 14.73
a litre and that of LPG from Rs. 345.35 a cylinder to
Rs. 395.35 a cylinder.
This could not have occurred at a worse time. Inflation
is already running at close to double-digit levels.
Oil is a universal input that directly and indirectly
enters into the cost of production of every other commodity.
So the increases announced would have direct and indirect
cost-push effects that are likely to aggravate inflationary
trends.
It is to be expected that the direct and indirect impact
of these increases would substantially erode the real
(inflation-adjusted) income of the ''common man''. As
far as the ordinary citizen is concerned, oil price
increases that have little to do with costs of production
are a tax used by the government to adjust to an international
shock. Since that tax falls even on the poor it is ''regressive''.
The refusal to look for alternative measures to protect
the real incomes of the poor and to persist with the
desire to follow prices in global markets at any cost
is reflective of a deep policy inertia that damages
the less well-to-do. This is not a government that seeks
to govern on behalf of its people, but merely one that
follows the dictates of those who control and manipulate
markets.
By opting for the oil price increases the UPA was sending
out many implicit messages. The first is the signal
that, despite the government's complete failure to bring
inflation under control, the economists that run it
are unwilling to give on their conviction that domestic
oil prices must be calibrated to reflect international
''market'' prices. Those ''market'' prices are, of course,
influenced by a whole host of factors that textbook
markets are not supposed to harbour. These include:
price setting by a cartel that tries, however unsuccessfully,
to control global supply; political and strategic developments
in West Asia that are not unrelated to the fact that
the region houses much of the world's oil reserves that
countries like the US covet; and, the growing presence
of speculators, whose activities in futures markets
affect the spot prices of crude and oil products.
The second message comes from the timing of the increase.
The government clearly knew that these measures would
be unpopular and would intensify inflationary trends.
Hence, it chose to wait till the elections to the legislatures
in four important states had been completed before adopting
them. That is, the government is making clear that measures
such as these were in its view ''unavoidable'' even if
they are damaging and unpopular. Policy inertia in the
face of inflation is not because the government disagrees
with opposition assessments of the outcome of its actions,
but because it seriously believes that there is no alternative
to adjusting oil prices upwards when world prices rise.
It must be noted here that if the action is presented
as one of merely adjusting oil prices to keep pace with
changes in international prices, then prices should
be adjusted downwards when international prices fall.
This does happen occasionally, but there is an element
of asymmetry involved. The government is more keen on
raising domestic prices when international prices rise,
but less concerned with reducing domestic prices when
the latter fall.
Even if it is true, as it argues, that the government
cannot avoid responding to the large increases in international
oil prices, the question remains whether a sharp hike
in retail prices is the best response. It is true that
government inaction would mean that the burden of the
divergence between changes in the international price
of oil and in the domestic prices of oil products would
fall solely on the three oil marketing companies (Indian
Oil Corporation, Hindustan Petroleum Corporation Limited
and Bharat Petroleum Corporation Limited). While estimates
vary, official projections of losses that would be incurred
due to revenue shortfalls from sale of diesel, kerosene
and domestic LPG place them at Rs. 166,172 crore. The
oil marketing companies claim they were losing Rs. 15.44
a litre on diesel, Rs. 27.47 a litre on kerosene and
Rs. 381.14 on the sale of every 14.2-kg domestic LPG
cylinder. If they were not compensated in some way,
their viability was at stake.
The real issue was the degree to which the government
should rely on any of the five different alternatives
available to it when adjusting to what is an oil shock
generated by a combination of conflict-induced supply
shortfalls, rising demand and rampant speculation. These
alternatives are that of: (i) raising retail prices;
(ii) reducing customs and excise duties even with unchanged
retail prices, so to transfer the benefits of the duty
reduction to the oil marketing companies; (iii) generating
revenues by taxing the super profits of the oil companies
that are involved in the production and export of crude
at the current high prices, so as to compensate the
marketing companies; (iv) generating resources through
additional taxes on or lower tax concessions for India's
super-rich individuals and the corporate sector, so
as to pay for subsidies that protect the ordinary consumer
against the effects of the global oil price shock; and
(v) borrowing money through the issue of oil bonds to
compensate the oil marketing companies for their losses.
The principle to determine which agency or agencies
should bear the burden of an increase in international
oil prices, and to what extent, was examined by a committee
headed by C. Rangarajan. The committee spent much of
its energies on the different stages through which imported
and domestic crude is converted into petroleum products
supplied to the consumer, and the cost escalation that
arises as the raw material passes through these stages.
Through that analysis, it found that the upstream oil
companies (or oil companies other than the oil marketing
companies, such as ONGC, OIL and GAIL) had in some years
recorded significant profits; that the oil industry
contributed substantially to the central exchequer through
duties, taxes, royalty, dividends etc.; and that the
petroleum sector alone contributed around two-fifths
of the total net excise revenues of the Centre. In Delhi,
for example, central and state taxes amounted to 38
and 17 per cent respectively of the retail price of
petrol and 23 and 11 per cent respectively of diesel.
The incidence of taxes as a proportion of the retail
price in India was higher than in the US, Canada, Pakistan,
Nepal, Bangladesh and Sri Lanka, though they were lower
than in many countries in Europe known for their higher
average level of prices. In sum, there was an adequate
buffer to shield domestic consumers from the effects
of the increase in international prices, so long as
segments that can afford to take a cut in petroleum-related
revenues because they have alternative sources of resource
mobilisation, are willing to accept such a reduction.
By all accounts it is the Centre and firms controlled
by it which are currently in that position.
The government claims that it is relying on a combination
of available measures to reduce the burden imposed on
the consumer. Thus according to its calculations the
''modest'' price increases would reduce under-recoveries
by just Rs. 29,000 crore, while the loss to the government
because of the duty cuts was as much as Rs. 49,000 crore,
consisting of Rs. 26,000 crore from customs duties and
Rs. 23,000 core from excise duties.
The difficulty is that the price hike finally imposed
is by no means ''moderate'' and its effects come when
the ordinary citizen is already shouldering the burden
of rising inflation. What would have been more sensible
and fair was to opt for a combination of the other four
means of adjusting to the oil shocks, so as to keep
prices constant. The government did reduce duties on
petroleum products, but only by a small amount. But
this was not any special manoeuvre. Since the government
imposes ad valorem or duties specified as a proportion
of the landed cost of imports (in the case of customs
duties) or of the price of the product (in the case
of excise duties), when those prices rise so do the
government's revenues, delivering a bonanza to the state.
Thus, when official spokesmen quote a revenue loss figure
like Rs. 49,000 crore, the ''loss'' is only notional.
It reflects the revenue forgone relative to that which
would have been garnered if duties had not been cut.
It does not necessarily reflect a shortfall in revenues
relative to some normative target. In fact revenues
are likely to be higher than any such target sine the
reduction in duties does not wipe out the additional
taxes that the government collects because of the price
increase.
Not surprisingly, one of the recommendations of the
committee on oil pricing headed by C. Rangarajan was
that the Centre should shift out of ad valorem excise
duties (revenues from which rise with prices) and fix
the central excise duty at a specific rate. This recommendation
has been largely ignored.
But, the government has in the past too adjusted duty
downwards when prices rose. Thus, a few years back,
the government similarly dropped the then prevailing
5 per cent customs duty on crude oil, and reduced the
customs duty on petrol and diesel from 7.5 per cent
to 2.5 per cent and the customs duty on other petroleum
products from 10 per cent to 5 per cent. But, as noted,
in order to benefit from the revenue buoyancy induced
by increases in oil prices, the government has most
often not cutback on duty rates adequately or has avoided
such cuts. Further, taxes are reintroduced or revised
upwards when prices fall.
The use of petrol and diesel as sources of tax revenues
has meant that the retail prices of these products include
a substantial duty component. Prior to the 2008 duty
adjustment and price hike the tax component in the retail
prices of petrol and diesel was placed at 53 and 34
per cent respectively. If the government had in the
past chosen to forego this revenue completely, but kept
the retail price at its earlier tax-inclusive level,
the losses of the oil marketing companies would have
been much less. These losses could have been substantially
compensated for with additional taxes and a dose of
borrowing in the context of an emergency.
The real issue then is whether the government can afford
to lose the windfall revenues it obtains in the form
of taxes on oil. Could those losses have been compensated
with additional taxes on and reduced tax concessions
to those companies, businesses and individuals who have
benefited hugely from the high growth of recent years?
The argument of the opposition is that this could have
easily been done and they have offered many suggestions.
They are indeed right. If the government chose to ignore
their suggestions it must be because it believes that
taxing the rich to pay for protection against the oil
shock for the poor and middle classes is not acceptable.
Rather than look to such options the UPA government
in Delhi has adopted a cynical posture. It has called
upon cash-strapped state governments to reduce the sales
taxes they impose on oil products to moderate the impact
of the price hike on retail prices. This would involve
a reduction in specific or ad valorem sales taxes levied
on diesel and LPG. With many Congress state governments
being forced into complying with what for them is a
central directive, and allies like the Trinamul Congress
reducing duties to sell their pro-poor image, pressure
builds on other states to do the same.
This amounts to getting the state governments to implement
policies that the Central government is unwilling to
adopt itself. Moreover, it amounts to the use by the
Congress of the control it exercises over a few state
governments to create a political atmosphere where popular
anger against the price hike is turned against opposition-controlled
state governments and deflected away from the Centre.
Thus, at the margin it is the consumer and the state
governments who have been called upon to carry the additional
burden. Neoliberal policy makers at the Centre must
have their way even if that badly damaged the economic
position of the already beleaguered states and the ordinary
citizen. The reason clearly is to appeal to sections
such as finance, which want constant reassurance that
the logic of markets will drive the system. The argument
used is that if economic rationality is violated, capital
will leave the country. What is forgotten is that inflation,
which market friendly pricing unleashes, erodes the
real value of financial assets. So finance capital may
choose to exit anyway.
* This article was originally
published in the Frontline Volume 28-Issue 15, July
16-29, 2011.
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