Delayed oil shock

With the situation in Iraq becoming messier, Opec holding together, and Asian demand continuing to rise, one of the first things the next government will have to do is to raise domestic oil prices in line with global trends.

Public sector marketing companies like Indian Oil are suffering a combined loss of something like Rs 2,000 crore a month. International crude prices have gone up from $29 in December to over $40, whereas domestic prices have not been raised since January.

ONGC, similarly, is forced to sell its crude to the marketing companies at two or three dollars less per barrel — thereby transferring money from an oil production firm to a marketing one, which makes no economic sense.

Several years ago, the government had agreed that oil prices would be priced on an international parity basis, except in the case of cooking gas and kerosene, where a third of the costs would be subsidised by the government.

Yet, despite this freedom, oil companies are still obliged to take the petroleum minister’s consent each time they hike prices, and even the quantum of increase gets fixed by the oil ministry.

It is obvious that pricing should be freed from individual ministerial control (the Cabinet gave up its control long ago) and commercially decided, within the discipline of the marketplace.

The refusal to allow price increases for such a long stretch of time, despite the surging prices overseas, is almost certainly with an eye to the elections.

The new government will have to take the bit within its teeth, and there will be howls of protest if the price increases are sharp. This is precisely the problem with political price-fixing: small and frequent changes are absorbed by the market; large and delayed doses provoke an uproar and make rational pricing difficult, if not impossible.

There is only one way out: the new government must decide quite firmly that the oil companies must take their decisions without ministerial interference. If that is not possible, then the more difficult decision to privatise these companies becomes imperative.

It is also important to address the issue of opaqueness in oil pricing. One third of the crude oil bought by the marketing-refining companies is bought at a substantial discount to the international price, yet when it comes to figuring out prices for products like petrol and diesel, the companies assume all the crude is being bought at the international rate.

Clarity will come if the government simply lets the market function, without special dispensation to anyone.

When oil prices cross a threshold, the government might also consider whether fuel taxes need to be adjusted. Roughly half the retail price of petrol today is made up of taxes, central and state.

While the basic price of petrol is around Rs 14.50 per litre, there is a 30 per cent excise duty, an additional excise of Rs 7.50 per litre and a sales tax of 20 per cent in Delhi (29 in Maharashtra), apart from another rupee per litre to fund the highway programme. Such high taxes are out of line with the evolving duty structure for most products and commodities.