Themes > Current Issues
13.06.2012
The Blame Game around Oil*
C.P. Chandrasekhar
India's
oil marketing majors (Indian Oil Corporation, Bharat Petroleum Corporation
and Hindustan Petroleum Corporation) have gone defensive. They have
they decided to partially roll back, to the extent of Rs. 1.68 per
litre, the petrol price hike of Rs. 6.28 a litre (excluding VAT/Sales
Tax) announced in May. They have also launched a campaign to correct
the ''false impression'' that they are making huge profits and incurring
excessive administrative costs. The immediate provocation is the combination
of public anger at the recent petrol price hike, political opposition
both within the UPA and outside, and criticism even from UPA Cabinet
ministers like A. K. Antony and Vayalar Ravi that it is difficult
to justify the price increase when the oil marketing companies (OMCs)
are making high profits.
The case made by the public sector oil marketing companies is along expected lines. The rise in international oil prices and the depreciation of the rupee would have resulted in huge losses in their books, they argue. This did not transpire only because of the support provided by the government and the upstream oil companies (ONGC, OIL and GAIL) in the form of financial assistance and lower prices. Even after that support the profits recorded in their books is not as large as is being presumed, given the capital and other expenditures they would have to incur. This is because they (the OMCs) have over time absorbed part of the increase in oil prices by lowering their margins. In the event, the cost of crude imported from abroad and bought from domestic companies has come to constitute 92 per cent of total costs. This, according to the official statement from the OMCs, indicates that administrative costs are not too high, which it does not.
There is much reason to believe that the OMC managements protest too much. However, what can be said in their favour is that they are not the only forces that have worked to transfer a larger share of the burden of high international oil prices and a depreciating rupee onto the consumer. Rather, a range of interests-governments at the centre and the states, the upstream oil companies and the OMCs-have been constantly resisting the erosion of the absolute receipts they receive from the oil economy and working to increase the volume of those receipts.
This is easy when the rupee price of imported oil is falling, because end-product prices are only partially adjusted downwards (if at all) and that too with a lag. The problem arises when international oil prices are increasing. To the extent that petroleum product prices are not adjusted upwards, the agents absorbing a part of the margin between the cost of imported ''inputs'' into the petroleum economy and the price of end products suffer erosion in receipts and even losses. One way to partially neutralise that effect is to raise end-product prices and transfer the burden onto the consumer. Politics determines the extent to which this can be done, even when fairness requires that it should not. Failing such an increase, there is need to redistribute the burden among the other agents involved, with the outcome determined by the relative clout of each of them. On this occasion the OMCs are being called upon to bear more than what they think is their fair share.
However, the one agent with some flexibility here is the government. It can accept erosion in net receipts from oil by reducing taxes on petroleum products or increasing subsidies to rein in their prices because it has the option of mobilising additional resources from taxation. In exercising that option it would also be redistributing the burden of a global oil price increase among a larger number of agents. Unfortunately, the government's policy seems to be one of transferring as much of the burden as is politically possible onto the final consumer and then letting the relative clout of lobbies within the petroleum economy to determine the rest.
The result is no firm policy and no inner consensus on dealing with rising global oil prices. As a result, the UPA seems trapped in a debate that goes nowhere. That debate, as in the past, relates to which set of agents should bear the burden of those adjustments and how the burden should be shared among them. At the moment the OMCs are at the receiving end of that debate. As noted earlier, this is not a new question. It has surfaced often before and especially in 2007-08 when global oil prices crossed the $100 mark. But there is a difference between then and now. During financial year 2007-08, while the dollar price of oil imports rose, the rupee too appreciated. So the rupee price of imported oil did not rise proportionately. India was partly insulated from the effects of the global oil price hike because of the gain the rupee registered vis-à-vis the dollar. This time, however, as the dollar price of oil rises and/or hovers at relatively high levels, the rupee is depreciating, pushing up the rupee price of imported oil even further. Moreover, in periods when the increase in the dollar price of imported oil is halted or even reversed, the rupee price often continues to rise because of depreciation. Thus the adjustment that has to be made domestically is much larger and longer term than even the dollar price increase warrants.
It hardly bears stating that domestic policy cannot be held responsible for increases in the international prices of oil. While the changing demand-supply balance in the global oil market may play a small role here, much of the increase is on account of geopolitical factors such as the US stand off vis-à-vis Iran as well as the role that speculative finance is playing in oil or oil-linked markets. However, when it comes to the rupee's value, policy does play a role. Even if the global crisis, through its effects on trade and capital flows, is blamed for the depreciation of the currency, there are ways in which the government could have acted to contain the rupee's decline. So, unlike 2008, the government must take part of the blame for changes in the rupee price of imported oil-a factor many would argue has to be taken account of when dealing with the burden-sharing issue.
However, issues such as these have been obfuscated by the propaganda barrage that has been unleashed for some time now, which focuses on the ''economic irrationality'' of protecting consumers from the effects of oil price increases with the aid of budgetary subsidies. That campaign was and is part of the neoliberal drive against all forms of subsidies and in favour of deregulating prices and allowing them to ''find their level''. The campaign ignores, of course, the fact that the price we are talking of here has little to do with the ''undistorted'', mythical price that an ideal market is presumed to deliver. But its arguments are being used by sections that want to contain the erosion of their share of receipts from the oil economy. In the event, the erroneous conclusion being advanced is that the issue of adjustment to changes in international prices arises at all only because of the fact that the domestic prices of end products are not allowed to automatically adjust.
Sections of the government had presumed that the difficulties of getting the consumer to pay had been partly resolved. India, in principle, had shifted out of an administered pricing mechanism for petrol and other products, leaving the price fixation and burden sharing issue only to a few commodities like diesel, LPG and kerosene. That shift was justified on the grounds that petrol is consumed directly or indirectly (in the form of costs of intermediates or hired transportation, for example) only by the more well to do in the population. So dropping explicit or implicit subsidies on petrol was expected to target actually provided subsidies better.
What the current controversy over and the partial rollback of the recent petrol price hike indicate is that the battle is by no means over. Petrol prices could not be raised before the recent elections to state assemblies. And the increase announced after the elections is being reversed. The controversy also makes it difficult for the government to reduce subsidies on diesel, LPG and kerosene, without which the problem of burden sharing remains despite the petrol price increase.
Thus the debate continues over the extent to which the government must rely on any of the five different alternatives available to it when adjusting to what is a combined oil and currency shock. These alternatives are that of: (i) raising retail prices; (ii) reducing duties to keep retail prices unchanged, while transferring 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 high net worth 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 to compensate the oil marketing companies for their losses.
The government's belief that it can push through and sustain an increase in end product prices is being challenged. The difficulty is that, if relied on solely, the price hikes required are by no means ''moderate'' and their effects are felt on top of the already high burden of rising inflation. What is more sensible and fair is to opt for a combination of the other available means of adjusting to the oil shocks, so as to keep prices constant. Some state governments did reduce duties on petroleum products, but given their financial position this is not a viable option for others. It also 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. But as the Kerala experience suggests even that is not a workable strategy. The government seems to have no option other than addressing the oil price hike with a combination of subsidies and new taxes. But that requires easing the grip of neoliberal thinking over the UPA.
* This article was originally published in the Frontline Volume 29 - Issue 12:: Jun. 16-29, 2012.
The case made by the public sector oil marketing companies is along expected lines. The rise in international oil prices and the depreciation of the rupee would have resulted in huge losses in their books, they argue. This did not transpire only because of the support provided by the government and the upstream oil companies (ONGC, OIL and GAIL) in the form of financial assistance and lower prices. Even after that support the profits recorded in their books is not as large as is being presumed, given the capital and other expenditures they would have to incur. This is because they (the OMCs) have over time absorbed part of the increase in oil prices by lowering their margins. In the event, the cost of crude imported from abroad and bought from domestic companies has come to constitute 92 per cent of total costs. This, according to the official statement from the OMCs, indicates that administrative costs are not too high, which it does not.
There is much reason to believe that the OMC managements protest too much. However, what can be said in their favour is that they are not the only forces that have worked to transfer a larger share of the burden of high international oil prices and a depreciating rupee onto the consumer. Rather, a range of interests-governments at the centre and the states, the upstream oil companies and the OMCs-have been constantly resisting the erosion of the absolute receipts they receive from the oil economy and working to increase the volume of those receipts.
This is easy when the rupee price of imported oil is falling, because end-product prices are only partially adjusted downwards (if at all) and that too with a lag. The problem arises when international oil prices are increasing. To the extent that petroleum product prices are not adjusted upwards, the agents absorbing a part of the margin between the cost of imported ''inputs'' into the petroleum economy and the price of end products suffer erosion in receipts and even losses. One way to partially neutralise that effect is to raise end-product prices and transfer the burden onto the consumer. Politics determines the extent to which this can be done, even when fairness requires that it should not. Failing such an increase, there is need to redistribute the burden among the other agents involved, with the outcome determined by the relative clout of each of them. On this occasion the OMCs are being called upon to bear more than what they think is their fair share.
However, the one agent with some flexibility here is the government. It can accept erosion in net receipts from oil by reducing taxes on petroleum products or increasing subsidies to rein in their prices because it has the option of mobilising additional resources from taxation. In exercising that option it would also be redistributing the burden of a global oil price increase among a larger number of agents. Unfortunately, the government's policy seems to be one of transferring as much of the burden as is politically possible onto the final consumer and then letting the relative clout of lobbies within the petroleum economy to determine the rest.
The result is no firm policy and no inner consensus on dealing with rising global oil prices. As a result, the UPA seems trapped in a debate that goes nowhere. That debate, as in the past, relates to which set of agents should bear the burden of those adjustments and how the burden should be shared among them. At the moment the OMCs are at the receiving end of that debate. As noted earlier, this is not a new question. It has surfaced often before and especially in 2007-08 when global oil prices crossed the $100 mark. But there is a difference between then and now. During financial year 2007-08, while the dollar price of oil imports rose, the rupee too appreciated. So the rupee price of imported oil did not rise proportionately. India was partly insulated from the effects of the global oil price hike because of the gain the rupee registered vis-à-vis the dollar. This time, however, as the dollar price of oil rises and/or hovers at relatively high levels, the rupee is depreciating, pushing up the rupee price of imported oil even further. Moreover, in periods when the increase in the dollar price of imported oil is halted or even reversed, the rupee price often continues to rise because of depreciation. Thus the adjustment that has to be made domestically is much larger and longer term than even the dollar price increase warrants.
It hardly bears stating that domestic policy cannot be held responsible for increases in the international prices of oil. While the changing demand-supply balance in the global oil market may play a small role here, much of the increase is on account of geopolitical factors such as the US stand off vis-à-vis Iran as well as the role that speculative finance is playing in oil or oil-linked markets. However, when it comes to the rupee's value, policy does play a role. Even if the global crisis, through its effects on trade and capital flows, is blamed for the depreciation of the currency, there are ways in which the government could have acted to contain the rupee's decline. So, unlike 2008, the government must take part of the blame for changes in the rupee price of imported oil-a factor many would argue has to be taken account of when dealing with the burden-sharing issue.
However, issues such as these have been obfuscated by the propaganda barrage that has been unleashed for some time now, which focuses on the ''economic irrationality'' of protecting consumers from the effects of oil price increases with the aid of budgetary subsidies. That campaign was and is part of the neoliberal drive against all forms of subsidies and in favour of deregulating prices and allowing them to ''find their level''. The campaign ignores, of course, the fact that the price we are talking of here has little to do with the ''undistorted'', mythical price that an ideal market is presumed to deliver. But its arguments are being used by sections that want to contain the erosion of their share of receipts from the oil economy. In the event, the erroneous conclusion being advanced is that the issue of adjustment to changes in international prices arises at all only because of the fact that the domestic prices of end products are not allowed to automatically adjust.
Sections of the government had presumed that the difficulties of getting the consumer to pay had been partly resolved. India, in principle, had shifted out of an administered pricing mechanism for petrol and other products, leaving the price fixation and burden sharing issue only to a few commodities like diesel, LPG and kerosene. That shift was justified on the grounds that petrol is consumed directly or indirectly (in the form of costs of intermediates or hired transportation, for example) only by the more well to do in the population. So dropping explicit or implicit subsidies on petrol was expected to target actually provided subsidies better.
What the current controversy over and the partial rollback of the recent petrol price hike indicate is that the battle is by no means over. Petrol prices could not be raised before the recent elections to state assemblies. And the increase announced after the elections is being reversed. The controversy also makes it difficult for the government to reduce subsidies on diesel, LPG and kerosene, without which the problem of burden sharing remains despite the petrol price increase.
Thus the debate continues over the extent to which the government must rely on any of the five different alternatives available to it when adjusting to what is a combined oil and currency shock. These alternatives are that of: (i) raising retail prices; (ii) reducing duties to keep retail prices unchanged, while transferring 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 high net worth 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 to compensate the oil marketing companies for their losses.
The government's belief that it can push through and sustain an increase in end product prices is being challenged. The difficulty is that, if relied on solely, the price hikes required are by no means ''moderate'' and their effects are felt on top of the already high burden of rising inflation. What is more sensible and fair is to opt for a combination of the other available means of adjusting to the oil shocks, so as to keep prices constant. Some state governments did reduce duties on petroleum products, but given their financial position this is not a viable option for others. It also 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. But as the Kerala experience suggests even that is not a workable strategy. The government seems to have no option other than addressing the oil price hike with a combination of subsidies and new taxes. But that requires easing the grip of neoliberal thinking over the UPA.
* This article was originally published in the Frontline Volume 29 - Issue 12:: Jun. 16-29, 2012.
© MACROSCAN 2012