Substantial increase in prices is inevitable — it is high time we honestly reflected on this reality

The past few weeks have seen a lot of dithering on the part of the government about the way the prices of petroleum products should be increased to reflect the consistently increasing international crude oil prices. This discussion reflects poorly on the economic reform programmes of successive governments of India. The R (Restructuring) Group headed by Dr Vijay Kelkar had submitted its report way back in 1996 suggesting a move towards import parity pricing. Any positive fall out of these recommendations was soon partially rolled back — LPG, kerosene, diesel and petrol were brought back into the realm of control as these were considered to be more socio-economically “sensitive”. In effect, the administered pricing mechanism in India has continued as these four products account for over 60% of total petroleum consumption. So, how sensitive are these four products? As has been shown time and again, very little of the subsidy on LPG and kerosene actually reaches the poor. Nearly 40% of the LPG subsidy is enjoyed by the top 7% of India’s population while only 5.6 % of rural households use LPG and less than 2% use kerosene for cooking. In other words, the benefit of subsidies on these cooking fuels is enjoyed largely by the urban middle and higher income classes! The net monthly impact of full pricing for LPG would be no more than Rs 400 — only Rs 200 of which is due to the recent crude price increases. Petrol, of course, is very heavily taxed as this is considered to be more of a ‘luxury’ item and is a major source of government revenue — accounting for only 8% of total petroleum product consumption but for 32% of government’s excise earnings from this entire sector. It is interesting that the consumers of this product possibly significantly overlap with the consumers of LPG and kerosene. It can reasonably be said that the revenues from the sale of petrol offset nearly two-thirds of the under-recovery on LPG and kerosene (2006-07). So, we are collecting taxes with one hand and doling out subsidies with the other! All that the government is achieving in this process is the creation of a false sense of security amongst consumers of these products and a consequent distortion of demand! Diesel prices in India, contrary to popular belief, were not heavily subsidised but enjoyed a lower rate of duties and taxes as compared to petrol. With the recent international crude price increases, of course, the subsidy amount has gone up to nearly Rs 14 a litre — this is when we have moved to a specific duty rate. Since a large amount of diesel is still used for commodity transportation purposes, it can be argued that any increase in price of diesel would have an inflationary impact on the economy beyond the purely sentimental response. In this case the government could definitely differentiate the price of diesel in the urban/peri-urban areas from that in purely rural areas through branding. The burden being borne by oil marketing companies has gone up to nearly Rs 20,000 crore a month. The same consumers who are enjoying paltry subsidies today face the threat of non-availability of products and related huge inconveniences tomorrow. The government, in turn, may find it difficult to support more deserving programmes — such as the farm loan waiver scheme or the National Rural Employment Guarantee Scheme (NREGS) — if it is to maintain some semblance of fiscal circumspection. And the poor would again be subsidising the rich! Substantial increase in prices is inevitable — it is high time we honestly reflected on this reality.