Petroleum crisis: Highly inflammable?

Raghuvir Srinivasan

IT IS no longer a choice between whether it should be done or not.

It is now merely a question of what should be the nature and quantum of increase in the administered prices of petroleum products. When the Ministers of Petroleum and Natural Gas, and Finance sit with the Prime Minister next week to decide on this issue, they have a rather difficult job on hand.

The Petroleum Minister, Mr. Ram Naik, has spoken of a ``three-pronged'' approach -- increasing prices, seeking a cut in taxes and levies on petroleum products, and issuing oil bonds to clear the Oil Pool Account deficit.

There is some merit in the argument that the Government -- Central and State -- could consider reducing the imposts on petroleum products. First take the case of excise duty. Presently, the two major products of mass consumption -- motor spirit (petrol) and high speed diesel (HSD) -- suffer excise duty of 32 per cent and 16 per cent respectively. In addition to this, a cess of Re 1 per litre is levied on both these products since the last two years.

Similarly, sales tax accounts for a hefty part of the retail prices of petrol and diesel. For instance, the levy on petrol in a progressive State such as Maharashtra is as high as 30 per cent, up from 27 per cent a year back. In fact, Mumbai suffers the highest sales tax on petrol among the four metros, followed by Chennai at 24 per cent (see table).

Click here for Table

These levies together push up the retail price by a whopping 80 per cent in Mumbai and 66 per cent in Delhi. In other words, the retail price of petrol of Rs 28.92 in Mumbai and Rs 26.07 in Delhi contains a tax element of 44 per cent and 40 per cent respectively. But for the effect of taxes, the price of petrol in Mumbai would be Rs 16.10 per litre and in Delhi Rs 15.70 per litre, inclusive of the cost of movement from the refinery to the stock point.

Now, in a time of low product prices, the tax element does not impact significantly at the retail level. But at a time such as now when oil prices are at historic highs and domestic prices are also to be adjusted, the high tax regime especially hurts. India must probably be having one of the highest taxation levels in the world for petroleum products and there is no reason why this ought to continue.

In fact, if the Government shows some pragmatism in handling the taxation issue, it can reduce significantly the final impact of higher product prices at the consumer level. The Government could consider reducing excise duty sharply, at least by half, on a temporary basis till normalcy returns on the oil price front globally. Yet another option may be to put on hold the cess of Re 1 being collected now. This way the Government can effect a price hike with only a minor impact being felt at the retail level. For example, if excise duty were to be reduced by half to 16 per cent and the cess were to be abolished, it would enable the Government to increase petrol prices by about Rs 3.50.

But this would be easier said than done. The Finance Ministry may not really be amenable to such a move as it would eat into its revenue collections. But the fact is that even at the lower excise duty rates, the loss will be offset to a significant extent by the higher basic price. Unless the Government acts on reducing Central imposts, it may not be feasible to exert pressure on the States to reduce sales tax rates. The Centre has to clearly lead by example here.

With some strategic thinking, it may actually be possible for the Centre to even present the States with a fait accompli. A hike in consumer prices of petrol and diesel would spell as much trouble for the States as for the Centre. For States such as Tamil Nadu and Uttar Pradesh, heading for polls, a hike may certainly not be politically expedient. The Centre could use this as a bargaining card to get the State governments to reduce sales tax rates such that the final impact on the consumer is lessened as much as possible.

Of course, the fact that the Empowered Committee of State Finance Ministers is not agreeable to a reduction in even the floor rates for sales tax on petroleum products, does not augur well for such a strategy. It is inconceivable that the States would agree to sacrifice their earnings when most of them are strapped for revenue. But there is no running away from the fact that a price hike now is bound to lead to strong consumer protests and even set a price spiral in motion.

There is, thus, little leeway for the Centre to manoeuvre. The choices before it are difficult but it would have to evolve a coordinated strategy with the States to mitigate as much as possible the impact of a price hike. What is needed now is a display of pragmatism on the part of the Central and State governments.

The Centre may have to tackle this tricky issue at the broadest possible level, and this means including the States in the consultation process, rather than look at it narrowly as just another adjustment of administered prices. At stake is not just the political prospects of the ruling parties but also the near-term prospects for the economy, which is sending out conflicting signals on its present state of health.