The Hindu : Opinion / Editorials : DEALING WITH OIL PRICES

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Wednesday, Jun 09, 2004

Opinion

Opinion - Editorials

DEALING WITH OIL PRICES

THE MODEST SLIDE in world crude prices this week does not signal a reversal of the trend of the past six months. Prices have drifted downward after the Organisation of Petroleum Exporting Countries decided last week to increase oil production by 8 per cent. But the consensus view in markets is that the OPEC decision is too small an increase to neutralise the effect of a number of factors that have pushed up prices by more than 25 per cent this year. A shortage of global refining capacity, rising demand in China and the United States, and speculation that West Asian installations will face repeated terrorist attacks are together expected to maintain international prices at high levels over the next few months. The United Progressive Alliance Government is therefore left with no choice but to increase domestic prices of petroleum products. The only question is how much of an increase can be avoided. India must be the only major petroleum importing country that did not revise domestic prices in 2004 in the face of a sharp rise in global crude prices. Fearing an electoral fallout, the National Democratic Alliance Government, which swore by reform, directed oil companies not to exercise their autonomy to set prices even if imports had become more expensive. Had prices been raised gradually from January, the pill the UPA Government has to administer would have been less bitter.

The Government is confronted with short-term as well as long-term challenges. The immediate task is to decide on a price revision that will not make consumers too unhappy and at the same time will keep oil companies in financial health. The only option is to reduce domestic taxes and levies so that the cost of petroleum that companies process will become less expensive. This is easier prescribed than done because any large reductions in the levies on the petroleum sector will affect oil-revenue-dependent Central Government finances. Since customs duties are levied on an ad valorem basis, the best course may be to lower these rates moderately so that the Centre's collections do not take a major hit and it will be possible to mark up prices by the less than Rs.3 to Rs.5 a litre that the marketing companies are asking for in the case of petrol. Another measure the Government will be tempted to explore is issuing bonds to the oil firms to cover losses arising from non-adjustment of prices. However, this is no solution because it only postpones the burden of adjustment.

On paper, the pricing of all petroleum products other than cooking gas and kerosene was freed from government control in 2002. As recent events have demonstrated, the practice has been quite different. The subsidy on the two products under price control was originally scheduled to be removed by 2005 but that would mean 50 per cent and 60 per cent increases over the next year in the retail prices of cooking gas and kerosene. This is simply unfeasible, especially in the case of kerosene which remains the main source of cooking fuel for the urban poor. (It is another matter that a substantial proportion of kerosene supplies is used to adulterate diesel.) The long-term challenge then is to revisit the issue and develop a price regime under which petroleum companies possess a degree of autonomy, consumers are not compelled to bear the entire burden of spikes in global prices, and there is a fine-tuned element of subsidy on some products. This is possible only if a stabilisation fund is set up for use when market conditions tighten, there is a transparent system of cross-subsidisation, and the oil sector does not follow a cost-plus pricing policy.

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