Use export prices as base.

Public sector oil marketing companies are claiming an ‘under-recovery’ of R2.80 on diesel selling for R57.28 a litre in Delhi now. This is an exaggeration. If they were to base retail prices on the export price of diesel, which they should as India is a significant exporter, the oil companies will be losing 86 paise on a litre. This the government can wipe out with a one-time price hike. That should persuade private oil companies, who do not get subsidies, to foray into diesel retailing (it is quite likely that they do not need persuasion; perhaps they find exports more profitable).

The state-owned oil companies have been allowed to get away with the fiction that they make huge under-recoveries because of trade parity pricing formulated in June 2006 by Chakravarti Rangarajan, who was economic adviser to former Prime Minister Manmohan Singh. It is a mix of import and export parity pricing in the 80:20 ratio. It was based on the reasoning that for 80% of its diesel production, India depends on imported crude. Under-recoveries in the popular mind are conflated with losses. They are largely notional.

Trade parity pricing has ‘weak theoretical grounding’, observes professor Mukesh Kumar Anand of Delhi’s National Institute of Public Finance and Policy in a paper called ‘Diesel Pricing in India: Entangled in a Policy Maze.’ The prices of goods according to economic theory should reflect their true opportunity cost, he says. For tradable goods, these are border prices. The appropriate border price for diesel, Anand asserts, is the price at which India deliver diesel for export at its ports. If oil companies can sell internationally at a particular price, there is no reason why they cannot sell it domestically at that price, with add-ons for marketing, inland delivery, dealers’ commission and taxes.

India has been producing more diesel than it consumes since 1999-2000. So, Rangarajan should have used export prices as the benchmark in 2006. A committee headed by former Cabinet Secretary and former Planning Commission Member BK Chaturvedi advised just that in 2008 but the previous government did not accept its suggestion.
In the last financial year, India exported diesel worth $25.4 billion, or about 8% of India’s total exports of $313.5 billion. It imported a small quantity worth $73.41 million. Overall, it was a net exporter.

The export price of diesel is R1.83 lower than the trade parity price. Oil marketing companies claimed under-recoveries in the range of R9,280-81,190 crore between 2005-06 and 2011-12 on diesel alone. The under-recoveries are made up partly with subsidy from the government and partly with payments from oil producing companies, ONGC and Oil India Limited. The government subsidy on all petro-products ranged from R2,930 crore in 2005-06 to R68,418 crore in those years. It was R85,480 crore in 2013-14.

Prime Minister Narendra Modi said recently that he will have to risk unpopularity and inflict pain on people for the long-term health of the economy. By using export parity pricing as the benchmark and ending the cosseting of oil companies, he will win people’s gratitude instead.

Another myth is that the government subsidises diesel. Anand observes that both central and state governments earn large revenue from taxation of petroleum products. By way of illustration, he says, in 2009-10, revenue earned from petro-products was 2.8% of GDP. The total expenditure on subsidies and oil bonds was 0.55% of GDP. The contribution of this sector to the exchequers ‘has always been much higher’ than governments’ revenue expenditure on it. ‘In effect, there is no net subsidy accruing to this sector,’ Anand says. In the current retail price of diesel in Delhi 22% or R12.53 is the tax component.

Export parity pricing is also the right benchmark for kerosene. India exported a miniscule quantity worth $15.81 million in the last financial year and did not import any. Oil companies claim an under-recovery of R32.87 a litre on the current selling price of R14.96 in Delhi. The under-realization should shrink if the basis of cost calculation is changed. Unlike diesel, whose share in the consumption mix is rising, that of kerosene is declining. It is an inferior good, says Anand, because people will switch over to fuels like gas if given as choice (as in Delhi, which has been declared kerosene free). Much of kerosene, he says, is used to adulterate diesel because both are middle distillates and mix well.

Petroleum pricing in India has seen many twists and turns. Before 1975, the pre-independence policy of import-parity pricing was applied. After the first major oil shock, a cost plus pricing policy was adopted. This included the cost of crude oil, refining margin and a certain return on capital employed. In 1984, the administered pricing mechanism was adopted and the oil pool account came into being. In 1998, the prices and markets of industrial inputs like naphtha, furnace oil, bitumen and paraffin were decontrolled. During the first NDA regime, in 2002, petrol and diesel prices were decontrolled in theory but the minister’s influence prevailed. Yet prices of petrol and diesel were revised several times in small increments. Soon after the UPA took over in 2004, Cabinet allowed oil companies to increase prices of petrol and diesel within a ten percent band of two moving averages, but the petroleum minister of the time, being of Leftist persuasion decided to consult the government’s Communist partners. It was a ploy to keep prices unchanged in the name of the poor. For a long time, the UPA government baulked at raising petrol and diesel prices, even when international oil prices soared. The global banking crisis of 2007-08 and the fall in oil prices in the wake of the economic slump should have been an occasion to usher in market pricing. The opportunity was missed. When the gap between India’s exports and imports widened considerably and there was a risk of a credit rating downgrade, the government plucked the courage to raise diesel prices by fifty paise a litre per month from February 2013.

Source : financialexpress.com