No shortcuts at 135

There are some things the government can control, there are others it cannot control and finally there are things it should not control.

There are some things the government can control, there are others it cannot control and finally there are things it should not control. The government of India cannot control the spiralling global prices of crude oil, now hovering around 135 a barrel. It can, and does, however, control the domestic prices of oil-based products. Ideally, the government should not be administering the prices of petrol, diesel, LPG or kerosene. Setting prices is the domain of the market. At best, the government has a right to levy taxes. But in India, for the moment, the government does both 8212; setting the prices and the taxes.

In addition, the government also owns the three major oil-marketing companies 8212; IOC, HPCL and BPCL 8212; and they have no choice but to sell petrol, diesel, LPG, etc at government designated prices. The non-government retailers like Reliance have already closed shop, unable and unwilling to go into the red by competing with government subsidised oil companies. That said, the oil PSUs are bleeding. It has now reached a stage where the bleeding will lead to death unless something is urgently done to prevent it. That is the view of the petroleum ministry. The most obvious and sensible way to rectify the situation is to raise the prices of petroleum products to align them more closely with global rates. The UPA government, after the defeat in Karnataka, and facing general elections in less than a year, does not want to bite the bullet. Its allies from the Left parties, pandering to the middle classes, will protest any price rise as well. Sadly, one way or the other, consumers of petroleum products have to foot the bill. It8217;s merely a question of how.

The government has been using piecemeal measures to address the problems of massive losses by oil PSUs. Special oil bonds have been used as a palliative to provide some liquidity to the ailing firms. These are not without a cost 8212; the oil bonds amounted to 0.7 per cent of GDP in 2007-08. In any case, the oil bonds may have worked as a short-term strategy if prices had stayed around 100 a barrel before coming down to what experts think is an equilibrium price of around 60 a barrel. But, at 135 a barrel, oil bonds are simply not enough. All the oil PSU8217;s together have incurred losses of about Rs 200,000 crore already. They are now estimated to be losing more than Rs 300 crore a day.

The government can also choose to foot this bill by cutting indirect taxes, which constitute around 40 per cent of the final price of petroleum products. Twenty per cent of this is the rate of VAT. The government can choose to cut VAT, or cut import duties on crude oil. There is more room for the former than the latter 8212; import duties are already in single digits.

The finance ministry has, however, ruled out this option of lowering taxes with an eye to the fiscal bill. Caught in the midst of a logjam between a stubborn finance ministry and a ruling coalition reluctant to raise prices, the petroleum ministry, charged with the welfare of the oil PSUs, has apparently come up with a most curious policy proposal as a way out 8212; a cess on income and corporate tax.

This proposal flies in the face of economic theory. Direct taxes cannot and should not be used to finance consumer products, which are clearly non-public goods 8212; unlike education which is a public good. The tax in such a scenario, to be efficient, must be an indirect tax on consumption and not a direct tax on income. People should have the option to consume less petroleum products, while those who continue to consume continue to pay. With an income tax cess people have no choice but to pay, irrespective of consumption levels.

There are issues beyond theory as well. It should be reasonably safe to assume that the cess will not be more than the 3 per cent rate levied for education. That particular cess collected Rs 9037.23 crore in 2006-07. The oil cess, levied at 3-5 per cent, will raise anything between Rs 10,500 crore and Rs 17,500 crore 8212; a paltry sum when compared with the kind of losses being incurred by the oil PSUs, not enough to cover even 10 per cent of their losses. That is the lopsided arithmetic of the cess.

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As if being theoretically flawed and arithmetically challenged wasn8217;t enough, the proposal is unlikely to be popular either. No rise in income or corporate tax ever is. The government is simply hoping that the consumer would rather pay a lump sum tax from income rather than an extra Rs 10 a litre for petrol each time he goes to the petrol pump. The finance ministry has, of course, denied the existence of any proposal for an oil cess. Let us hope that this is how the government, now seemingly speaking in many voices, views it as well 8212; a non-starter. Otherwise, we may just end up in a completely undesirable situation, paying both a cess and an extra amount for petroleum products. It is only by delivering this double whammy to consumers that the government can really save its oil PSUs from bankruptcy.

It is time the government accepted that it cannot win this battle against a global high tide in oil markets. It must simply raise prices. Consumers should accept that they have to foot the bill 8212; they may as well choose the most direct, efficient and equitable way of doing so by paying the proper price for what they consume. It is much better to pay from your pocket out of choice than to have your pocket picked by an irrational cess.

dhiraj.nayyarexpressindia.com