Singapore spot market, not production costs, driving Indian petrol price
Have you ever wondered why when petrol prices go up or down they do so uniformly across the retail outlets of the three oil marketing companies — Indian Oil, Hindustan Petroleum and Bharat Petroleum? If they are three different companies with their own refineries and distribution systems, then surely their costs and selling prices must be different?
Welcome to the strange world of petroleum product pricing in the country. A world where the laws of economics are turned on their heads, where there is no competition between the different players and where the price that we pay for petrol (or for that matter diesel or aviation turbine fuel) has no resemblance whatsoever to its cost of production.
It is a complicated world of subsidies and strange concepts such as “under-recoveries.” It is a hybrid world of controls and freedom — the oil companies have the supposed “freedom” to revise prices, yet that is subject to a discreet government nod.
The oil companies adopt a strange pricing policy that is linked neither to their costs nor to the competition in the market. The prices of the products that they sell in the domestic market are driven by the prices of the same products in the global markets; currently domestic prices are determined by the price swings in the Singapore oil market.
This is unlike in any other industry. Let's take the case of steel. The price of finished steel produced by an Indian company will be determined by its cost of raw materials such as iron ore and coking coal, the cost of power used to produce the steel plus other items of cost such as salaries and other overheads. The competition that the company faces in the market will determine how much margin it can add to this cost base.
The oil companies simply take the price of petrol in the Singapore market, apply the rupee-dollar exchange rate to that price, add other costs such as freight and import duties and lo, there comes the price that they should charge domestic consumers. Interestingly, not a litre of the petrol that these companies sell in the market is imported from Singapore; they are all produced here in their own refineries.
Now, the problem is that most often the price that they so arrive at has no relation to the prevailing domestic retail price, which is invariably lower. Thus is born the concept of “under-recoveries,” something that is unique to our oil companies. You should note that they don't call this loss, simply because it is not a loss. A loss will be caused when a company is forced to sell a product below its cost of production. In this case, we have no idea what the cost of production is for petrol or diesel or, for that matter, any petroleum product.
Under-recoveries are therefore bogus numbers that bear no resemblance to reality. Yet, pricing decisions for the domestic market are based on these numbers.
A careful reading of the statements that the oil companies put out whenever prices are revised will be enlightening. Here is an extract from the latest one released on November 30. “Review of international oil prices and INR-USD exchange rate of relevant fortnight for prices effective 01.12.11 brings out a further downtrend in international oil prices and a further weakening of the exchange rate. Thus, while petrol international prices have moved down significantly from $116/barrel approx. to $109/barrel approx., the exchange rate has deteriorated from Rs. 49.32/USD to Rs 51.50/USD. The combined impact of the two factors is an over-recovery of Rs. 0.65/litre. It has therefore, been decided to revise the petrol prices downward by Rs.0.65/litre (excluding state levies) w.e.f 1st Dec. 2011.”
Simply put, what this statement from Indian Oil Corporation says is that petrol prices have dropped in the global markets and despite the depreciation in the rupee, there is still room to reduce the domestic retail price. Of course, it goes without saying that if there is a rise in petrol price in the Singapore market and the rupee continues to depreciate, domestic prices will be revised upwards.
The question is: why should we in India pay for petrol a price that has no resemblance to either the cost structure of Indian Oil (or Hindustan Petroleum or Bharat Petroleum) or to competition in the market? Prices in Singapore dance to various tunes ranging from fundamental reasons such as consumption levels by countries in the region or shutdown of refineries or pipelines to market-related reasons such as levels of speculation and money flows into the commodities market. How are we in India affected by these when we do not import a litre of petrol or diesel from Singapore?
This flawed pricing model is a legacy of the control era when we had the administered price mechanism in place. The model does not belong in a liberalised market where the prices should be free and be determined by the costs of refining petroleum products and market competition, say analysts.
A senior official in a leading oil company concedes that this model is flawed and interestingly, says his company is all for a cost-plus pricing structure with competition between the three oil retailers — Indian Oil, Hindustan Petroleum and Bharat Petroleum.
The collusive pricing policy of the oil companies is an anti-competitive practice and has come under the radar of the Competition Commission in the past. Would the government tolerate a situation where MRF, Apollo Tyres and Ceat collude on pricing their tyres? So why should we allow oil companies to collude?
These problems arise because the winds of change that led to serious reform in industries such as telecom have largely bypassed the oil industry. What we need is a strong dose of reform in the form of freeing of pricing of petroleum products while simultaneously encouraging competition. We also need a strong regulator for the retail market; the existing Petroleum and Natural Gas Regulatory Board is not tasked with regulating the retail market.
These are important issues that need to be addressed sooner than later by the government.
Keywords: fuel price hike
I agree with most of the comments which says the price varies according
to international prices. But the question is by what calculation they
arrived at the basic price after which this variations occur? I think
the flaw is there and for arriving at such erroneous cost so much money
would have passed hands.
I wondered when I read the news item 'What goes down will surely go up' in the Hindu on Sunday,4th Dec 2011.This is a very good eye opener. Thanks to the Hindu for giving such a nice and eye opening story. My sincere appreciation to Raghvir Srinivas.
Price fluctuation in the local market of Singapore may be due to internal consumption patterns,refinery efficiency and profit made by their refiners.Why is that we be forced to pay for their local prices which includes their Refinery margins ? Thus, though Indian refiners post huge under recoveries , they are in fact earning a lot and artificially inflate the petrol and diesel prices .
i am not able to understand the correlation between singapore spot
market and indian oil prices. how it impact prices in our country
because we are importing it from other countries then why we taking it
as a standard in price fixation. please clarify it.
This article has many missing links. True, that we use oil from our refineries. But at the same time refineries use crude oil as input and we import most of that. It is this price of crude oil which is reflected in Singapore, New York or for that matter London. Refining cost/processing cost may be more and less stable but the volatility of crude price makes the price of petroleum product volatile.
These oil companies and government keeps on crying that they are going in loss and at the end of financial year they have earned good profit. Seems they have defined their own mathematics to calcuate profit and loss.
The need of the hour is to set a ceiling price for petrol and other basic amenities which won't be subjected to the dances of the global market. Otherwise what is the use of a Government? The Canadian Govt has setup this in place, and hope our policymakers pay heed to what's happening around the world.
I agree with Yogesh P. We import the overwhelming portion of the oil consumed. The domestic refineries do precisely that - refine the oil to get the final product. The basic oil still remains predominantly imported. Thus, the international price of oil will of course have a bearing on the domestic price we pay for the finished product. Also, the article does not make any mention of the complicated system of cross-subsidies that we have to make diesel and kerosene cheaper and more accessible to the common man. Petrol, traditionally viewed as the fuel for the elite, has been chosen to take the burden. Thus, pricing for oil in India is not merely a economic decision but more of a Political decision. The article fails to take into consideration the effects on the price of diesel and kerosene with the cascading effect changes in the prices of these will have on the prices of almost every other product, should the government decide to implement a fully market based pricing regime.
I think that the author has taken a one sided view and shallow in his analysis. The model of petroleum pricing approach adopted in India is looking complex but is a simple market driven pricing mechanism based on landed cost / import parity principle. This was adopted as more than 65% of crude oil requirement of India is imported and the refiners IOC, BPCL and HPCL are importing crude at international prices. To some extent we can say, this approach is similar to precious metal prices (e.g. gold,silver.. The price we pay for the gold in India on any day is linked directly to international price of Gold and if any one has watched them keenly,they go up or down and vary on daily basis) On the other hand, if we adopt the cost plus pricing as recommended by the author,we would end up paying much more than today's price. My view is that the government should 1. Fully de-regulate the diesel prices 2.Reduce taxes on fuel.3. Subsidy for kerosene/lpg only for BPL people.
I request the author to analyse whether the present talk of allowing FDI in petroleum products be competitive to bring down the prices to that prevailing in other countries not of course to U.K.and should also be helpful to the downtrodden in respect of Kerosene and lpg essential for common households for survival presently.
Adding to this looting, retail sellers in petrol bunk trying to loot too. Say if we ask to put petrol for 100rs and he manually puts up petrol for 99.98rs and If we ask that they don't have any answer.So the looting is top to bottom and the ultimate sufferer is the Customer'the so called 'Stupid King'.
This is a very good eye opener. Having read the article and the comments
of the readers, I can see most of us didn't know about the pricing
structure earlier. Kudos to this author of this article and the Hindu
team. With FDI debate going on for the Retail sector, I started feeling
why can't we open the Petroleum sector for competition?
This is a very good article which reveals the hidden truth of the petroleum product pricing in the country. They have been making fool of us for long. As pointed out in the article we need a strong regulator for retail market as well as a reform in petroleum pricing.
There is no degree of doubt that the pricing model is flawed in India. But this article has even more technical flaws than the issue being discussed.
An interesting analysis. But the question is, if we are not importing fuel from Singapore and simply use the Singapore Petrol prices to arrive at a markup pricing model, then what is the basis of using the Singapore prices as determinants of petrol prices in India. This article does not shed any light on this.Further, it could be possible that the whole analysis of this article is wholly based on degree of correlation between Singapore prices and Indian market prices which could be due to chance factors, and statistically this is also possible.The Hindu could have gone deeper to explain how confident they are that Singapore prices determine the Indian prices. If so, what are the key X (Input) factors and what is the equation used to arrive at this model.
No wonder this article makes an interesting reading, but as a reader, one would look into the way the analysis is done apart from the inference of the analysis as well.
Its a "Enlightenment" write up. The mechanism which governs you so much from bread and butter prices to the luxury aviation industry is flawed and apathy is we really were not bothered to know the basis of it.thanks to THE HINDU. Better late than never.
Thanks..it's a very informative post!
The subsidies and taxation policies governing petroleum products are a massive scam.
Sounds like an addict justifying why the dope should be cheaper because part of it comes from our own backyard. We import 80% of this stuff, hugely skewing our balance of payments and leading to huge almost un-sustainable trade deficit. People need to wake up and realize that what we are seeing is "Peak oil". Oil prices are only going to get more volatile and climb further peaks.I would much rather our government/oil companies keep petrol/diesel dear and get good public transit, broad well made/maintained roads, tax breaks for electric vehicles, get our electric utilities to be solvent and significantly grow generation capacity - including nuclear and solar. Arguing for cheaper or locally priced oil without at the same time fighting for real long term solutions is highly irresponsible and short-sighted. But then if that was the case in India, we would never have been reduced to pledge gold to raise cash in 1991.
A very good article exposing pricing flaws imposed by our Government, will they pay heed?
As mentioned in the article Indian petroleum industry need an Independent regulator, ombudsman and an Independent Tribunal like in case of financial market or in case of Electricity pricing. Before that, we need CAG to audit of the account of all petrol companies and production cost tabulated and publicly made available. Also CAG should benchmark it with the International cost and Indian Private sector for public comparison, so that we know how efficient or inefficient the company is run. We need also to have a local exchange for spot and future petroleum so that there is local reference rate rather than using Singapore exchange rate for any of our calculation. It may be prudent to even split the companies into unregulated (petrol) and regulated (diesel, LPG) parts and get it listed separately in the stock market, so that any cross subsidization does not get added onto the unregulated product pricing cost calculation.
Does the price for petrol quoted in the commodities markets in Singapore anything to do with petroleum produced in Singapore. I doubt. But the important point is at the end of the day the statement of losses has to be linked to the actual cost incurred by the company (in procuring oil either by import or from indegenous sourcesand other expenses) and the income earned from the sale of it. Another tricky thing is the subsidy which too has to be separated in the accounting process and should be shown as receivables from Govt. on account of subsidy in the Balance sheet. Thus the P & L statement should show the total sale as the actual cost of petroleum products sold and the money collected on account of the same and the details of actual expenditure incurred in production and distribution of the same. Also, if the Govt. is subsidising petroleum products uniformly for every one, then is it not better to reduce or remove the customs and excise tariffs and take the subsidy away.
What a deceive! I wondered when I read the news item 'What goes down will surely go up' in the Hindu on Sunday. Lack of competition and transparency make us fools, as far as concerning to petro prices. The Government shamelessly announcing that 'the oil companies are in a big loss due to the rise in International crude oil'. How can the price of petro products in other countries determine the local rates, when we use oil from our refineries. The Government should look into matter and try to encourage competition in this crucial field, where the index and the price hike are purely depending on 'oil' factor. Thanks to the Hindu for giving such a nice and eye opening story. My sincere appreciation to Raghvir Srinivas.
India has minimal production of petroleum. Most of it imported from different sources. But all those different sources has the same pricing, same as Singapore market (where again there is no production of petroleum). More like Singapore market just reflects global price. Thus when there is an increase in production cost in Saudi Arabia, there will a price increase in global market and it will be reflected in Singapore market; leading to a price increase in Indian market. This is a flawed article that takes one sided view. The only thing that can debated is the government duty on petroleum. BP, OIL etc. doesn't have any say in that. They are more like importers and distributors from the same sources. Hence there is no question of competition. This is true for ALL the non-oil producing nations. On a global scale, ask questions like why oil is priced in dollars and what the government is doing to stop rupee depreciation.
Before independence foreign countries rob/ loot the country. After independence, our own people and government - what to say? Democracy is supposed to be by/ of/ for the people : reality is different.Look at everything - animals, plants, nature..they all are useful, and give. Man alone basically try to exploit if they get a chance. The country headed by economist Prime Minister, what is the big use of all these expertise? There should be basically a relationship between cost of production, people's earning and cost of things. Governance has given the license for the people to do any thing they like. Politically almost all the parties do not oppose the trend with conviction - that is the weakness of our democracy.
An eye opener.
really interesting but we must also see cost of kerosene and diesel in India which are remarkably lower than most of the countries.So we cannot put blame on omc's fully as there decision are more political than economical.
Please Email the Editor