Much of the criticism is attributed to lack of transparency in decision making

Only a complete package of measures backed by a strong communication campaign rather than tinkering with the prices of petrol and diesel will help.

THE DITHERING by the Government in the past few months over a revision of petroleum product prices probably lulled many into thinking that a price hike could somehow be avoided or at least moderated substantially to levels that will not hurt the common man. Hence, when announced on June 5, the hike of Rs. 4 a litre of petrol and Rs. 2 in the case of diesel appeared to be sharp. Except in Delhi, car users in the other three metros will be paying more than Rs. 50 for a litre of petrol. This is the third revision in oil prices since the UPA government took office more than two years ago. The last one was in September last year.

There is no price change for the cooking fuels, liquefied petroleum gas (LPG) and kerosene. There is, however, talk of making available subsidised kerosene only to families below the poverty line. However, the price hike is only one item of a package whose other components include a reduction in customs duty on petrol and diesel from 10 to 7.5 per cent and issuance of bonds for Rs. 28,000 crore to the state owned oil marketing companies .The oil bonds are intended to help meet part of the "under-recoveries.'' (The other step in that direction, though not new, is to ask upstream oil companies, especially ONGC, to subsidise the marketing companies).

This is not the first time the Government has resorted to the bonds route to support the oil companies. Being Government of India paper they will enjoy liquidity. At redemption time these bonds will be paid for by the exchequer. This strategy has been preferred as there will be no immediate cash flow from the government. The alternative of foregoing taxes for an equivalent amount will impact government finances this year itself besides being administratively inconvenient.

Political constraint

The Government's procrastination has had more to do with political compulsions and much less with a search for a substantially different pricing formula.

Not that an acceptable method of fixing oil prices has been easy ever since the official shift away from the administered price mechanism in 2002.The point is this: any tinkering with the prices has a strong political dimension. The economics of it is often lost sight of even if its case is strong.

A country that imports more than 70 per cent of its crude requirement has very few options other than juggling with the distribution of the burden of high crude prices among the three principal domestic stakeholders, the governments (both Central and States) that collect taxes, the oil companies (both refining and marketing) and consumers. International petroleum prices, currently at $73 a barrel, have remained high for many months.

Much of the non-political criticisms about the price hike centres on the fact that it will fuel inflation. Indeed there is bound to be an increase in freight charges. In the WPI index the category of fuel, power, light and lubricants has a weight of 14.23 per cent. But inflation expectations have been already on the rise. Even while being substantially insulated from global oil prices, Indian consumers needed to be told that at some stage, a substantial part if not the whole of the burden would have to be borne by them. On Thursday (June8) the Reserve Bank of India marked up its repo rates by 25 basis points. This is a signal for interest rates to go up. It may not be desirable to let the oil companies sink under the weight of "under recoveries'' any more.

Non-transparent exercise

But complicated cross subsidies and benchmarks have made petroleum product pricing in India an extremely opaque exercise. A substantial part of the opposition to the retail price hikes may be attributed to this lack of transparency. Besides, in the Administered Pricing Mechanism (APM) era (until 2002) the Government was not obligated to explain the pricing mechanism to the same extent as it is now. Even after abandoning APM, the policy shift to a more market based pricing system did not materialise. Opaque practices of an earlier era might well have become entrenched.

That may possibly explain why the other two stakeholders, the Government and the oil companies, receive so much flak every time there is a price hike. The Government is criticised as much for not being able to lower the tax burden (that is, collect less taxes) as for announcing the price hike. As for oil companies, the perception remains that their pricing at the retail level "hides a range of hidden benefits and subsidies''; that their margins are protected artificially through notional import duties on products such as petrol and diesel even if those are not imported; that because of all this as well as legacy issues they are not as efficient as they should be. It is pointed out that Reliance has much higher refining margins than the government owned oil companies and can fix its retail prices as it chooses without interference from the Government.

Evidently the way out is to correct the distortions through a series of well-orchestrated steps rather than attempt highly unpopular price corrections in isolation. It is imperative that the package of measures has medium term goals and is consistent. Such difficult policy measures will have to be backed by strong and unambiguous communication by the Government. It would be a laudable achievement if the man on the street becomes aware of the nuances of petroleum pricing, more specifically the impact of high global crude prices on product prices in India.

Experts agree that the only way to overcome the political opposition is to make the pricing of petroleum products transparent.

A formula to link international oil prices with domestic retail prices will help, especially if it is kept outside the pale of day-to day government functioning. The role of the newly appointed petroleum regulator should be more clearly defined and suitable powers conferred.

None of the above is radically different from what the Government of the day has been trying to do.

For instance, a price band to let the marketing companies increase or decrease the prices was put in place after the UPA government came to power. In the face of a dramatic and sustained rise in global oil prices it could not be maintained. After the latest hike the Government has talked of giving the oil companies freedom to vary prices of all products under certain conditions without prior reference to the Government.

That is a step in the right direction. The Government, however, missed a big opportunity to correct the distortions in oil pricing on a more permanent basis. In February, the Rangarajan Committee had made some wholesome recommendations. These included shifting the benchmark for fixing the refining margin from import parity to trade parity prices and lowering of customs duty. Both these have been accepted. The committee also favoured an increase of Rs. 75 a cylinder of LPG and restricting kerosene supply through PDS to the really needy.

By not effecting a price hike for cooking fuels, the Government has bowed to political realities. This is most unfortunate as LPG is not a poor man's fuel by any means. Kerosene is used extensively in adulterating diesel, a practice that will become more widespread now, with the widening of the price differential between the two.