How to make sense of the Indian economy: The petrol price mystery
Last week saw an overdose of televised debates around India’s petrol and diesel Price woes with mouthpieces of the ruling Bharatiya Janata party (BJP) and the Congress sparring at one another. The former blamed external issues such as a weakening rupee and crude oil pricing; the latter held the government responsible for economic mismanagement and a punishing tax regime.
The battle of political parties quickly transformed into a battle of consultants with the BJP tweeting:
The Congress demonstrated a quick turn-around with:
While the BJP’s social media cell made an obvious gaffe, the Congress’s riposte also wasn’t factually robust. Their claim that international crude oil prices went down from $107 to $71 (i.e. 34 per cent), where as retail selling price of Petrol spiked by 13 per cent during the NDA regime, is partially disingenuous. These percentages are not comparable in the first place as international crude oil price reduction is shown in dollar terms and appreciation of retail selling price of petrol is shown in Rupees.
And the rupee has weakened considerably in between. Anyway…
Ignoring the exact dates and numbers in the above tweets — which are a part of political to-and-fro rather than any coherent technical debate — let’s try to understand the core issue here.
All you need to do is look at two points in time: March, 2012 and the present.
But why March, 2012?
Well, that is when International crude oil hit its peak in this decade. In March 2012, international crude oil bought by India was priced at $124/bbl. At present, it is at $72.5/bbl i.e. a drop of 41 per cent. However, what one needs to consider is that the Rupee has weakened by 38 per cent in the same period thereby implying — adjusting for currency translation effects — the international crude oil went down by 21 per cent.
Meanwhile, retail selling price of petrol has gone up by 24 per cent, from INR 65 per litre in March 2012 to INR 81 per litre at present. What is going on? How can the price of petrol increase, when the price of crude oil — which forms the base of Petrol — has gone down?
The best way to decouple the drivers behind petrol’s price rise is to look at its value chain i.e. how petrol reaches the end-user:
1) Oil manufacturing companies (e.g. ONGC, OIL) produce or purchase crude oil from the domestic or international markets. This crude oil is then sold to oil marketing companies or “OMCs” (e.g. IOC, BPCL and HPCL).
2) OMCs get the crude oil refined into petrol and make it available to the retail market i.e. people driving cars etc. After refined petrol is extracted, it is transported to petrol stations.
3) The Petrol Station is operated by a dealer who makes a commission on every litre sold.
4) The central government charges excise duty on every litre sold.
5) The state government charges a VAT on every litre sold.
Many Indian oil companies are vertically integrated with their own refineries, and oil marketing arms. There are some specialist companies who look at these value-chain links separately.
The above-mentioned steps translate into their corresponding value chain line items as shown below:
See below a detailed working to understand how each component adds up (figures as at 14th September 2018):
Yes, taxes (i.e. the Central Excise Duty and VAT) roughly comprise 45 per cent of petrol’s retail selling price. With all other cogs of the math being stable, they’re the culprit. Reduce them, prices will stabilise.
However, considering a significant proportion of the government’s revenue accruals come from petrol and diesel taxes, it is no wonder that the Centre and states are reluctant to take any decisive action, like capping taxes on petrol under the GST regime at 28 per cent, a far cry from the ongoing 45 per cent. In contrast, even a marginal reduction of taxes was missed in the agenda during the finance minister's 5-point Economic Action Plan announced last Friday. Rather there was a reinforcement of the 3.3 per cent fiscal deficit target.
With an upcoming election coming, it seems the consumer may have to ride this one out.