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OIL Subsidies: Are we stealing from future generation ?

Executive Summary

Introduction

The consumption of petroleum products is on the rise in India but the production is

unable to meet the rising domestic demand. Hence, India is a net importer of crude oil

among world countries. Since, India is a developing country and its energy

requirements are high, Indian government spends a substantial amount of GDP in

fulfilling these needs. The primary reasons for this expenditure are:

To protect consumers To insulate the domestic economy from the volatility of petroleum prices in the

world market

For keeping domestic oil firms viable and in good financial conditionThough crude oil imported amounts to greatest contributor to oil prices in India, the

taxes levied by central and state governments are not less either. Customs, Excise duties

and sales VAT contribute to 46% of petrol price in India and the same figure for diesel

prices is 32%. At the same time, governments in India uses a part of these collected

taxes for doing good the under recovery losses incurred by various Oil Marketing

Companies (OMCs)

Who, in your opinion, beneft the most from the Oil Subsidy? Are they the intended

targets for which subsidy were conceived in the frst place?

Currently flat subsidies are provided on Diesel, LPG and Kerosene due to which it led to

greater subsidization of the groups who can consume more of the product. This

effectively leads to transfer of greater quantum of subsidies being transferred to rich

who directly and indirectly consumer more subsidized fuel products. The per capita

monthly benefit to the poorest quartile is less than INR 38. The top 30% of earning

population are subsidized by 0.4% of GDP which is 50% of total subsidy. The bottom

45% gets only 25% of fuel subsidy. In terms of losses to major stakeholders, Oil

companies are the biggest losers due to subsidies. They lost ~ INR 178029 Crore in last

fiscal whereas Central and state government has been beneficiaries and made a net gain

of INR 17000 crore and INR 126512 crore respectively.

Financial Impact of Subsidy on Upstream companies

Share of upstream companies towards contribution for under-recoveries by oilmarketing companies have been increasing and have reached to 40% with INR

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55000crore in FY12. This has caused huge strain on financial of companies and has

reduced their cash balance. The pricing and subsidy policy by government has been

quite uncertain has caused problems for companies in managing their working capital.

For this reason the companys dependency on market borrowing have increased

causing debt and interest burden. As, upstream companies are also involved in oilexploration, the investment in this area has taken a hit owing to lack of funds. Because

of this there is not much increase in oil reserve and so with increasing demand the

supply is lagging behind. Moreover, the upstream companys are publicly listed

companies, so they are accountable to their shareholders. With increased subsidy

burden and the uncertainty associated with has caused the share prices to drop and

thus these companies are stated to be undervalued. This also has a impact on their

borrowing capability and its cost in open market.

Position of India as Importer of OilPosition of India as an oil importer has decorated with increasing import of crude oil

and sky rocketing subsidy. Net contribution from taxes on oil sector has come down

significantly to 174 billion in FY13 from 466 billion in FY02. Artificial lowering of prices

has resulted in boosting of demand and inefficient utilization of oil resources. If the

consumers are exposed to actual price levels then it will encourage them to switching to

judicious ways of oil consumption like use of public transport. The subsidy has also

made it uneconomical to investment and use of other cleaner sources of energy causing

the increased dependency of India on oil. As the government does not bear the subsidy

for private companies, there is monopoly in the area of marketing of oil and hencereduced competition.

If subsidy is abolished or reformed what sort of reform is required?

Subsidy should be abolished slowly by removing the under recoveries by bringing in

reforms over period of time. Diesel subsidy should be removed by eliminating under-

recovery through passive regulation variable taxation. This will be revenue neutral

reform where government will target variable tax component in diesel price to regulatediesel price. Eliminating under-recovery will not have any impact on Federal tax but

only provincial tax will increase due to higher price. For LPG & Kerosene, subsidy

should be removed slowly to avoid price shock. Direct Cash Transfer mechanism

needed to be implemented to ensure right beneficiaries are not impacted due to price

increase. Use of UIDAI system to identify the target , computerization of PDS system and

creation of bank account for each households and linking it with UIDAI are some of the

steps that are needed to implement direct cash transfer. Advance cash transfer should

done initially for 2 months to create confidence among consumer about this plan.