Why Despite promising to free up diesel pricingwhich is when Maruti asked Suzuki to develop the Versa for itthe government did nothing of the sort, so diesel vehicles increasingly became the preferred choice. Maruti learnt its lesson the hard way and though neither it nor Suzuki are diesel engine manufacturers, they are now betting heavily on it and have finally tied up with Fiat to source enginesonce again, Marutis plans could get hit again by government policy, this time to significantly hike the excise duty on diesel cars!
The problem is not restricted to Maruti Suzuki or other automobile manufacturers, much the same happened when the government liberalised fuel retailing around the same time the Versa got launchedsince the government had come up with a timeline for removing subsidies on fuels and moving to free-market prices, private sector players like Reliance Industries Ltd and Essar Group decided to invest in setting up petrol pumps across the country. The administered price mechanism (APM), however, was not dismantled and since the government didnt extend the subsidies it gave the oil PSUs, the private players slowly exited the market.
This regulatory uncertainty is now turning out to be one of the biggest problems investors have to deal with since even Cabinet decisions such as the ones on dismantling the APM are not respectedthe uncertainty caused by the governments statement that intra-circle 3G roaming is illegal even after this was allowed at the time of bidding is another story, but in keeping with the same overall theme.
Take the specific case of the automobile sector, which after posting good growth in the last two years is now facing a slowdown, and the outlook for the next fiscal doesnt look that great either. Given the widening gap in diesel and petrol prices, and the lack of clarity on whether the government plans to reduce this artificial differential, customer preferences have changed in favour of diesel cars and each company has tried to change its production mix to cater to this demand. Though a diesel car costs around R1-1.5 lakh more than a petrol one, anyone driving more than 30,000 km a year finds it more economical to opt for diesel.
In 2010, the market share of diesel vehicles was 32% and this went up to 40% in 2011. However, in the last three-four months, sales of diesel vehicles are growing at around 60%. If just Tata Motors and M&M offered diesel vehicles in 2002, all manufacturers offer diesel cars today with the exception of Honda Motor. In the first seven months of the current fiscal, diesel usage in the country jumped 6.2% to 36.3 million tonnes whereas the usage of petrol expanded at a much slower rate of 5.3% to 8.7 million tonnes. In the last one year, the price differential between diesel and petrol has been the widest and if it stays this way, the share of diesel vehicles is expected to touch 60% in the next three years.
While demand continues to grow, all major manufacturers of diesel vehicles have put on hold their plans to invest in new diesel engine plants since the government is contemplating a big hike in duties on diesel cars based on the recommendations of the Kirit Parikh committee. The government is loath to remove diesel subsidies since, it argues, this is used in commercial transportation carrying fruits and vegetables, so any hike in diesel will fuel inflation. Which is why Parikh came up with a plan to cut the diesel subsidies used by rich individuals. Parikh computed the amount of diesel used by an average passenger and then calculated the amount of subsidy received, and suggested offsetting this with a one-time tax.
According to government data, which the automobile industry contests, around 15% of subsidised diesel goes into passenger vehiclesthe industry says its as low as 2%. But lets assume the government is right. If the intent of the government was to discourage use of diesel passenger cars, it should have made this clearby saying it intended to hike excise duties massivelymany years ago when firms started investing in diesel vehicles. Not surprisingly, Hyundai has put on hold its new diesel plant and the outcome of Marutis tie-up with Fiat for diesel engines is also in limbo.
While it is not certain how much diesel sales will fall with a one-time higher excise duty on cars, the bigger worry for the industry is that if diesel does get decontrolled, its prices will be on par with petrol (as is the international practice) and this could completely destroy all the investment made over the last few years. That Maruti should be getting hit the second time around, this time for a tax on diesel, is the ultimate irony.