Lahiri panel recommendations seem to be the preferred method

Written by S Narayan | Updated: Jan 17 2005, 05:30am hrs
Every year the issue of duties on crude oil and petroleum products becomes a matter of dispute between the petroleum ministry and the finance ministry. The debate arises from the fact that petroleum and its products are a major source of revenue for the central and state governments. State governments levy high rates of sales tax on these products, and sales tax would not be regulated within the new VAT regime. 44% of custom revenues are obtained from crude oil.

There are two issues herefirst relating to the custom duties and the other, to excise. Customs duty on crude has been maintained at 10% for several years until last year, and on products, at 20%. Since refiners price locally produced products at the equivalent price of landed cost of imported products, this differential offers protection for the refiners and adds to the refiners margins and profits.

The international market for products and crude is a changing market. Between 1999 and 2001-2002, global refining capacity was substantial, and product availability was plentiful, particularly since the world economy was going through a downturn. During these years, refinery margins fell to lower than $1, resulting in temporary closure of several refineries overseas. Currently, with global crude production around 83 million barrels a day, higher demand and higher crude prices, product prices are higher and availability tight.

Refinery margins in the last two years have been in excess of $7 leading to supernormal profits for refiners. All this comes at the cost of consumers. It is quite evident that crude prices will continue to rule high for some time and that there will be no substantial growth in product availability. Refinery margins will continue to rule high. In the circumstances, it is only reasonable that the differential duties between crude and products are reduced to give relief to the consumers. The Lahiri recommendations of 5% customs duty on crude oil and 10% customs duty on products which provides for a 5% gap between crude and products, appear to be the preferred solution.

The picture of excise duty is quite mixed. The excise duty differential on petroleum products is intended to do many different things and requires rationalisation. At current levels, petrol attracts 23% duty and diesel an ad valorem duty of 14%. In addition, there is a cess on petrol and diesel for funding the highways development programmes. The distortions caused by high duties on petrol in the last five decades have resulted in the diesalisation of the economy.

With over a million automobiles being produced every year, and an equal number of two-wheelers, it is time to move away in the direction in which all developed economies aretowards petrol. The Lahiri panel recommendations of 8% ad valorem on petrol and diesel will achieve this objective, while providing relief to consumers.

The debate here is between ad valorem duties and specific duties. A specific duty regime affects revenue collections while ad valorem rates provide elasticity in revenues. It is interesting that this debate between the revenue collection and marketing companies attempts to treat the consumer purely as an object to be loaded with whatever price these two decide.

The consumer is looking for lower prices and as long as the methodology of fixing prices for petrol and diesel continue to be non-transparent, it is better to have an ad valorem duty so that the reduction and increase can be evaluated uniformly.

Finally, there is the issue of LPG and kerosene duties. Is it better to charge excise duty on them and pay back through subsidies or is it more appropriate to remove excise duty on these two products and reduce the subsidy bill This is, to a great extent, a political strategy: a decision between two optionsa large subsidy for LPG and kerosene or smaller one. The choice is budget neutral.

The author is former revenue secretary