No prize for guessing

India meets over 70% of its crude oil requirement by way of imports, and, therefore, any movement in international prices of crude oil has a direct impact on domestic fuel prices. However, to keep voters happy, our political system has resorted to insulating them from the effects by holding retail fuel prices at unrealistically low levels, and instead issuing bonds to PSU oil companies to plug the gap. The government has approved Rs 23,458 crore of oil bonds in 2007-08.

Given that the ?spike? hypothesis is losing adherents, how sustainable is the government?s strategy? It has evoked criticism on all fronts. The RBI, in its report on Macroeconomic and Monetary Developments, released on the eve of its mid-term review of policy, notes that the government would soon feel the pinch of having to issue bonds to oil companies. ?The Indian basket price of crude oil, which averaged $57 a barrel in February 2007, increased to $75 a barrel in September 2007. Thus, headline inflation has remained suppressed due to a halt in pass-through of higher international prices to domestic prices since February 2007,? the report says.

The domestic scenario has even made the IMF wonder how fuel prices in India can fall despite an increase in global crude oil prices. In fact, the executive board of the Fund has decided to raise this issue with petroleum ministry officials at a meeting scheduled on November 7 as part of the Fund?s Article IV consultations routine.

Artificial prices, economic sense dictates, can have severe consequences. By resisting all calls to raise retail fuel prices, the government has slowly pushed our Navratna oil PSUs into a deep financial trough. By issuing oil bonds, the government is simply converting a current expense into a future liability. On their part, oil companies receive them free of cost and record it as income in their accounts. Investors at large know this only too well, and so none of this financial jugglery impresses them. The result? Our state-owned oil companies suffer depressed market capitalisations (m-caps) at a time that oil companies around the world are breaking valuation records. Even the m-cap of Reliance Petroleum Ltd (RPL), which is yet to commission its refinery at the Jamnagar SEZ (alongside Reliance Industries? earlier mega-refinery), has overtaken Indian Oil Corp (IOC), the country?s largest refining company. The m-cap of RPL is over Rs 71,000 crore, compared with IOC?s Rs 58,000 crore. This clearly puts oil PSUs at a disadvantage when it comes to raising capital.

The last time India revised its fuel prices was in February 2007, that too by way of a reduction, when the Indian basket of crude oil was $56 a barrel. No attempt at an upward revision has been made since, and oil companies are losing close to Rs 250 crore a day on retail sales of petroleum products.

Such is the government?s resistance to economic logic that oil PSUs seem resigned to this state of affairs. In a recent interaction with the top brass of Indian Oil (IOC), Bharat Petroleum (BPCL) and Hindustan Petroleum (HPCL), they presented a picture of stoic composure. On being asked how they will cope with the present uptrend in oil prices, one official said, ?There will be more oil bonds?, while another said, ?While there is no denying the fact that consumer prices of petroleum products should be increased, there is a lack of will on part of the government to do so. Therefore, we are sure that something will be done to rescue the oil firms.? Such equanimity is perplexing, if not plain worrisome.

Not long ago, a committee set up under the chairmanship of former RBI governor C Rangarajan had made several recommendations on the pricing and taxation of fuels. There is no dearth of ideas. But clearly, there is no political will to implement them either.