Oil: get the government out of decisions on pricing

Written by N K Singh | Updated: Oct 11 2004, 06:02am hrs
Last Friday, crude oil prices on the spot market crossed $52 a barrel, auguring perhaps a new era of high energy prices, coupled with volatility. One sympathises with both, P Chidambaram and Mani Shankar Aiyar. The former because this exogenous factor could upset his dream of, at long last, an investment-led growth, a booming stock market, a new commitment to reforms and stable macro-fundamentals. Mani, because it is bringing to an end the jugglery successfully performed over the past four months, in tinkering with duty structures to protect consumers.

The predictions about oil futures have become even more uncertain than ever before. Barton Brigg, neither an astrologer nor a tantrik, but considered somewhat of a guru on equity markets, attributes $6-7 of oil prices to a terrorism premium. The room for manoeuvre on the supply side, except somewhat in the case of Saudi Arabia, seems limited, while demand in large emerging markets, particularly India and China, grows at a scorching pace. Some of the hard decisions Mani has to take include the following:

Chidambaram needs to be reminded it was under his stewardship, as finance minister in an earlier government, with the consent of Left parties participating in the Cabinet, that a decision was taken to dismantle the administered pricing mechanism (APM). Based on this, diesel was priced at import parity levels, mitigating the cross-subsidy regime and adopting a phased programme for tapering out the subsidy on kerosene and LPG, with the Union budget directly financing the burden during the transition.

There was also a medium-term programme for moving towards a more rational duty structure. It must be said to the discredit of the previous National Democratic Alliance government, that the blame for reinventing the APM rests with them. Ram Naik (former oil minister) began to tamper with what should have been left to market-based decisions by oil companies. Given the composition of the present United Progressive Alliance government, it is not surprising that this distortion has become compounded with ad hoc tinkering in the duty structure to mitigate the impact on consumers.

On tariffs, customs duty on crude oil, at 10%, is among the highest in the world. China, Malaysia and Thailand are at 0%, with Korea and the Philippines at 3%. We need to adhere to an earlier decision of importing crude at 5% and downstream products at 10%. Incidentally, it is somewhat bizarre, that while a lot of India uses fuel oil for power generation due to a lack of reliable grid power, it attracts a peak duty of 20%. And that downstream products like LPG and SKO attract 5%, while crude is at 10%. We need to stop tinkering with duty structure in an ad hoc way and implement a long-term sensible path. Injecting uncertainties in the duty regime will not attract investment in the hydrocarbon sector.

A charge of Rs 50 a tonne on crude as calamity payment has no rationale. The only calamity now is the high crude price!

On subsidies, which currently cost Rs 15,000-18,000 crorea year, we must go back to basics. Whom does the kerosene subsidy benefit Not so much the rural poor, as much as the rich who make adulteration their business. Similarly, higher income groups are the important beneficiary of LPG subsidy. In line with UPAs Common Minimum Programme (CMP), subsidies must be directed at the lowest strata of society and to the genuine poor, the people below the poverty line (BPL).

On the demand side, artificially protecting consumers, either in the false belief that oil prices are about to crash, or come down significantly, or by seeking temporary relief through measures like oil bonds, is hardly a sensible response. Consumers have to bear the burden of higher oil prices, and if transparently done, will understand that government is not responsible for events on which it has little control. Price elasticities must work to moderate demand growth. Growth based on subsidised low energy prices is not sustainable.

Government must move out of the business of pricing. Mani must keep his promise of introducing the downstream regulatory authority bill in Parliament. Its provisions should genuinely invest the regulator with authority (Ram Naik did not want to do this) and both, the selection process and the personnel selected, must have credibility and inspire confidence.

In enhancing self-sufficiency in the petroleum sector, government started the National Exploration Licencing Policy (NELP) from 1999. Four rounds of NELP are already over and the fifth is planned for January 2005. And yet the DG of Hydrocarbons (post vacant for six months) functions with the old mindset of the disbanded and infamous DGTD in trying to micro-manage decision! We need, in addition, to a downstream regulator, an upstream regulator.

Another aspect has got inadequate attention. This is, enhancing energy efficiency and fostering economic activity which is energy optimising. The power ministry had piloted the energy conservation bill, but we see little implementation.

Finally, it must be recognised that the days of abundant, cheap, fossil fuel-based energy may be nearing an end. There are frightening environmental implications, as the populous configurations of India and China become energy guzzlers and contribute to the already alarming rate of global warming. Research & development on alternative fuels and non-conventional energy has suddenly become attractive, given likely trends in crude prices. Nobody doubts Mani Shankar Aiyars empathy for the poor, or abiding faith in a development model based on panchayati raj. However, right now, petroleum deserves not knee-jerk reactions, but the skills of the trained economist at the helm of our affairs in the petroleum ministry, to meet the many complex challenges arising from these new price peaks.