The government must resolve its dilemma over petroleum subsidy if India is to achieve its long-term energy security objective. Under the current subsidy regime, while domestic fuel consumers are insulated from the impact of high international crude oil prices, public sector oil companies are bleeding. This has caused an unbearable strain on finances of these companies. Private players are already wary of investing in the domestic petroleum retailing sector. Come to think of it: India?s energy security could be in jeopardy if public sector companies continue to go slow on their investment plans.

The combined under-recoveries of the three public sector oil marketing companies in the first half of the current financial year 2009-10 worked out to Rs 15,903 crore, of which Rs 11,900 crore on domestic LPG and PDS kerosene. While OMCs are meeting their under-recoveries on petrol and diesel with price discounts from upstream companies like ONGC, Oil Indian Ltd (OIL) and GAIL, the government was supposed to issue oil bonds to help them make up for under-recoveries incurred on LPG cylinders and PDS kerosene. However, the government failed to issue bonds during the first half of this fiscal.

As a result, Bharat Petroleum Corporation (BPCL) and Hindustan Petroleum Corporation (HPCL), which have limited refining capacity, reported losses in the second quarter. IOC scraped through because of its refining business.

However, the fear is that IOC might also report losses in the third quarter. The company defaulted on payment of advance corporate taxes for the third quarter as it was not able to assess it profits awaiting issuance of oil bonds .

?We were not able to assess our profits for the third quarter as we were expecting oil bonds,? SV Narasimhan, IOC?s director (finance), told FE.

The current subsidy regime has long-term implications for the upstream oil and gas exploration sector, too. Globally, international crude oil prices are a proxy for an oil company?s profits. However, this cannot be applied in case of ONGC and OIL whose extra profits usually go toward sharing under-recoveries of oil marketing companies. ?Investors do not know how to value ONGC,? says D.K. Sarraf, the company?s finance director.

ONGC had to shell out as much as Rs. 28,000 crore towards sharing of oil marketing companies? under-recoveries in 2008-09. This worked out to as much as 44% of the company?s gross turnover. Apart from ONGC, OIL and GAIL also contribute towards oil marketing companies? under-recoveries.

ONGC has so far forked out a total of Rs 90,000 crore toward subsidy burden sharing. Obviously, this money would have been better utilised for the country?s exploration programme.

India meets about 80% of its crude oil requirement through imports. So, energy conservation should be top of the government?s policy agenda. However, despite high prices of crude oil in the world markets in recent years, India?s fuel consumption has been growing at a much faster pace than the government?s projections. For example, fuel consumption during the financial year 2008-09 exceeded the projection by 12%. Not only that, fuel consumption in the year was even higher than the projections drawn up by the government for the next three financial years. Unsurprisingly, the highest growth was in consumption of controlled products.

The government?s policy to subsidise consumer petroleum products such as petrol and diesel while allowing free sale of industrial products like naphtha and fuel oil has led to a distorted growth in India?s energy consumption pattern. When international crude oil price surged in recent years, prices of naphtha and fuel oil in the domestic market also rose in tandem as there is no subsidy on these products. However, the government did not allow oil marketing companies to increase the retail price of diesel. This provided an opportunity to captive power generators to substitute diesel for fuel oil to take advantage of the market discrepancy. As per statistics available with the government, the share of controlled products in the consumption basket has grown from 61% in financial year 2005-06 to 66% in fiscal 2009-10.