Fuel price hike: Oil firms bite the price hike bullet, finally; more price hikes likely, but in small doses

State-run oil marketing companies (OMCs) raised retail rates for petrol and diesel by a moderate 80 paise per litre and the price of domestic LPG by a more substantial Rs 50 per cylinder on Tuesday, ending a virtual price freeze that prevailed for 137 days.

The move reflected a deliberate choice made by the government and state-run OMCs not to go for sharp and abrupt hikes in the rates, a senior government official told FE on condition of anonymity.  More instances of retail price increases in ‘tiny doses’ could be expected over the next few weeks to cover OMCs’ under-recoveries from fuel sales amid elevated global oil prices, the official said. Stating that retail consumers would most likely be spared a price shock, he added that unless the situation took a worse turn suddenly, a tax cut on auto fuels may not be needed at all.

The government’s assumption is that global oil prices may moderate as supplies from Saudi Arabia and Venezuela improve over the next few weeks, even as Russian supplies shrink. This, the official said, would allow Indian basket of crude to settle around $100-110 per barrel for the next two months and then moderate.

On their part, the OMCs may not protest much either because the adverse effect on their margins from the retail price freeze that prevailed for 137 days till Tuesday was offset to a large extent by the high gross refining margins (GRMs) enjoyed by them during the March quarter.  

Avishek Datta, oil and gas analyst with Prabhudas Lilladher, said: “For Q4FY22, despite marketing losses, we expect OMCs to make profits of Rs 17,200 crore against Rs 9,200 crore in the previous quarter on the back of strong GRMs and inventory gains of Rs 22,500 crore.”

OMC stocks rose in Tuesday trade. While shares of IOC gained 2.2% to close at Rs 120.6 on the BSE, the BPCL stock rose 3% to close at its highest level in last one month. Shares of private refiner Reliance Industries gained 2.6% on Tuesday to hit an over two-month high on the BSE,  amid reports of strong GRMs due to low inventory levels.

Of course, the high GRMs, enabled by a steep rise in inventory gains, might fizzle out through Q1FY23 due to the high prices at which crude is now being sourced and going to be sourced in the weeks to come. Gradual retail price increases would therefore be needed over many weeks to bridge the gap between cost of crude and realisations from auto fuel sales. The need for sharp retail price hikes has been moderated by the recent hefty Rs 25 per litre hike in diesel prices.

According to analysts, the latest moderate increase of 80 paise a litre in auto fuel rates, coupled with the hike in bulk diesel prices last week, would reduce OMCs’ under-recoveries by Rs 2.5-3 per litre. The hike in the price of LPG by Rs 50 per cylinder still leaves an under-recovery of Rs 150 per cylinder, they noted.

A sharp hike in retail rates for petrol and diesel would have stoked an already-high inflation and upset macroeconomic parameters. Analysts have slightly different takes on how the incremental price hikes would impact the inflation trajectory.

Sunil Kumar Sinha, principal economist at India Ratings, said incremental change in fuel prices is unlikely to move the (inflation) needle much. Dipti Deshpande, principal economist at Crisil, however, feels that while lower excise duty relative to last year would help moderate the impact of rising international crude oil prices, it may not be sufficient to lower fuel inflation if Brent stays above $90 per barrel throughout the next fiscal. In which case, she believes, the government may need to cut excise duties to alleviate the burden on consumers.

Icra chief economist Aditi Nayar said: “The initial price hike is small. The total magnitude of price hikes that will be undertaken ahead will determine the upside to inflation and downside to growth.”

According to Hetal Gandhi, director at Crisil Research, “The first hike in fuel prices in five months…is unlikely to materially support the marketing margins of OMCs. Given that the price of crude oil has averaged around $100 per barrel in the current quarter, a full pass-through would require a Rs 9-12 per litre increase in the retail prices of petrol and diesel. And if the average crude oil price rises to $110-120, the hike required would be Rs 15-20 per litre.”

GRMs of IOC, BPCL and HPCL could be 30-50% higher in Q4 compared with the Q3 levels of $9.7, $12 and $6.4 per barrel respectively, according to Probal Sen, oil & gas analyst with ICICI securities.

Even as the retail fuel prices remained unchanged, fuel and light inflation, as measured via the consumer price index (CPI), remained elevated in February at  8.73%. Retail inflation stood at an eight-month peak of 6.07% in February, having hit the upper band of the Reserve Bank of India’s medium-term target of 2-6% for a second straight month. Governor Shaktikanta Das had said on Monday that the central bank was not expecting inflation to remain above 6% for long.

On the face of it, the government has sufficient fiscal headroom to cut the assorted taxes on auto fuels moderately, given the conservative revenue estimates for next year and higher-than-expected tax buoyancy witnessed in recent months. However, as there is a continuing, if not growing, need for elevated level of government capex to boost fixed asset creation in the economy, it would avoid such a step to the extent possible.

Icra estimates that a rollback of auto fuel taxes to the pre-pandemic levels before April 1, 2022, if followed by the budgeted rise of Rs 2 per litre each on unblended fuel in H2FY23, the revenue collections from these taxes in 2023 would be Rs 2.4 trillion, a good Rs 92,000 crore less than the budget estimate (BE). Additionally, analysts estimate that high crude/natural gas prices resulting from the changed geopolitical situation could inflate the Centre’s fertiliser subsidy by 50% from the budget estimate to Rs 1.5 trillion. “I would recommend a combination of both (cut in taxes on auto fuels and some pass-through of high oil prices to consumers) so that there could be a sharing of burden across both governments and households,” NR Bhanumurthy, vice-chancellor of Dr BR Ambedkar School of Economics University, Bengaluru, said.

Probal Sen of ICICI Securities expects the impact of Tuesday’s retail price hikes for auto fuels to be inconsequential. However, the bulk price hike in diesel by Rs 25 per litre is, however, ‘significant’ and will impact OMCs positively. He noted the bulk price hike would only be applicable to around 10-12% of OMCs diesel volumes (excluding railways). “So, the overall impact is of around Rs 2.5-3/litre, which is still short of what is required,” Sen said.

Diesel sales constitutes roughly 40% of the total petroleum product sales by OMCs; bulk diesel sales constitute roughly 15-18% of total diesel sales.

Of the retail price of petrol, the assorted central taxes are around Rs 27.90 per litre while state VAT/sales tax around Rs 15.50 per litre. A similar tax incidence is there on diesel as well.