Thanks to the increasing crude oil prices, the public debate about petrol and diesel prices is back in the limelight. The suggestions to bring down prices include the Centre reducing its excise duties, or the states reducing their VAT. Understandably, both the Centre and states are reluctant, as these taxes form are an important source of revenue. The contribution of sales tax or VAT on petroleum products to the state government exchequer for 2016-17 was 25.9% of their total sales tax or VAT collection. Similarly, the contribution of excise duty on petroleum products to the central government exchequer for 2016-17 was 22.3% of the net tax revenue. Given that both state and central governments are in deficit, the rise in crude oil prices help them narrow the gap. The Centre has now spoken about working on a long-term solution and there are at least three solutions that have been discussed in the public debate.
A short-term solution, which has been implemented in the past, is transferring some of the burden of the increased costs to the Oil and Natural Gas Corporation (ONGC). However, this deprives ONGC the money required to undertake more oil exploration activities, which are essential to bring down our overall import dependence on crude oil.
The second solution involves changing the pricing of petrol and diesel from import parity pricing (IPP) to cost plus pricing (CPP). At present, the landed cost of imports, which includes freight, insurance, handling charges and customs duty, is considered for fixing the domestic retail price. Since most of the petroleum products are domestically produced, one would have expected companies to price their products according to their own cost structures. Each refining company has multiple refineries of varying complexity running at different efficiency levels, thus their cost structures are naturally different and so should be the prices. However, in reality, one finds that the price of petrol or diesel across the government-owned three companies at any location in the country is almost the same. As of now, even the presence of private players in the market has not made much of a difference to the prices.
According to PTI reports, India had 61,678 petrol pumps in January 2018. Indian Oil Corporation (IOC) operates the maximum (26,752 pumps), Hindustan Petroleum Corporation Ltd (HPCL) has 14,853 while Bharat Petroleum Corporation Ltd (BPCL) has 14,293 pumps. Among the private companies, Essar has 4,275 pumps, Reliance has 1,400, while Shell operates 100 petrol pumps. Private retailers in 2017-18 commanded 6.8% market share in petrol sales and 8.2% in diesel. Although the market share of private players has been increasing slowly over the years, the prices at these outlets more or less match the prices at the government-owned company outlets. It is indeed a mystery that Reliance, which has brought cost of data to rock bottom prices, has not been able to offer lower prices at its petrol/diesel retail outlets. This is despite the fact that Reliance primarily refines sour crude, which is cheaper than sweet crude. This could also imply that IPP offers a premium that private companies find hard to forgo. An issue with CPP is that prices will vary as per distances from the refineries. Coastal states with refineries are more likely to benefit than inland states with no refineries, and this can lead to possible discontent among numerous sections of the electorate, which the elected representatives will detest. This also means that CPP for petrol and diesel may bring in lesser taxes for some states, which may not be to their liking. Hence, we can safely conclude that, under current conditions, adopting CPP has to be ruled out.
The third solution, which the government is inclined towards, is including petrol and diesel under GST. If this happens under the current maximum rate of 28%, states’ share of 14% will drastically reduce their source of revenue. This is because many states have VAT that is higher than 14%. Currently, without petrol and diesel, states have been assured of compensation for any loss in revenue. With compliance level at 62.6% in March 2018, the actual average GST monthly collections for FY18 ran a deficit of 24% compared to estimates. Moreover, given the disquiet among the southern states over the Terms of Reference of the 15th Finance Commission and the statement by the finance minister of Kerala that GST has been partly responsible for considerable erosion of their autonomous fiscal space and circumscription of revenue-raising ability, getting all states on board to bring petrol and diesel under GST may not be an easy task.
In a tax-compliant economy, the combination of CPP and GST should result in efficient prices. CPP ensures competition and GST ensures there is no double taxation. However, in reality, the theory of the second-best comes into play, which, in this case, is the third solution. Given the Centre-state equation, can we achieve that?
By- Chidambaram G Iyer, Senior fellow, Pahle India Foundation (email@example.com)