Slaying oil price Jabberwock: The need to create the Vorpal Blade

If the government intends to control the periodic decimation of the economy by cyclical increases in oil prices, it needs to adopt short-term (introduce differential pricing), medium-term (create a statutory oil price management fund) and long-term (shift from diesel to LNG/CNG) measures.

Slaying oil price Jabberwock: The need to create the Vorpal Blade
Rising oil prices are once again creating ripples in the Indian economy after a hiatus of six years.

Rising oil prices are once again creating ripples in the Indian economy after a hiatus of six years. The strange thing is the government, when it was in the opposition, severely criticised the then government, but does not appear to be implementing necessary measures that would prevent it from being exposed to the same criticism.

It is almost as if the government thought that high oil prices will never occur and were only a phenomenon of the previous regime, and forgot the warning “Beware the Jabberwock, my son!” stated so well by Lewis Carroll in ‘Through the Looking-Glass’. Well, it’s back and the government has failed to develop any ‘Vorpal Blade’ that can go ‘snicker-snack’ at the oil price Jabberwock.

At the time of writing, there have been 16 price rises in 16 days since the end of the Karnataka elections. The political reaction of Kerala to cut the retail price by Rs 1 (which is done by cutting state taxes, and will only cost the state much-needed revenue), and of the Centre by directing oil companies to cut prices by a few paise, resulted in a subsidy of Rs 1.2 crore per day on the national daily diesel consumption volume and a subsidy of Rs 53.2 lakh per day on the national daily petrol consumption volume.

It is also strange to see the spectacle of the current opposition vilifying the limited discount “as a joke,” considering it was their government that took the measures to float the retail prices fully to the international market without implementing any measures to ensure that retail prices remain buffered.

The government has also announced investment in ‘futures’. This appears to be done more for the optics, since it is well known that it is expensive to look at futures when prices are rising. If the government intends to control the periodic decimation of the economy by cyclical increases in oil prices, there is a need to adopt short-term, medium-term and long-term measures.

Short-term measure: Oil companies undertaking retail sale of petroleum should introduce differential pricing, allowing for cross-subsidisation to occur whereby (1) the sale of diesel in rural areas, islands and the Northeast (used for tractors, farm equipment, small fishing vessels, irrigation gensets, public buses and taxicabs) is subsidised by the sale in urban areas, and (2) within urban areas, the sale to two-wheelers and cabs is discounted compared to sale to SUVs and private cars above a certain fuel tank capacity. Such a measure within urban areas can also be introduced by the introduction of volumetric sale price differential (i.e. sale of up to five litres at a lower price compared to sale above that, in, say, five-litre brackets). Such a differential pricing is not difficult to implement and can be rolled out almost immediately and maintained.

Medium-term measure: It could be the creation of a statutory National Oil Price Management Fund funded by (1) one-time transfer of a certain percentage from the profits of national oil companies, (2) an oil price fund cess on sale of more than 10 litres of petrol and diesel occurring at a time, (3) management of funds including investment in viable futures, and (4) issuance of tax-free securities by the statutory fund to raise further corpus.

This fund can be utilised to subsidise retail oil prices as it achieves a certain level of corpus and be released to the relevant oil companies that undertake retail subsidisation. The fund has to be statutorily protected from diversion in low oil price cycles, as it is during such cycles that it would grow and be capable of being used to provide the buffer for retail prices in high price cycles. It can be managed by professional financial management entities.

Another medium-term measure would be to decrease the use of third-party dealers by national oil companies and require oil companies to undertake direct sale through company-owned and operated retail stations. This immediately saves dealer commission, which for IOCL, BPCL and HPCL averages Rs 3.64 per litre (for petrol) and Rs 2.53 (for diesel). Removal of dealer commission by creating a direct retail chain by relevant oil companies will provide a considerable buffer in itself.

Long-term measures: These include shift in fuel for public transport, captive gensets, commercial trucking and private mobility, to LNG and CNG which, as a commodity, are cheaper than diesel and petrol, and also comparatively environment-friendly. This would entail (1) a nationwide roll-out of small-scale LNG infrastructure that can be undertaken through city gas distribution (CGD) entities or independently where CGD is not active, (2) incentives to shift from diesel to LNG and CNG or hybrid of diesel and LNG, including for state transport corporations, railways, interstate trucking companies, private vehicles, captive gensets used by housing societies, and (3) the use of the National Clean Energy & Environment Fund (NCEEF) to support the roll-out of small-scale LNG infrastructure and supply and incentivise conversion of private vehicles to hybrid LNG-diesel/petrol vehicles.

The price difference between LNG as a commodity and crude oil is stark, and shifting of personal and commercial transport from diesel to LNG will result in a drastic drop in the overall import bill. The national daily diesel consumption stands at 23.85 crore litres, and at an average price of Rs 72 per litre currently, it amounts to Rs 1,717.2 crore per day. If even 20% of the daily demand is shifted towards LNG, it would reduce diesel consumption to 19.08 crore litres per day, and result in savings not only from the reduced diesel expenditure by corresponding amount, but also add further savings in light of the lower cost fuel (LNG) being used by the same vehicles.

LNG for trucking and public transport is especially attractive as it enables increase in operational life of vehicles and reduces cost, in addition to reducing pollution. The only challenge is the lack of infrastructure to support a nationwide roll-out of such conversion, and for that CGD entities and others (functioning outside CGD areas) need to be directed. It is expected that such a roll-out would take 3-4 years.

Electric vehicles are being touted as the next-generation development, but they won’t have any major impact in the foreseeable future or even in the long term as small-scale LNG can have. The reasons are that they need electricity, which is in short supply, and India’s power distribution and generation capacity will take time to support any major use of electric vehicles. Also, the development of charging stations will take a long time in terms of commercial licence of use and the cost of electricity for charging these vehicles would be high. Small-scale LNG infrastructure can be rolled out much faster.

Lastly, electric vehicles, over their life-cycle, are more polluting than LNG-powered vehicles as they will generate a large quantity of battery waste, which is toxic—moreover, India doesn’t have battery waste processing capacity. LNG, on the other hand, does not add another category of waste. Implementing these measures should not only tide us through the current crisis, but also create the proverbial Vorpal Blade that goes ‘snicker-snack’ at the oil price Jabberwock.

By Piyush Joshi

The author is Partner, Clarus Law Associates—energy, infrastructure and project financing.

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First published on: 11-06-2018 at 03:03 IST