Aligning domestic fuel prices with international prices is critical to rein in subsidies and strengthen the country’s energy security, according to Crisil Research.
With the losses incurred by oil marketing companies (OMCs) on selling regulated fuels below their market prices (under-recoveries) reaching alarming levels, an urgent corrective action, such as hiking the price of diesel, has become imperative.
Diesel prices were last revised in June 2011 along with kerosene and LPG prices.
At present, OMCs are incurring record-high losses of about Rs 14 per litre on diesel, Rs 29 per litre on kerosene, and Rs 250 per cylinder on LPG.
Non-revision of the administered prices of these fuels, since then, has severely impacted the liquidity and profitability of OMCs and massively inflated the Government’s subsidy burden.
The aggregate losses of over Rs 40,500 crore in a single quarter reported by the three public sector OMCs (IOC, BPCL and HPCL) is certainly a cause for concern. Losses increased sharply primarily because of the absence of any Government compensation towards under-recoveries incurred in the quarter. Increase in interest costs and inventory and forex losses aggravated the situation.
Given the seriousness of the problem, it is crucial that prices of regulated fuels be raised by 10-15 per cent immediately and gradually be linked to international prices. This may affect domestic fuel inflation in the short term, but in the long term, the move would help ease the Government’s subsidy burden and reduce wasteful consumption of regulated fuels such as diesel. In addition, it will help the OMCs reduce their dependence on the Government for reimbursement of under-recoveries and give them enough flexibility to undertake capital expenditure and make acquisitions.
NO OPTION
The rising under-recoveries are not only hurting the OMCs but also the Government’s finances. In 2011-12, oil subsidies constituted 32 per cent of the Government’s total subsidy burden, amounting to Rs 83,500 crore. Of this, the Government has already provided for Rs 45,000 crore in 2011-12 and the balance Rs 38,500 crore was to be paid in 2012-13. However, for 2012-13, the Government has made an overall provision of merely Rs 43,600 crore for oil subsidies. Of this, more than 80 per cent will be exhausted towards payment of the balance subsidy for 2011-12. If the prices of regulated fuels are not revised upwards, the under-recoveries will remain high in 2012-13 and may even surpass 2011-12 levels. Consequently, the share of oil subsidies in the fiscal deficit, which has already increased to 16 per cent in 2011-12 from six per cent in 2009-10, will continue to be high in 2012-13. The Government will be left with no option but to borrow additional funds to compensate the OMCs during the year, thereby adversely impacting its fiscal position, assuming other factors remain constant. This, in turn, could exert further upward pressure on interest rates, besides limiting the Government’s ability to fund critical social and infrastructure projects.