IMPACT OF DEREGULATION OF DIESEL PRICES ON INDIAN ECONOMY

PrashantNavin Gupta
MBA IB 2011-2013 26

India in 2011 is celebrating its 20 th year of economic independence. After liberalization reforms of 1991, India and its people enjoyed its integration with the global mainstream economics. From the verge of bankruptcy India has climbed to attain the status of world s second fastest growing economy with the total GDP of 1.7 trillion dollars. India s forex reserves now stand at an astounding 300 billion dollars. Within 20 years India has attained a formidable status and the world now reckons it among the major economic super power s. But can we now remain complacent about our miraculous growth or do we still have a long way to go? The vision that we aspire still needs a lot of efforts from our policy makers. We need to keep fuelling our growing economy. We need a second generation of economic reforms. Oil and diesel price deregulation would be one such path -breaking step. India is a developing energy importing economy. India relies on imports for more than 75 per cent of its energy needs. The Indian government sets retail prices of petrol, diesel, cooking gas and kerosene to help control inflation and protect consumers from sharp fluctuations in global energy prices. The price-setting policy affects earnings of Oil Marketing Companies (OMCs) such as BPCL, HPCL and Indian Oil which are forced to sell fuel at below the prevailing market rates, for which the government provides certain subsidies to such companies to compensate the sale of fuel at cheaper rates. However because of the rapid growth in industry and economy, our energy imports are now growing at a very fast rate putting fiscal pressures on the government and OMC s. The social and fiscal costs arising out of the current method of subsidisation, and taxation are very severe. It added over Rs 150,000 crore to the country s debt burden and public sector upstream companies lost over Rs 120,000 crore.. India s gross debt, as a proportion of GDP, is one of the highest am ong emerging markets. The sovereign debt crisis in southern Europe shows that continued deterioration of public finances could easily snowball into rising interest rates and a period of painful economic adjustment.Still a huge chunk of the burden had to be borne by the OMC trio. In the entire process, all these PSUs not only failed in creating wealth for their investors the government being their single largest shareholder but also had to curtail dividends. The social losses (of present system) include, misuse/wasteful use of scarce petroleum resources, diversion, adulteration, other avoidable negative externalities, improper substitution between products, tax arbitrage, distortion of consumer preferences

and input choices of industries, and internationa l cross hauling of petroleum. Hence in the long run it seems unviable to maintain this subsidy. Complete deregulation of oil and diesel prices would have huge repercussions on the Indian economy. Diesel is mainly used by farmers, transportation and industry. The immediate effect of deregulation would be increase in inflationary pressure driven by the surge in transportation costs. Indian Economy at present is already battling inflation and deregulation would further put pressure on the RBI and central government to revise the base rates. This would endanger investor confidence and might result in outflows of FII as well as slowing of our growth rate. But these effects are myopic and in the long run deregulation would help stabilize our economy.It would lead to better financial health of PSU in industry enabling them to bid for better resources in future and ensure energy security for our nation. They will be in a better position at international ventures. Free market condition would result in more competition and will also lead people to make judicious use of valuable petroleum and diesel products. After some years our fiscal deficit would be lowered and this will attract foreign investors. .For the three oil marketing companies (OMCs) and also their battered investors which had dropped in an abyss of losses for the past five years, there s finally a light at the end of the tunnel.Although the players have been managing themselves somehow, they never really prospered all these years. All of them consistently underperformed the markets for the past five years. With their dividends also coming down, retail investors suffered both ways. It will, therefore, be good to see them unshackled and able to compete freely. On the combined turnover of Rs 530,000 crore, if they are able to generate even 5% net profit, all three companies could figure in India s top 10 profit making companies. This will not just boost their share prices, but will also benefit retail investors by way of attractive dividends. The key benefit that the marketing companies get from the oil price de-regulation is that their cash flow will improve and thus they will be able to reduce their borrowing. This, in turn, will greatly reduce their interest burden and improve net profit. Keeping these factors in mind it was kriti-parikh committee that first suggested complete deregulation of diesel in the economy. Recently the planning commission deputy chairman MrMontek Singh Ahluwalia has also requested the government to pace up diesel deregulation to save money that is spent on subsidies.

Table Showing oil and petroleum prices in different parts of the World Deregulation would also hit the automobile industry. After deregulation the price difference of petrol and diesel will gradually reduce. Such a scenario will not be desired by several car manufacturers whose product line place a great emphasis on diesel economy. At present the move is also politically difficult. Deregulation would result a price hike of up to Rs 7 per litre.however the government can take the plunge by showing the general populace the long term shrouded vision and benefits of such a huge step. After deregulation huge amount of money would be saved that was previously spent in the form of oil bonds to compensate OMC s of their operational losses. This money could then be utilized to create better infrastructure for increasing automobile efficiency. Part of this money could be invested in agriculture that can ease the resulting inflationary pressure from the government. Oil bonds of value up to 9000 crores was taken from tax payer s money. Thus common man would have to pay lower taxes after deregulation. The government s profitability would improve and additional revenues would be generated. For the extremely poor section of the society the government can continue issuing subsidies. This selective subsidy would be a win-win situation for both the government and the common man. NandanNilekani s UID project would be of great help for recognizing the target group for selective subsidies .

Our leaders and economic think tanks have to once again take a huge plunge. Phased deregulation of oil, diesel and petroleum products has to done regardless of immediate repercussions for the long term benefits of the nation. This would be a milestone decision and a dj vu of 1991 economic liberalization but would have similar miraculous success. This will reconcile our economic growth, improve living standards, secure sufficient energy supply, manage domestic environmental preservation, control GHG s and increase energy efficiency. This milestone step would fuel our second era of super growth and help our nation become a major economic super power. It s indeed in the best interest of the nation that the government takes the big plunge before it becomes too late.