Has the Ramleela fiasco led the government to put off diesel, LPG price hike?

The EGoM meeting that was scheduled on Thursday to decide on increasing diesel and LPG prices has been cancelled. Has the government deferred a decision on the hike to avoid fuelling anger that was set off by the midnight crackdown on anti-corruption protest led by Baba Ramdev?

The Empowered Group of Ministers (EGoM) was scheduled to meet on Thursday this week, to decide on subsidies provided to the oil marketing companies (OMCs) and the hike in the price of diesel and liquefied petroleum gas (LPG) used for cooking. However, finance minister Pranab Mukherjee's office has sent out a letter to various ministries cancelling the meeting on subsidies and pricing.

Although this is not the first time that a meeting of the EGoM has been cancelled, the change of mind appears significant in the wake of the incidents at the weekend over the anti-corruption protest being led by Baba Ramdev. This also raises questions about whether the government may have been aware of the midnight action and the likely after-effects, and therefore cancelled the meeting that could have escalated matters.

The crackdown by police to disrupt the hunger protest has sparked off an uproar and it is possible that the government may have chosen to step back on the fuel hike in the heated atmosphere.

Except on one occasion in 2008 and another in 2009, fuel prices have been hiked regularly, on higher crude oil prices globally. It is said in Marathi that earning 1-2 paisa on a rupee is business and earning more than that is 'corruption'. In the case of fuel prices, the government levies taxes as high as 50%. On the one hand government wants to continue with subsidies on diesel, LPG and kerosene, and on the other hand it will not reform or cut duties on fuel.

Last month, Indian Oil Corporation (IOC), the largest oil marketing company in the country, expressed its desire to raise prices of petrol by another Rs1.50 a litre, following a Rs5 per litre hike just three weeks ago. According to RS Butola, chairman, IOC, the company's under-recovery stands at Rs12.64 a litre for diesel, Rs25.85 a litre for kerosene and Rs380.50 on an LPG cylinder.

About 80% of the domestic consumption of petroleum products in the country is met through imports, which is why global prices have a decisive influence on domestic prices. In the crude refining industry, crude oil constitutes about 90% of the total cost.

Over the years, the fuel price hike was limited to petrol and OMCs continued to suffer losses on other fuels. The reason is simple. Petrol constitutes just 1.1% weight in the wholesale price index (WPI) compared with a weightage of 4.7% for diesel. LPG and kerosene have a weightage of 0.9% and 0.7%, respectively; but these are very sensitive items, so no government wants to meddle with these prices. In addition, since petrol prices were de-regulated last year, there is no need for OMCs to get ministerial approval to increase the prices. (see image below)

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OMCs incur under-recoveries of Rs479 crore a day on sale of diesel, kerosene sold through the public distribution system (PDS) and LPG. The government says that in order to insulate the common man from the impact of the rise in international oil prices, it continues to modulate the prices of these three sensitive petroleum products. The government provides fiscal subsidy under the 'PDS kerosene and domestic LPG subsidy scheme 2002'. The scheme was subsequently extended beyond 31 March 2010 to 31 March 2014.

The retail selling price of sensitive petroleum products, namely diesel, PDS kerosene and domestic LPG, are calculated by taking into account (a) the price paid to the refinery on trade parity/import parity basis, (b) inland freight up to the market, (c) marketing margin, (d) dealers' commission, (e) excise duty, (f) value-added tax, (VAT) and local levies.

For example, petrol prices in Delhi are at Rs63.37 per litre. This includes an excise duty of Rs14.79, sales tax/VAT of Rs10.32, customs duty of Rs2.74 and dealer commission of Rs1.22, that is a total of Rs29.07 on every litre is towards taxes and duties. This means that over 45% of the Rs63.37 for each litre is going to fill government coffers!

During April-September 2010, OMCs incurred under-recoveries of Rs31,367 crore. The Union government compensated Rs13,000 crore as cash assistance and Rs10,456 crore as upstream assistance by way of price discount on crude oil and products. However, during the six months to September 2010, the OMC had to bear under-recoveries of Rs7,911 crore.

Whenever basic prices of petroleum products are increased, the ad-valorem rates of taxes have a cascading effect on the retail selling prices. The Union government wants the State governments to rationalise their taxes on sensitive petroleum products like petrol, diesel, PDS kerosene and domestic LPG, and also shift from the ad-valorem tax rates to specific tax component. However, it prefers to keep mum over excise duty.

According to estimates, in FY11 the Union government earned Rs135,433 crore and the State governments around Rs90,000 crore as taxes from petroleum products, compared to Rs111,779 crore and Rs72,082 crore, respectively, in 2009-10. At the same time, for FY11, the under-recoveries of OMCs are expected to be Rs116,000 crore, part of which is repaid by the government through cash subsidies, oil bonds and upstream assistance.

The price hike has affected consumers, mostly car owners. In a research report, Religare Capital Markets, said, "While we had maintained that the monthly cost of ownership does not change materially due to an increase in vehicle prices or interest rates, a fuel price increase of Rs19.5 per litre since January 2010 has significantly pushed up the monthly cost of ownership of personal vehicles. Our analysis suggests that the monthly cost of ownership of an average city passenger car commuter has increased by Rs3,000 or 20% since January 2010. The monthly cost of ownership of a two-wheeler commuter in the same period has increased by Rs650 or 20%. About 70% of the increase in the cost of ownership can be attributed to the Rs19.50 per litre increase in petrol prices since January 2010."

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With petrol prices going higher day by day, more and more buyers would go for cars powered by diesel. "We expect high petrol prices to lead to a shift in the demand to diesel cars from petrol cars, at least in short to medium term. The gap between cost of ownership between diesel and petrol cars is now about 16% and it would induce customers to consider the diesel car option," BRICS Securities said.

Macro headwinds continue to aggravate and this has increased the ownership cost in the form of higher interest rates, increasing fuel prices and price hikes. Consequentially, footfalls at dealerships as well as conversion rates have fallen over the last two months. Sharekhan in a research report, said, "We do not see headwinds subsiding as we expect the Reserve Bank of India (RBI) to sustain its monetary tightening policy. In addition, fuel prices may see more rounds of hikes in the near future. However, on the positive side, we believe that a good monsoon will play a major role in driving a decent growth in the sector on a high base of FY2011."

June is a very crucial month in India, as the arrival and progress of the monsoon have a sentimental impact on the markets. This time, however, there are other events that could play an important role on the micro-economic front, and the cancellation of the EGoM on the fuel subsidy and price hike is one such factor. In the short-term the market will keep an eye on the political impact of Baba Ramdev's eviction, as also the April index of industrial production (IIP) data, inflation data for May and the RBI's policy rates.

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