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India courts risk with fuel hike
June, 05th 2008

The Indian government has raised fuel prices despite warnings that the move could cost it votes with key elections looming.

India imports 75% of its oil, and spends billions of dollars subsiding fuel for its citizens.

The subsidies mean that petrol is sold considerably cheaper than its free-market value.

India accounts for 3% of the global demand for oil. This is lower than China's 9% and the US's 25%, but demand is rising fast on the back of a booming economy.

Oil price rises are a sensitive political issue in India, where a marginal rise in the price of, say diesel, triggers off food and other commodity inflation.

Road and rail transport carry most of India's food and other goods and are totally dependent on diesel.

With inflation hovering around 8% - the highest in four years - the Congress party-led federal government has been wary of increasing fuel prices for fear of antagonising voters.

The governing party is facing elections in a number of states this year.

"The government was in a bind. You are damned if you increase prices, you are damned if you don't," says economic analyst Paranjoy Guha Thakurta.

Company losses

Three quarters of India's crude oil requirements are imported, and with international oil prices doubling in less than a year, the country's oil import bill has risen unacceptably.

India's three state-run oil importing, refining and marketing companies have been losing huge sums of money as they have been unable to raise prices.

These companies do not function independently. The decision to hike the prices of their oil products is taken by the cabinet committee of economic affairs, India's highest decision-making body on matters relating to the economy.

For every litre of petrol and diesel sold in retail, these companies lose around 22 rupees and 32 rupees respectively.

And for every cylinder of cooking gas sold, the companies lose around 353 rupees ($8.40).

A farmer in India with his diesel fuelled tractor carrying food
Higher oil prices push up prices of food in India

During the last financial year which ended in March, the three companies lost nearly $17bn because of selling at under the market rate to consumers.

The companies told the government that if they were not allowed to raise prices, they would lose a massive $50bn this fiscal year.

To put this into perspective, the projected loss is 5% of India's gross domestic product (GDP), the total value of goods and services produced.

It is also higher than the country's 3.5% fiscal deficit, which is the excess of government spending over revenues.

'Serious crisis'

The three state-run oil companies told the government they would run out of money to even import crude oil within a few months if the oil prices were not raised.

"It is better to pay more for oil than have no oil at all," said federal petroleum minister Murli Deora, hinting at the seriousness of the situation.

The government's Communist allies have stubbornly resisted moves to increase oil prices, and insisted that the government should cut import duties and other taxes to hold prices.

Petrol products in India comprise the single largest contributor to indirect taxes.

The government has said that cutting taxes would leave less money in its coffers and severely impair social spending.

That is precisely what it was forced to do when announcing what Mr Deora called a "marginal hike" in the prices of petroleum products on Wednesday.

The government slashed customs duty by 5% on crude and oil products to offset some of the price rises. It also cut excise duty and petrol by one rupee a litre.

These tax cuts will now leave the government short of some $5bn worth of revenues.

"Emerging-market countries from Indonesia to India are not being able to sustain ballooning oil subsidies any longer and have no choice but to pass on the cost of higher oil to consumers," says Ruchir Sharma, managing director at Morgan Stanley Investment Management.

In a similar situation during the 1970s oil crisis, the Indian government passed on steep price rises to the consumer.

But analysts say demand for oil in India was much lower in what was then one of the slowest growing economies in the world.

World oil prices have risen 85% over the past 12 months, according to some estimates.

The International Energy Agency reckons that global demand will rise to 86.8m barrels a day this year, up from 85.8 barrels last year, riding on increasing demand from developing nations like China and India.

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