This was coupled with a decision to charge bulk consumers like defence, railways and state transport undertakings market price which is almost Rs 10 a litre more than retail selling rate, to save an estimated Rs12,907 crore in annual subsidy.
As a sweetener to the bitter pill, the Cabinet Committee on Political Affairs chaired by Prime Minister Manmohan Singh bowed to public pressure to raise the cap on subsidised LPG to nine cylinders per household from six.
State-owned oil companies in a parallel cut petrol price by 25 paise a litre in view of softening in global oil rates.
The decisions on diesel rate increase for retail and bulk consumers will cut subsidies by about Rs 15,000 crore on an annualised basis and by Rs 3,400 crore in remainder of FY'13.
While the base hike in diesel price was 45 paisa, it will lead to an increase of 51 paisa in Delhi after including local VAT. New rate of Rs47.66 a litre will be effective from midnight tonight.
Similarly, while the base rate cut on petrol was 25 paisa, it will translate into a reduction of 29.75 paisa in price in Delhi to Rs67.27 a litre with effect from midnight tonight.
While subsidised LPG rates haven't been increased, non-subsidised cooking gas which consumers will buy beyond their new entitlement of 9 cylinders, will cost Rs46.50 more at Rs942 per 14.2-kg cylinder.
Bulk users, which consumer around 17.77 per cent of the total diesel sales in the country, will pay Rs 56.88 a litre in Delhi with effect from midnight tonight. These rates would be revised on 1st and 16th of every month based on previous fortnight average oil cost. The same is the methodology followed for pricing of jet fuel (ATF).
Prices vary from city to city due to differential local sales tax or VAT rates.
The hike in diesel price will help neutralise the Rs 10,000 crore hike in bill to subsidise domestic cooking gas (LPG) whose rates along with kerosene have been untouched.
Oil Ministry M Veerappa Moily said the decision to allow oil companies to make "small changes" in diesel rates from time to time was necessiated as oil companies, which import about 80 per cent of their oil needs, faced closure in absence of being able to recover even cost.
Oil company borrowings hit Rs 200,000 crore. Diesel accounts for 59 per cent of the estimated Rs 161,000 crore fuel subsidy bill in 2012-13.
"We have given some liberty to oil marketing companies to raise diesel prices in small dozes. They are authorised to make small price correction from time to time," Moily said.
"They should exercise this discretion in such a manner that inflation is not impacted. Also, the entire burden is not put on consumers," he said. "The decisions (on price increase) will be balanced and with human face."
Asked what small meant, he said "small means small."
Finance Minister P Chidambaram maintained that the oil companies have been allowed to make "small correction from time to time."
"I am not factoring in at this moment (the price rise). I am proceeding on the basis that the subsidy bill remains the same (as earlier)," he said.
Opposition parties and allies like Samajwadi Party slammed the government's decision on diesel calling it deregulation. Demanding a rollback, they said the decision to allow periodic hike in diesel prices would have an alround spiralling effect on commodity prices and transportation cost.
They were not impressed by the decision to raise the cap on LPG cylinder calling it is a political gimmicks.
The price cut in petrol, which was deregulated in June 2010, is the first revision since November and was announced by oil companies independent of the government decision.
Previously, petrol price was cut twice in October and November - first by 56 paise and then by 95 paise per litre.
Price of diesel was last revised on September 14 when it was hiked by a steep Rs 5.63 per litre. Kerosene rates have not changed since June 2011 and it currently costs Rs 14.79 per litre in Delhi.
Subsidised LPG costs Rs 410.50 per 14.2-kg cylinder and any household requirement beyond the new cap of 9 cylinders will have to be bought at Rs 942 per bottle.
As per the September 13 decision of the CCPA, which had originally capped subsidised LPG supply at 6 cylinders per household in a year, the non-subsidised LPG was to be market priced.
Oil Secretary G C Chaturvedi said after today's decision, consumers will get 5 subsidised cylinders instead of previously mandated 3 in the period to March 31, 2013. From April 1, 2013 they will get 9 cylinders in a year.
Moily said the decisions at CCPA were based on recommendations of the Vijay Kelkar Committee, which was appointed by the Finance Ministry to suggest a roadmap for fiscal consolidation.
The panel had recommended an immediate hike in price of diesel by Rs 4 per litre, of kerosene by Rs 2 a litre and of LPG by Rs 50 per cylinder. Thereafter, it suggested raising rates on a monthly basis till revenue losses are wiped off.
Officials and ministers refused to call the CCPA's decision as deregulation but experts felt that this could be the beginning of such a course.
Moily said the decision to decontrol diesel was taken in June 2010 but was not implemented. "We have now given the liberty to oil marketing companies to go for small increases. We have taken the first and decisive step. When it is to be totally deregulated, has been left to the oil marketing companies," he said when asked whether today's decision would amount to complete deregulation or partial deregulation.
Finance Minister P Chidambaram refused to enter into a discussion on the issue.
The government had in June 2010 deregulated petrol pricing and had in-principal decided to decontrol diesel. Though decontrolled, petrol rates have rarely moved in tandem with cost and state-owned oil companies have often acted on political counsel in deciding on rates.
The decision on diesel was never implemented.
Before today's decision, state-owned oil companies sold diesel at a loss of Rs 9.60 per litre, kerosene at Rs32.17 a litre and LPG at Rs490.50 per 14.2-kg cylinder.