As govt dithers, new oil policy is in a shambles

Rapidly dwindling American inventories and severe wintry conditions have combined to trigger a bullish fervour in the international oil market, with the bench mark Brent crude now peaking to a two-year high of $93.46 per barrel after briefly testing the $94.74-mark during intra-day trading.

The Indian crude basket has also moved up in tandem, with the average price for December 2010 (to date) surging to $89.16, up 5.8% over the month and 18.8% over the year.

The discomfiture of the government must be acute indeed. It is obliged to act in a manner that makes economic sense —that is, by hiking up prices of petro goods —but it cannot act, now that inflation is once again rearing its ugly head.

To make matters worse, the contentious political atmosphere rules out anything but the status quo.

The status quo means that under-recoveries of the oil marketing companies will mount to Rs70,000 crore during the current fiscal year, assuming that crude prices remain steady at the current high level, though most analysts believe that that it is not if but when the psychological barrier of $100 will be breached.

At the end of June, hopes soared that the old regime will see a demise when the empowered group of ministers opted to free petrol and okayed an in-principle approval to market-driven prices for diesel too.

A compensation sharing mechanism also would be worked out. An acceptance of a watered-down version of the Kirit Parikh Committee’s recommendations seemed better than let that report gather dust.

Six months later, it is clear that the whole exercise had a chimerical quality about it. We are told by officials of the petroleum ministry that, at the current price of crude, it would be unthinkable to set diesel prices free from government control.

In regard to petrol also, the government threatens to intervene if the prices go up steeply. As far as kerosene and LPG, the revenue loss is set to rise in view of the high crude prices, as the present times are not propitious for contemplating any increase at all in these two items. The promised sharing formula is yet to see the light of day.

The response at home to the flare-up in crude is revealing:

• the meeting of the empowered group of ministers to decide on a revision of sensitive petroleum products has been postponed by a week and is rescheduled for December 30.
• Even in regard to petrol, where a deregulated price regime is in place, the oil marketing companies could not increase prices in commensurate with the rising crude and, as such, they incur a loss of Rs1.25 per litre. There is no clarity as to who will foot the bill —the Centre, the upstream majors or the oil marketing companies (OMCs) themselves, even if it is conceded that the sum involved is rather small.
• As for diesel, kerosene and LPG, where the losses are, respectively, of the order of Rs6.09 per litre, Rs17.72 per litre and Rs272 per cylinder, even with a modest hike, the financials of the OMCs are bound to take a hit. The fear is that even a modest hike may not be forthcoming.
• Any immediate relief by way of budget support this year is ruled out. As it is, the amount of `13,000 crore which the government has agreed to part with towards under-recoveries in the first half of 2010-11 does not find a place in the second supplementary demands for grants which was approved in the winter session.
  This has to wait the third supplementary demand to be placed before Parliament in the ensuing budget session. In the second half too, under-recoveries are bound to be more but timely action is ruled out. Thus, cash crunch will continue to haunt the oil companies.
• The revenue loss during the first half was around Rs31,000 crore of which nearly 25% was absorbed by the OMCs; for the full year, at the current prices of crude, the under-recoveries may top Rs70,000 crore. Thus, of the projected Rs39,000 crore in the second half and even if the government foots one-thirds, and the upstream companies share the loss on account of auto fuels, the impact on the working of the marketing companies will be severe as they will have to absorb the balance.
• Already, the rising crude has derailed the  disinvestment exercise of Indian Oil. The follow-on public offer, slated for the final quarter of this fiscal, has been postponed, thus delaying its refinery capacity expansion plans.

All this raises an interesting question. For a commodity on which import-dependance is very heavy, ad-hoc measures compound the crisis. It was to put an end to this state of affairs that the Centre had set up a committee, headed by Kirit Parikh to look at the whole issue in perspective — though several committees had delved into the same problem and had offered solutions — and make suitable recommendations. They have been effectively put into cold storage.

The old olicy milieu is thus effectively in place, with even in the so-called free market regime for petrol, the oil marketing companies have to seek the informal go-ahead for any price revision.

This policy has neither served the interests of the public sector companies- both upstream and downstream — nor the fisc which has to bear the burgeoning subsidy bill. The consumer too is is ill-served in that he has little incentive to conserve the use of oil.

This is the price we pay when we attempt to turn economic logic on its head. The Kirit Parikh Committee’s report had suggested a way out of the mess but the government has, yet again, missed the bus.