SynopsisTaxes account for a bulk of the retail-selling price of petrol and diesel. Although oil prices are on the boil now and adding pressure to the economy, India had purchased 16.71 million barrels of crude in April-May 2020 at an average cost of USD19. Should we expect some respite? All eyes are on the OPEC meet on April 1.
Manpreet Singh, a South Delhi resident, travels to Gurugram for work twice a week. He thanks his stars and his employer for allowing him to work from home on other days of the week. “My monthly budget would have been up in the air if I had to drive down to office on all workdays. Look at the fuel prices. It’s baffling,” Singh, who drives a petrol car, says.
With fuel-retail prices skyrocketing, it’s a cautionary tale playing across cities. International crude-oil prices returning to pre-Covid-19 levels on reviving demand and supply cut, coupled with record taxes, have meant that petrol has crossed INR100-mark in some places in Rajasthan, Madhya Pradesh, and Maharashtra. In other parts, too, prices are hovering around record levels.
While rising crude-oil prices have a serious bearing on state finances, could the government do its bit to give the common man some respite? Before we get there, let’s first understand why oil is on the boil.
The shadow of production cuts
Rewind to a year earlier. In March 2020, Saudi Arabia and Russia, the two largest oil-producing nations, failed to agree on a deal to restrain production. Just as the Covid-19 pandemic prompted lockdowns and oil demand dried up, a price war ensued, with the two giants unleashing millions of barrels of crude oil. A historic price collapse followed. The price of West Texas Intermediate (WTI) crude fell to an unbelievable negative USD40 a barrel. This was the time when no one was willing to buy crude oil and one of the futures contracts became less than worthless.
Cut to today, March 2021. The same set of nations along with others are curbing output even as demand returns. The price of Brent crude, the international benchmark, briefly climbed above USD70 a barrel on March 8 for the first time since May 2019. The surge comes amid a broader rebound in commodities like copper and corn, as Chinese imports rise and supply remains constrained. But oil’s climb has been dizzying.
On March 4, the Organisation of the Petroleum Exporting Countries (OPEC) and its allies surprised the market by agreeing to extend production cuts to April. The fears of supply disruption have pushed prices higher. Most analysts believe that crude oil is heading towards USD80 per barrel.
For more than several decades, Saudi Arabia has been holding OPEC together because of its 25% share in the oil cartel (11% out of OPEC’s 40% overall output). The cartel itself accounts for some 40% of the world production. Saudis always decide or influence the level of oil prices. And this is where Saudi Arabia’s 12% world share in oil output is important, along with Russia’s 11%, and US shale at around the same level.
But gradually the rise of US shale oil can derail Saudi’s ability to swing prices. Experts believe if the Saudi share goes below 10%, it will lose the power to hold the cartel together.
Over the weekend, Houthis — the Shia rebels fighting the Saudi-backed government in Yemen — tried to attack Saudi Arabia’s Ras Tanura, home to three giant oil-export terminals and a refinery that supplies a quarter of the kingdom’s fuel.
There was no damage to Ras Tanura, but the attack was the most significant since September 2019, when strikes briefly stopped half of Saudi oil production. The attempt at Ras Tanura rattled markets already anxious about America’s recent air strikes in Syria. The US expressed concerns over “genuine security threats” to Saudi Arabia and said it would look at improving support for the West Asian nation’s defences.
What primarily made crude rally to the recent highs was Saudi Arabia’s decision to maintain its 1 million barrel-a-day voluntary production cut. Russia is slightly less cautious – it will increase output by a modest 130,000 barrels a day – but it has a new reason to keep prices up. Higher social spending means that Russia now requires an oil price of USD64 a barrel to balance its budget, up from an average of USD51 in 2018 and 2019, estimates S&P Global Platts, a data firm.
The burden of record taxes
Oil minister Dharmendra Pradhan has urged the oil-producing nations to ease production curbs to fulfil their promise of stable oil prices. In reply, OPEC and its allies ignored India’s plea, with Saudi Arabia asking New Delhi to instead use oil it bought at rock-bottom rates last year.
India had purchased 16.71 million barrels of crude in April-May 2020, and filled all the three strategic petroleum reserves created at Visakhapatnam in Andhra Pradesh and Mangalore and Padur in Karnataka. The average cost of that crude purchase was USD19 per barrel, according to Pradhan’s own written reply to a question in the Rajya Sabha on September 21, 2020.
Price of domestic cooking gas, LPG, has doubled to INR825 per cylinder in the last seven years, while the increase in taxes on petrol and diesel has swelled tax collections by over 459%, Pradhan said. In written replies to a series of questions on rising fuel prices in the Lok Sabha last week, Pradhan said the retail selling price of domestic gas was INR410.5 per 14.2kg cylinder on March 1, 2014. This month, the same cylinder costs INR825.
To be sure, taxes account for a bulk of the retail-selling price of petrol and diesel. The minister said tax collected on the two fuels was INR52,537 crore in 2013, which rose to INR2.13 lakh crore in 2019-20 and swelled further to INR2.94 lakh crore in the first 11 months of the current fiscal. The government currently levies excise duty of INR32.90 per litre on petrol and INR31.80 a litre on diesel, Pradhan said adding that excise duty on petrol was INR17.98 a litre and INR13.83 on diesel in 2018.
The pressure on the fisc
The rising crude spells bad news for India’s finances, especially when the economy is trying to recover from the disruption caused by Covid 19. Ballooning fiscal deficit is a cause for concern given that India is the world’s third-largest oil importer and consumer. Its top suppliers are Saudi Arabia and Iraq.
According to a Reserve Bank of India report, every USD10 per barrel increase in crude-oil prices leads to an additional USD12.5 billion current account deficit (CAD), which is roughly 43 basis points of India’s GDP. In other words, every USD10/barrel increase in crude price will shoot up the CAD/GDP ratio by 43 basis points. Hence, when crude prices hit USD85/barrel, the deficit on account of oil widens to USD106.4 billion, which is 3.61% of India’s GDP.
Also, the secondary effects of fuel-price hike lead to a more generalised nature of inflation due to its cascading nature. Rise in inflation is bad news at a time when the central bank is trying to accelerate economic growth by keeping interest rates low. While some states such as Assam and Tripura have cut taxes on fuel, the central government has so far resisted a reduction in excise duty rates on auto fuels.
The bottom line
The rapid increase in oil prices is set to fuel a global debate on the potential resurgence of inflation and complicate the job of the US Federal Reserve. The treasury market is already on the hedge, with benchmark yields rising fast.
Rising crude prices will add pressure to the Indian economy, which is heavily dependent on imports and trying to steer through a downturn. Lower oil prices in the past year had helped the government collect higher taxes on fuel amid a slump in overall tax revenues. However, retaining high taxes without further rattling the common man will become a challenge for the government.
India, on the backfoot due to rising international crude prices, is still pleading OPEC and its allies to boost supply and support economic recovery. But it has so far won only a little sympathy.
The oil cartel meets again on April 1. At least till then, the oil remains on the boil.
(Graphics by Sadhana Saxena)
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