Memo to Jaitley: Why diesel prices should not be cut without full deregulation

With Brent crude prices falling below $100 a barrel, for the first time in seven years India’s oil companies will stop losing money on diesel. They may even start making a small profit, and so there is widespread expectation that prices will be cut on 15 September, when another review is due.

The Petroleum Planning and Analysis Cell (PPAC) says that diesel under-recoveries were down to just 8 paise per litre as on 1 September, and since crude prices have weakened further since then, the oil marketing companies should have blotted out the red ink on diesel altogether. Hence the talk about cutting prices on 15 September.

However, any price cut would be a mistake without an additional announcement - deregulation, partial or full. A partial deregulation would maintain the current freedom for oil companies to raise or cut prices by 50 paise every month; full deregulation means oil companies can raise prices (or cut them) at regular intervals of their own choosing.

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The Narendra Modi government would be making a serious mistake if it cuts diesel prices without actually opting for deregulation. With assembly elections due next month, there may be a political temptation to cut prices and claim some kind of political dividend out of the good luck on oil prices. But this would be irresponsible.

Surely, the government knows that what can go down can easily go up as well. With winter just round the corner, it will take very little - including a worsening of killings in West Asia by ISIS - to start raising oil prices again. If that happens, we will be back exactly where we started.

If it has taken seven years to bring diesel prices up to market levels - and that, too, with a lot of luck from global factors - it is foolish to destroy it by letting things slip again by failing to deregulate and still cutting diesel prices.

Modi’s NDA should learn from Vajpayee’s regime, where oil prices were regularly raised in order to prevent a build-up of subsidy burdens. The UPA failed repeatedly to move prices for nine years - and bit the bullet only in January 2013 - when it became too late to save the government’s bacon. But UPA’s decision has now come to the aid of Modi - and it is thus honour bound to keep doing the right thing.

As I have stated before , there is never a right time for deregulation. The time is always now. In fact, this is the time to take baby steps on deregulating kerosene and LPG, where subsidies are around Rs 33 a litre and Rs 428 per cylinder, leading to daily losses of nearly Rs 195 crore for the oil companies.

The PPAC has projected LPG losses at Rs 12,129 crore in the April-June quarter, and kerosene at Rs 7,524 crore. If the same level of subsidy is maintained through the rest of the year (three more quarters), the year could end with a total fuel subsidy burden of around Rs 90,000 crore - Rs 48,500 crore on LPG, Rs 30,000 crore on kerosene, and the balance being diesel subsidies due till September end,.

Rs 90,000 crore would still be too high for comfort, given that the year’s budgeted fuel subsidy is Rs 63,426 crore - and a significant chunk of this outlay was used to pay last year’s spillover bill of around Rs 24,000 crore. This leaves only Rs 40,000 crore for this year’s subsidy bills. Since the oil and gas producers (ONGC, Gail and Oil India) pick up nearly 40 percent of the subsidy tab, it means they will pay around Rs 36,000 crore this year.

With Rs 40,000 crore still left in the kitty, it means around Rs 76,000 crore of the estimated Rs 90,000 crore subsidy bill is available.

However, to be really counted as reformists, Modi and Finance Minister Arun Jaitley need to do more. It is no longer fair to expect ONGC, Oil India and Gail to carry the subsidy can. They have to bring this part of the subsidy bill into the budget from next year. This can only happen if Jaitley moves ahead with subsidy reforms in LPG and kerosene.

As the diesel example shows, Indian consumers have begun to accept the reality of paying market prices, if it is done slowly and evenly.

Time for the NDA to accept diesel deregulation immediately and more cautious moves on kerosene and LPG after the assembly elections.