Indian Politics And Dilemma Of OMC'S
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Indian politics and dilemma of OMC's

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Equity market analyst
See interview of Santosh  Singh
India is the fourth largest consumers of crude oil after US, China and Japan. It is forecast to become the world’s third largest oil consumer in some years surpassing Japan. But here we are going to discuss the plight of the Indian oil marketing companies and not the much hyped Indian growth story. As the consumption of crude increases so will the pressure on the Oil Marketing Companies (OMCs), the downstream petroleum sector, and ultimately to the government and the Upstream oil sector, as the policy followed by the country had long been of petroleum product pricing on the health of India’s national budget.  Nation’s petroleum product pricing and taxation regime has for several years systemically produced large losses for downstream marketing companies, significantly restricting their cash flows, liquidity and simultaneously placing significant financial burden on upstream companies. Earlier the government used to provide “oil bonds” to OMCs in lieu of their losses. However, this practice was stopped in 2010, though the government continued providing subsidy to the OMC’s in the form of cash. The reason behind scrapping the practice of providing oil bonds was given that the government wants to make the system more transparent. The mechanism for oil bonds was not very old and came into practice only in 2005-06. Bonds being in the nature of deferred payment helped the government in keeping the bloating oil subsidy bill off its budget. While, devising the mechanism it was thought that if the payment was made through a cash outgo, it could increase the fiscal deficit.  But the mechanism went to stupor only after 5 years of its existence and the government worried of the rising fiscal deficit once again resorted to cash subsidy to the oil marketing companies, again the reason was given that cash subsidies are more transparent and serve the OMCs' cash needs better. Also, since they have an impact on fiscal accounts, the government is likely to be more careful is disbursing them.
Now let us discuss the technicalities of the oil bonds, though the instruments were named bonds but unlike other regular bonds they were just a mode of compensation for the OMC’s, as government was not getting any money by issuing them, while the OMC’s were getting just a meager interest income and a face value at maturity, above all they were something forced not desired, as the interest income was mostly indefinitely delayed and OMC’s were accepting it merely to restrict damages to their finances, as the oil bonds were shown as an 'investments' in their balance sheet. Fuel prices in India had long been subsidized that led to under recoveries for the OMC’s. Under recovery means accruing lesser money on selling fuel products at a government fixed price, that is lower compared to the globally determined purchase price of crude, the more the government inclines towards people welfare through this mode, the more the pressure is on the oil companies.
The government of India has been following the decades old regime of the administered price mechanism (APM) in petroleum, a system based on the retention price concept under which the oil refineries, oil marketing companies and the pipelines are compensated for operating costs and are assured a return of 12% post-tax on networth. Under this concept, a fixed level of profitability for the oil companies is ensured subject to their achieving their specified capacity utilisation. The government initiated a step forward, moving away from the administered pricing regime to market-determined, tariff-based pricing in the year 2010 by freeing up of petrol prices and expressed its intention to free diesel prices too. But the present scenario clearly shows that the initiatives were merely eyewash and the coalition government shackled by the demands and wishes of its allies to keep the government moving still lacks the will to make it a reality. As per current reports the PSU run OMC’s are losing over Rs 7.50 per litre on petrol, as they have been some or other way restricted to raise prices, whether it be the state elections or the rising inflation numbers. The dichotomy is that Oil firms lost about Rs 4,500 crore in 2011-12 on account of selling petrol at less than the market price and are not going to be compensated by the Government for their losses as petrol is a decontrolled commodity. After the elections, it was widely expected that the fuel prices including diesel will be increased. But the political compulsions have time and again restricted the government to take hard decisions.  Recently there was much ho-halla when the railway fares were hiked in the budget after a decade, for smoothly running the organization and its modernization, everybody agreed that the hikes were necessary except an ally of the government, voices were raised from within the government too, even prime minister termed it a balanced railway budget, but the incumbent railway minister was made the scapegoat and has to make way for a loyal to the party leader in the name of populism. But the question is, if the PM was so concerned about railways why is he not showing any concern about oil companies or the sector in a whole? What is the difference between a regional leader who wants a rollback of railway fare because of political compulsion or just to appease the masses and a PM who is not allowing oil prices to be raised fearing wrath of common people and the allies --how different is he? Then why to point a finger on anybody and become a saint, if one is bind by compulsions others can be too.
Now the situation is that the OMC’s have threatened for supply disruption if they are not allowed to hike prices or if the government does not compensate for their losses, stating that if they don’t earn revenue from fuel sales, they won’t be able to buy crude oil. So what could be the solution or a mid way in which the weak government don’t have to compromise further and the masses too could escape the brunt. If we delve into the recent bold decision of the Goa government petrol tax cut then it could give some direction. There was almost 20% drop in petrol prices in Goa when the local government abolished almost all the VAT on petrol, the amazing thing was government mitigating the revenue loss by hiking some other taxes nominally. Now let us check the rationale behind the decision, it can mainly be said to be intended to energy security, tax evasion, fossil fuel smuggling and blocking revenue losses. As the adulterations and smuggling of fuel was rampant in the coastal state, it led to revenue loss and tax being collected from the consumer. So can this formula be implemented at a larger level? The chances seem remote as there will be lots of technicalities and implication issue that will make the formula impractical on a broader scale. So the government will have to devise something similar that can keep the oil companies running and on the other side should not burn hole in consumers pocket.
But before we conclude the discussion, let us talk about the international crude scenario that has been worsening since past many years, whether it be Iraq’s war or the latest disruption in supplies from Iran, all the crude consumers have been deeply impacted by the developments in oil producing countries. India is among the one who will be pinched hard with the rising crude prices due to its high dependence on crude import. The fallout can also be seen on the Indian currency which is under extreme pressure.  Crude prices have already surged by over 15% in this calendar year and is being said that supply disruptions from Iran could push global crude prices further by to 20-30%.
If we check the domestic scenario there has been steady rise in consumptions and the imports. Neither the imports nor the consumptions can be curtailed as we are fully dependent on crude import and being one of the largest growing nations we need fuel to keep growing at a constant pace. So the only other way is judicious consumption, if the prices are lowered arbitrarily, it may lead to chaos and big loss on exchequer, and the chances are that its benefits may not reach the needy. A layered approach for benefit disbursal is required which can weed out the non deserving. Though it’s not an easy task and will need lots of resources and hard will to identify the needy and deserving and is likely to face oppositions as well. But the time is now ripe for the corrective measures. We need collective effort both at domestic front as well as at international front. There has been continuous rise in Excise and Custom Duties from Crude Oil and Petroleum Products, which rose from Rs 63,143 crore in 2005-06 to Rs 1,02,617 (E) in 2010-11, so it could be an option where a cut can be impacted to give some relief to the OMC’s, while from the global front the need of the hour is collaboration on energy technology to secure future energy supplies and deployment of low-carbon technologies.