[There is a weak correlation between the crude oil prices in international market and petrol prices in domestic market during the most liberal pricing regime]
By Dr. Sridhar Kundu
Petrol price has reached an all-time high in mid-September and do not show any sign of reduction in future. It is an essential consumer and producer good. Its rising price has worried people. The present government is at the centre of criticism as the domestic price is historically high when crude oil price in international market is relatively low.
It is true that petrol price is driven by international market prices of crude oil, as 85 percent of our consumption demand is met through imports. Before 2002, government used to intervene in the domestic market through Administrative Price Mechanism (APM).
Under this mechanism, government was in control of the petroleum sector in all four stages i.e. production, refining, distribution and marketing and thus could be able to influence domestic price through indirect subsidies particularly during high fluctuations in both international market prices of crude oil and domestic currency rates.
Post APM, government has started withdrawing its interventions from the domestic market for petroleum products. Deregulation of domestic petrol price started in 2010 which is followed by subsequent withdrawal of government intervention in diesel pricing in 2014. With the deregulation of these two important commodities, the petroleum sector became completely open to international market. The Oil Marketing Companies (OMCs) continue to change the domestic prices time to time looking at the variation in international market prices. However, from 2017, the prices continue to follow the international market prices on daily basis and change accordingly.
With various reform measures taken by various governments as discussed above, the post 2014 period seems to be a more liberal regime in petroleum sector and domestic prices look to be more sync with the international market prices. However, information obtained from Petroleum Planning and Analysis Cell (PPAC), MoPNG tells a different story.
Example of petrol prices in domestic market and crude oil prices in international market could be used to explain the possible link between the two. The figure below provides an annual trend of petrol prices and crude oil prices since 2002-03. An analysis is made about the existing link between the two variables for two regimes, i.e. pre-2014 and post-2014.
Figure. Annual Trend of internal crude oil prices and domestic retail price of petrol in India since 2002-03
The pre-2014 period starting from 2002-03, witnessed a smooth ride of the domestic prices of petrol. But, the annual fluctuation of international market prices was not so smooth. In the year 2008-09, when the international market price of crude oil reached a maximum of $ 138 per barrel (bbl, 1 bbl= 159 litre) the domestic petrol price was allowed to crawl in a specific range of Rs.48 to Rs.52 per litre.
From the year 2010, the domestic price witnessed a rising trend following more closely with the international market prices. The Co-efficient of correlation (R) of the two variables was 0.82 during 2002-03 and 2013-14. The value is positive and found to be highly significant for being closer to 1. The result shows that the two variables followed a close relation during a regime when petroleum sector was relatively less liberal.
The years following 2014 witnessed a declining trend in international market prices for crude oil. The price came down from $109 a barrel in 2014-15 to $55 a barrel in 2016-17. But, the prices scaled up by a small margin i.e. $67 a barrel in 2017-18 to $75 a barrel by August, 2018. However, domestic prices of petrol did not follow the similar trend during these years. When the international market price fell by 50 percent during 2014-15 and 2016-17, the domestic prices showed a reduction of only 4 percent.
This asymmetry in relationship is too observed during 2017-18 and 2018-19. In this period the international market price rose by 12 percent (by August, 2018), but domestic prices jumped up by 27 percent. The Co-efficient of correlation (R) of the two variables is estimated to be 0.25 during 2014-15 and present. The value is positive and less significant for being distant from 1 and closer to 0. This shows a weak relation between international market price and domestic price during period when the petroleum sector is completely deregulated.
The weak correlation questions the policy of regulatory reforms undertaken by the government during post-2014. It seems that there is a proxy regulatory mechanism working in behind which delinks the two variables. Some of the government interventions though are not part of reforms in the petroleum sector but act as shadow regulatory mechanism to influence domestic prices and delinks its association with international market prices. A few of them can be discussed in the following.
First, taxing power of the union and state governments on petroleum products work as a regulatory mechanism for domestic prices. The Union Government collects central excise duty levied on petroleum products. It is one of its important sources of revenue.
In 2014-15, central excise collected from petroleum products was Rs. 1.08 lakh crore. In 2018-19, the government has projected to collect Rs. 2.57 lakh crore as central excise duty, which is more than 200 percent of the revenue collected from the same levy in 2014-15. Higher growth in central excise revenue is possible through levy of higher tariff rates on petroleum products. In 2014-15, central-excise tariff rate on petrol was Rs. 9 a litre and it increased to Rs. 19 a litre in 2018-19.
In addition to central excise duty, the state governments collect Value Added Tax (VAT) on sale of petrol. VAT rates differ from states to states. That is the reason petrol prices are not uniform across states. For example, in Delhi, VAT rate on petrol is Rs. 21 a litre, while in Maharashtra it is Rs.33 a litre. VAT on petrol constitutes a major source of states’ tax revenue. Both central excise and state VAT constitute approximately 50 percent of petrol prices and thus contributes to a weak link with international market prices.
Second, some of the factual evidences show that in few instances, the Union Government used its disguised autonomy power in regulating the prices of petrol and diesel. For example, international market prices for crude oil went up from $63 a barrel in March, 2018 to $75 a barrel in May, 2018.
However, this rise in international prices is hardly reflected on domestic prices of petrol and diesel in the country during this period. Information available from PPAC shows that in Delhi, the petrol price was remained constant at Rs. 74.6 a litre while in Chennai it remained at Rs.77.4 a litre during the same period. Critics say, Karnataka assembly election was the major reason behind fixing of domestic prices to gain some political mileage.
Third, export of refined petrol from India puts a dent on domestic supply and widens its gap with domestic demand which causes domestic price to rise. Tradingeconomics says that during 2014 and 2017, the annual average of export of petrol was 1.33 million tonne. India Today reports that India exports refined petrol to some of the Asian countries at much cheaper prices. Though it is uncommon for an import dependent country to get engaged in export of petrol, but this measure contributes to present escalation of domestic prices.
These are the few areas discussed above are hurdles before a complete and transparent regulatory reform in the petroleum sector. However, they can be controlled with the effort of the government at the centre and states to make the system transparent. The recent rise in petrol prices could be stopped before rising further if there is a uniform and transparent system in place.