The choice is to kill oil PSUs or breach fiscal deficit
Given the price of the Indian crude oil basket is pretty much where it was at the beginning of the year when the government first decided to hike diesel prices—diesel accounts for 40% of all under-recoveries—while the rupee has depreciated a fourth, all the effort put in by the government has come to nought. After falling from R389 crore on January 1, daily under-recoveries fell to R252 crore on May 16 and were back to R389 crore on August 15—they should be up another 12-13% today given the further fall in the rupee and the hardening of crude prices with fears of a US attack on Syria. Apart from the fact that this will play havoc with the budget—as compared to R1,60,000 crore of under-recoveries based on current prices, the budget has provided for just R65,000 crore, the rest being paid for by oil PSUs—it also worsens the current account deficit. With petroleum minister saying he has been told to shave off $25 billion from the import number, this means the government needs to go for a sharp R6-7 hike per litre of diesel immediately.
While this will be painted as a huge hike by the Opposition parties, the government will do well to go back to the original Kirit Parikh report whose advice remains as valid today as it was when the report was submitted three years ago. Instead of looking at the change in daily prices, Parikh recommended fixing of a per unit subsidy and then adjusting prices regularly to take this into account. This could be done by, say, fixing a R20 per litre subsidy for kerosene or by fixing a cutoff date to benchmark prices. Parikh took 2002 as a cutoff period, given that kerosene prices were last raised in that year. Since then, he said, as consumer incomes had risen by 60% in real terms, a 60% hike in kerosene prices would leave no one worse off than they were in 2002—kerosene comprises a fourth of all under-recoveries. In the case of LPG, similarly, where prices need to be doubled to break even, Parikh had calculated prices could be raised by R200 per cylinder leaving all consumers no worse off—a third of all under-recoveries are on account of LPG. Given how incomes have grown much more in the period since Parikh submitted his report, there is a solid case for hiking other prices as well.