The govt must continue to cut subsidies
Even a week ago, India’s petroleum subsidies looked under control. At R1.4 lakh crore in FY14, they were around double what they should have been, but they were on track to coming down substantially. The per-litre diesel under-recovery was around R1.62, according to the petroleum planning and analysis cell of the petroleum ministry. So, were the 45 paise per litre monthly hike in prices to carry on, the subsidy would have been nullified in 4 months. To put this in perspective, of the R1.4 lakh crore FY14 under-recoveries, around R63,000 crore came from diesel alone. Hike the price of domestic cooking gas by around R100 per cylinder—this would still leave a whopping R333 per cylinder subsidy—and you could knock off another R11,000 crore or so from the subsidy bill. This could have halved the FY15 petroleum subsidy bill, without even touching the kerosene subsidy.
That was a week ago. Then the Iraq hostilities started, and oil prices started climbing upon uncertainties of supplies—also, in India’s case, a fifth of supplies come from Iraq. Immediately, this played out on the rupee as well. If the hostilities stop after a short while—there is no sign of this, as yet—it may not matter. Back-of-the-envelope calculations show every $1 hike in price of oil leads to an increase of R4,400 crore in annual under-recoveries and a one rupee change in the exchange rate leads to a R7,900 crore hike. The bulk of the impact—75% or so—takes place through diesel subsidies, which is why it is vital the government continues with the diesel price hikes, regardless of what happens in Iraq. Just 13 months ago, diesel subsidies had gone down to as low as R3.37 per litre and then they went all the way up to R10.48 per litre in December last year. More important, the longer matters are delayed, the worse things get. A 45 paise diesel price hike each month, for instance, is something that seems to have been absorbed by users; put the hike off for a year, and a R5 hike is certain to be bitterly opposed. Indeed, the lesson here is to put LPG and kerosene prices on a similar small automatic monthly revision.
The likely settlement in the ONGC-Gujarat matter will make things worse. Given the high subsidy bills, the government was forcing ONGC to sell oil at $35-40 versus the market price of over $100—since ONGC couldn’t afford to pay royalty to states like Gujarat based on the sticker price, the government allowed it to pay on the lower realised price. Gujarat protested, and won its case in the court, so at some point, ONGC will have to pay R10,000 crore. Another R4,000 crore of bills could be raised by other states as well. All of which underscores the need to not get complacent on subsidies.