How to Make Sense of the Indian Economy: The Petrol Price Mystery

This week saw an overdose of televised debates around India’s Petrol and Diesel Price woes with mouthpieces of BJP and Congress sparring at one another, the former blaming external issues such as a weakening Rupee and Crude oil, the latter holding the government responsible for economic mismanagement and a punishing tax regime. The battle of political parties quickly transformed into a battle of consultants with the BJP tweeting:

How to Make Sense of the Indian Economy: The Petrol Price Mystery

 

And Congress demonstrating quick turn-around with:

How to Make Sense of the Indian Economy: The Petrol Price Mystery 

BJP’s social media cell made a gaffe, but Congress’s revert also isn’t factually robust. Their claim that International crude oil prices went down from $107 to $71 (i.e. -34%) whereas retail selling price of Petrol spiked by 13% during the NDA regime is partially disingenuous. These percentages are not comparable in the first place as International crude oil price reduction is shown in Dollar terms and appreciation of retail selling price of Petrol is shown in Rupees. And the Rupee has weakened considerably in between. Anyways…

 

Ignoring the exact dates and numbers in the above Tweets, which are a part of political to-and-fro rather than a technical debate, let’s try to understand the core issue here.

 

All you need to do is look at two points in time. March 2012 and present. Why March 2012? Because that is when International crude oil hit its peak in this decade.

 

In March 2012, International crude oil bought by India was at $124/bbl. Presently it is at $72.5/bbl i.e. a drop of -41%. However, the Rupee has weakened by -38% during the same period thereby implying, adjusting for currency translation effects, International crude oil went down by -21%. Meanwhile, retail selling price of Petrol has gone up by 24% (from INR65 per litre in March 2012 to INR81 per litre at present)! What is going on? How can the price of Petrol increase, when the price of Crude oil, which forms the base of Petrol has gone down?

 

The best way to decouple the drivers behind the Petrol’s price rise is to look at its value chain i.e. how Petrol reaches the end-user:

 

  1. Oil Manufacturing Companies (e.g. ONGC, OIL) produce or purchase crude oil from the domestic or international markets. This crude oil is then sold to Oil Marketing Companies (or “OMCs” e.g. IOC, BPCL, HPCL).
  2. OMCs get the crude oil refined into Petrol and make it reachable to the retail market i.e. people driving cars etc. After refined Petrol is extracted, it is transported to Petrol Stations.
  3. The Petrol Station is operated by a Dealer who makes a commission on every litre sold.
  4. Central government charges excise duty on every litre sold.
  5. State government charges VAT on every litre sold.

 

Many Indian oil companies are vertically integrated with their own refineries, and oil marketing arms. There are some specialist companies who look at these value-chain links separately.

 

The above-mentioned steps translate into their corresponding value chain line items as shown below:

How to Make Sense of the Indian Economy: The Petrol Price Mystery

 

See below a detailed working to understand how each component adds up (figures as at 14th September 2018):

 

How to Make Sense of the Indian Economy: The Petrol Price Mystery

 

Yes, Taxes (i.e. the Central Excise Duty and VAT) roughly comprise 45% of Petrol’s Retail Selling Price! With all other cogs of the math being stable, they’re the culprit. Reduce them, prices will stabilize.

 

However, considering a significant proportion of Government’s revenue accruals come from Petrol and Diesel taxes, it is no wonder that the Centre and States are reluctant to take any decisive actions. Even bringing Petrol under GST would imply the maximum levied rate can be 28%, a far cry from the ongoing 45%. With a supposed hard stop on the 3.3% fiscal deficit target and an upcoming Election year, the customer may have to ride this one out.

 

Click here to see my article elaborating on The Importance of Crude Oil in general and here to figure out how specifically rising Crude Oil prices impact the Indian Economy.

 

This will be a recurring column published every Friday under the title: “How to Make Sense of the Indian Economy”.

 

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