Slipping on oil prices

Dual diesel rates will be distortionary

The government-controlled oil-marketing companies’ (OMCs’) decision to raise diesel prices by a steep Rs 25 a litre for bulk users while keeping retail prices unchanged is likely to create serious distortions in the market for fuel and raise fresh questions about pricing reforms. On Sunday, the three companies that account for 90 per cent of fuel sales —Indian Oil, Hindustan Petroleum Corporation Ltd (HPCL), and Bharat Petroleum Corporation Ltd (BPCL) —raised diesel prices only for bulk users such as public transport buses, industries, airports, malls, and the Indian Railways. Diesel sold to bulk users now costs Rs 122.05 a litre in Mumbai against the pump price of Rs 94.14 a litre. In Delhi they are Rs 115 and Rs 86.67 a litre. To be sure, a price rise was long overdue owing to the sharp jump in crude oil prices since the outbreak of the Russia-Ukraine war and the fact that rates had been frozen for a record 136 days. But the creation of a dual rate for diesel is retrogressive and harmful for a variety of reasons.

First, the continuing freeze on pump prices, initially to accommodate consequential state elections and now to reinforce the victorious ruling party’s populism, has made a mockery —yet again —of claims to fuel pricing freedom. Also, the OMCs’ losses are likely to rise even as the government finances will not take a hit since fuel taxes have not been cut. Instead of the anticipated post-election price rise, the OMCs have been asked to absorb their marketing losses with inventory gains and higher gross refining margins made from crude oil processing. But the OMCs have seen their gross marketing margins turn negative for several weeks now after crude oil prices have surged significantly from the $70 levels in December. Over the past month, these losses jumped as even bulk users such as buses and trucks started topping up at retail stations rather than the usual practice of ordering directly from the OMCs in anticipation of a price rise.
 

The resultant surge in sales, by almost a fifth this month, has not only had the effect of widening OMC losses but also put pressure on the country’s logistics and supply infrastructure. This experience points to a possible problem that will arise with a dual-rate pricing structure in the days ahead: The creation of an unofficial market with retail diesel increasingly diverted to the higher-priced bulk market, which will add to OMC losses. The experience with dual-priced kerosene offers a salutary lesson here. It is also unclear how freezing retail prices when the cost of crude oil is likely to stay high will contain inflation, since transport operators will be forced to raise prices to cover the 40 per cent jump in fuel costs.

The retail price freeze by the OMCs will also impact private retailers such as Reliance Jio-bp, Nayara Energy, and Shell, which will be forced to keep prices at the same level as the government-owned outlets, or lose customers. In 2008, Reliance closed all its outlets because it could not compete with the subsidised price offered by the OMCs then. Given the government’s dominance, a challenge before the Competition Commission is unlikely. But complex tinkering with fuel prices to influence political optics is likely to subdue interest in BPCL, which has long been on the disinvestment list. Introducing distortions in a market is unlikely to reassure investors.