States get short shrift

Central govt seeks to repair its finances

The central government has raised taxes on fuel at a crucial point as India emerges from the nationwide lockdown imposed in late March to deal with the spread of Covid-19. The government has increased the road cess on petrol and diesel by Rs 8 per litre, and also raised the special additional excise duty by Rs 2 on petrol and by Rs 5 on diesel. The total increase in taxes on diesel is, therefore, Rs 13, and on petrol Rs 10. The attempt is clearly to go some distance towards repairing the government’s stricken finances. The recent prints of the Purchasing Managers’ Index, especially services, were shockingly low, indicating not only a large contraction in economic activity but also that government revenues would be affected even more than what was expected till now. Given the additional calls on the exchequer to fight the pandemic, it is not surprising that the government would wish to raise taxes on a reliable source like fuel. This is not a bad thing, as carbon taxes are a sensible way to deal with climate change.

However, there are aspects to this change which are a bit disquieting. For one, the lion’s share of these increases comes in the form of road cess, which is not shared with the states. Nor is it any longer used purely for roads. However, the government has assured that it will be used for “infrastructure” purposes. But the refusal to share the benefits with the states is a problem, given that it is the states that are on the front line of dealing with the coronavirus pandemic and, if anything, their finances are even more parlous than those of the Union. Thus, the state governments can justifiably ask how and why they are being treated unfairly, though some have also increased value-added tax on petrol and diesel to garner additional revenue.

The increase in the taxes by the Central government will not change prices at the pump for consumers. In other words, the government is taking advantage of the lower global prices of crude oil, which are likely to remain depressed for some time. The oil-marketing companies (OMCs), including the three big state-controlled ones of Indian Oil Corporation, Bharat Petroleum Corporation, and Hindustan Petroleum Corporation, had thus been making high margins. Since the government has assured consumers that prices at the pump will not increase, the OMCs will have to reduce their margins. They are expected to adjust prices regularly, and not doing so in the recent period can be seen as a reversal of a major reform. 
 

However, in the given extraordinary situation, additional revenue without affecting the final price for the end consumer could help contain the damage the pandemic is causing to the exchequer. But the final gains could be limited and may not be as high as being projected by some private-sector economists, given the level of demand destruction in the economy and the fact that  people are still not free to go out. Therefore, while the hike in duty will help contain the fiscal damage to some extent, it will still be critical to restart economic activities more broadly with focused targeting and containment of Covid-19.