The political price of oil

Govt will have to deal with pressure on the fisc

The price of a barrel of crude oil earlier this week hit its highest point in over two years and Brent crude was trading at $64.65 a barrel. New data from China on Wednesday showing slowing energy imports took crude oil off those highs, but it is clear that the momentum in the market is upward. The agreement arrived at by the major oil producing countries last year, including some that are not members of the Organisation of Petroleum Exporting Countries, or OPEC, seems to have had the desired effect of pushing prices back up somewhat from the lows that they had occupied over the past few years. Much now depends on the dynamics of the shale oil market in the United States; it is uncertain what technological improvements and increased efficiencies in that sector mean for the future price of oil.

While the price of the marginal barrel of oil may continue to be set by the costs of American shale oil, many speculate that the upward momentum in the market — not to mention the political uncertainty in Saudi Arabia and continuing confrontations in other oil-producing areas of West Asia — may cause oil to go above $70 a barrel soon. Bank of America Merrill Lynch has even said that a peak of $75 a barrel is possible. Unsurprisingly, Indian equities have responded with concern; the Sensex fell over 500 points in the last two days, with cost pressures expected to be particularly strong on industries such as aviation, plastics, chemicals and logistics.

This increase in the price of oil does not come at a very opportune moment for the Indian government busy defending its economic management in the face of an apparent slowdown in growth. The Opposition has continually made political hay over tax increases on fuel, especially on petrol. Meanwhile, several Assembly elections lie on the horizon and the general election campaign will no doubt be well under way by this time next year. Thus, the political space for the government to maintain its use of petroleum taxes as a crutch for the exchequer is small and it will struggle to stick to its mantra that global market forces determine the domestic price of petroleum products. If it feels particularly under siege, or oil prices suddenly spike, then it is entirely possible that the government could even announce a “temporary” subsidy.

Yet there is no doubt that abandoning the hard-won stability in domestic oil pricing and taxation will come at a serious cost to public finances. According to a recent RTI request, the government earned Rs 2.67 lakh crore from taxes on petroleum in 2016-17. This is three times what it earned during the period of high oil prices five years ago. The government is struggling to stick to its chosen path of fiscal consolidation as various populist pressures weigh on spending and its capital expenditure seeks to compensate for a fall in investment by the private sector. The finance ministry and the prime minister’s office will face an unpalatable choice: swallow the political risks involved in high oil prices or abandon fiscal prudence? They should choose wisely.