We have discussed the role of fuel subsidies in distorting demand for oil and therefore adding to price pressures. We’ve also noted that as oil prices have spiked, the cost of these subsidies in some countries is becoming untenable. Both Indonesia and Malaysia have raised end user gas prices.
One of the largest countries giving buyers price breaks, India, has been under considerable pressure to cut them, as state-run oil companies (retailers) face insolvency:
There was no diesel for a day at a gas station in north India recently. The public sector oil companies are slowing down the issue of new gas connections to households. The private sector oil companies are closing down petrol pumps and exporting petrol and diesel. Kerosene is not easily available in the public distribution system; the open market rate is around Rs 30 a litre when the official rate is under Rs 10.
If you think these are isolated events, think again. A fuel shortage looms ahead of the nation as the oil companies rapidly head towards bankruptcy.
With international crude oil prices hovering around $129 a barrel, the country’s three oil marketing companies – IndianOil, Bharat Petroleum, and Hindustan Petroleum – are collectively looking at losses of Rs 200,000 crore this year. These losses belong to the budget, but finance minister P Chidambaram doesn’t want his own copybook ruined….
In less than two months from now, some oil companies will be plain and simple broke as they exhaust their borrowing limits of Rs 90,000 crore…By early July, they will simply have no cash to run their business and some of them will find it difficult to pay staff salaries. “It is like a time bomb ticking away. If the prices of petro-products are not increased immediately, they will just sink without a trace,” top industry sources said.
As we predicted, India has decided to cut subsidies. However, even at this lower level, subsidies will account for 3% of India’s GDP. It doesn’t take much imagination to anticipate that more price increases are in the offing. Yet even a small decrease in the price supports appears likely to generate domestic protests. From the Financial Times:
India’s Congress party-led government increased prices at the nation’s fuel pumps on Wednesday, prompting a backlash from rival parties and threats of street protests.
The government raised retail prices of petrol, diesel and liquid petroleum gas by 8-17 per cent to reduce the burden of fuel subsidies expected to jump to $57.8bn this year – more than 3 per cent of gross domestic product…
In a televised address on Wednesday night, Manmohan Singh, Indian prime minister, urged citizens to conserve fuel, saying the price rises were “inevitable” to relieve pressure on the state-run oil companies that have shouldered the burden of the oil price surge with the help of government bonds.
“I know that the price increases we have had to announce today will not be popular, even though they are only modest,” Mr Singh said.
India, which imports more than 70 per cent of its oil needs, has been under pressure to increase fuel prices for months….
The government left the price of kerosene, the most important fuel for the poor, unchanged.
Crisil, a rating agency, estimated the price rises would cause an increase in inflation of nearly 1 per cent.
Economists described the latest price rises, which will reduce the subsidy by less than 10 per cent, as too small to be anything other than a “band-aid” measure.
“You’re not tackling the problem, you’re dealing with the symptoms,” said Rajeev Malik, economist with JP Morgan.
India’s leftist parties, on which the United Progressive Alliance coalition depends for its parliamentary majority, vowed to stage national protests.
Raising oil prices will have a “cascading effect and heap further burdens on the people”, said the Communist Party of India (Marxist), calling for a windfall tax on oil company profits.