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Possible outcomes for fuel price reforms

Government will grapple with the political hot potato of deregulating fuel prices today, seeking a way to improve its financial health as it tries to shield its 1.2 billion citizens from high prices.

business Updated: Jun 07, 2010 11:14 IST

Government on Monday will grapple with the political hot potato of deregulating fuel prices, seeking a way to improve its financial health as it tries to shield its 1.2 billion citizens from high prices.

A panel of ministers, empowered by the cabinet to decide the country's fuel policy will review the fuel policy at 4.30 pm.

Asia's third-largest economy has been looking for new ways to reduce subsidies and set prices of motor and cooking fuel since the dismal failure of its 2002 bid to get state-owned refiners to fix prices every two weeks in step with global rates.

But this is a political minefield in a country where 410 million people live on less than $1.25 a day and any decision by the panel of ministers who debate the issue must have the approval of Congress President Sonia Gandhi.

Analysts worry that maintaining the status quo could discourage private sector investment in India's under-developed energy sector and send a signal that the government would rather please its mostly poor and rural political base than push through pro-market reforms.

An official at state-run Indian Oil Corp said the current petrol price, 47.93 rupees ($1) per litre, was 3.35 rupees, or 7 per cent, lower than market rates, while diesel rates were 9 per cent lower.

Shares of IOC and other state refiners Bharat Petroleum Corp Ltd, Hindustan Petroleum Corp Ltd were down about 0.6 per cent on Monday, but outperforming the benchmark index, which was down 2.22 per cent at 0458 GMT.

ELECTORAL RISKS

* Raising fuel prices would stoke inflationary pressures, already at levels uncomfortable enough for voters to slam Congress in municipal elections this week in the swing state of West Bengal.

* An economically sound decision may help India narrow its fiscal deficit, but could yield electoral losses for the Congress in the half-dozen state elections scheduled this year and next.

* Many coalition allies would be unhappy with the unpopular measure, which is sure to be pounced upon by opposition parties including the communists who tried to unseat the government over a February hike in motor fuel prices.

* Rival Asian giant China, with its own billion-plus population, abandoned similar fuel price subsidies from January 2009 to great effect for then-struggling refiners grappling with losses, as Indian state-owned refiners do now.

* If India does reform its refined fuel policy during a window stretching from the end of the lawmakers' budget session in May until parliament gathers next for its monsoon session in August, here are the possibilities that could play out:

ELIMINATING CONTROLS

* Lifting subsidies would trigger spikes of up to 15 per cent in retail prices of diesel and gasoline -- adding to the political pressure on a government already facing protests over rising prices of food and consumer goods.

* This option looks even more difficult in the wake of two fuel price hikes since the end of February.

* It could stoke inflation, forcing a tightening of monetary policy. The government's fiscal deficit, now projected at 5.5 percent of the budget for the year ending March 2011, would probably shrink, freeing up capital for other programmes.

* In the fiscal year that ended March 31, India spent 149.5 billion rupees ($3.35 billion), or nearly 1.5 per cent of all government expenditure, on oil subsidies, compared with initial estimates of 31.1 billion rupees.

* Market rates would allow private firms Reliance Industries and Essar Oil, that now mainly export fuel, to consider domestic retail sales.

* Revenue would spike dramatically at retailer Indian Oil Corp, as well as Hindustan Petroleum and Bharat Petroleum, and upstream firms ONGC, Oil India and GAIL (India).

* Higher retail prices could briefly dampen demand for fuel and vehicles.

* Scrapping government intervention would hit poor consumers, who have no access to electricity and use kerosene for lighting and cooking.

PARTIALLY LIFT CONTROLS

* India may end pricing controls on petrol, viewed as the rich man's fuel, and gradually remove controls on diesel, which could spur higher inflation but ease its fiscal burden.

* It would help cut losses at state oil firms, but fuel demand may be hit briefly and could draw some opposition from the automobile sector.

* It may spur a change in fuel use. A large gap between diesel and kerosene prices may see the cheaper fuel being used to adulterate diesel.

* Introduction of a Unique Identity/Smartcards framework may follow to ensure a transparent public distribution system of kerosene and domestic LPG.

KEEP SUBSIDIES

* The government may decide to continue with the populist mechanism of subsidising fuel prices but would then face the risk of a ballooning fiscal deficit, and jettison its plan to trim the deficit to 4.1 per cent of GDP by the end of March 2013.

* The finances of the public sector oil marketing companies would be hammered. Projected losses for the firms are estimated at $24.4 billion this year, based on an average crude price of $85 a barrel.