Why diesel price hike maybe bad politics but is good economics
Gautam Chikermane, Hindustan Times
September 14, 2012
First Published: 16:42 IST(14/9/2012)
Last Updated: 16:59 IST(14/9/2012)
Communication has never been a strong point of the hubris-infested UPA government. Too busy sunning in inertia, it has given the impression that this is a government less interested in ‘governing’, more in ‘ruling’. So, even when it does the right thing and raises diesel prices, it is unable to deliver a coherent argument justifying the increase. Can’t blame UPA --- the interrelationships between subsidies, fiscal deficits, inflation, growth and politics are complex and do not fall neatly into the cynical rhetoric that’s vintage UPA.
Any government that runs up a huge fiscal deficit has to, at some point, finance that deficit by creating money through borrowings. When the government does that, there’s more money chasing the same number of goods and services in the economy. The result is a hike in prices, or inflation. At 5.1% India’s fiscal deficit is dangerously high, controlling which should be the government’s first priority, as former finance minister Yashwant Sinha said. Raising diesel prices by 14% such that the subsidy bill on the fuel falls, will help bring this deficit under control. To put that issue in perspective, at Rs. 47,800 crore oil subsidies for the first quarter of the current financial year have already exceeded the full year’s budgeted figure of Rs. 43,850 crore.
In the short term, the Rs. 5 diesel price hike will push up prices even further, as the transport sector raises tariffs and the impact percolates through the economy. But while transporters pretend to fight for the common man, someone needs to ask them why they have increased their prices in the same proportion as diesel prices. Surely diesel can’t be the only cost they incur. This is nothing but profiteering and feeding off the very citizens they are purporting to serve and fight for. They need to stop this double-speak and get real.
For consumers already reeling under a double-digit onslaught of food prices, this will hurt no doubt. Part of this increase can be neutralised, by cutting excise duties on the fuel, for instance. But for successive governments that have been unable to curb spending on vote-buying schemes --- some of them crucial --- or on an inflated and unproductive bureaucracy, the other option is to increase taxes and return to the sky-high tax rates of the coercive 1970s, a regime that is best behind us.
Which brings us to the next issue: economic growth. With a high fiscal deficit that keeps inflation high, there is no way the Reserve Bank of India (RBI) will cut interest rates. Even though most of the inflationary expectations are coming from goods outside India’s control --- crude oil imports, a falling rupee, and globally-rising food and commodity prices --- RBI’s stance has been to keep policy rates high so that households cut down on discretionary spends. In the process, home loan EMIs have been rising and along with inflation on one side, scissoring household budgets.
Complexifying matters further is the fact that today the sovereign has very little control over its finances. Like it or not, India cannot and will not grow at 9% if rest of the world is contracting, thereby closing business opportunities --- there, the UPA government is right. “The political power of the sovereign goes down with every move towards globalisation,” Kaushik Basu said. “Economics has become an instrument of global political and even military strategy.” To illustrate, Indian farmers and businesses get affected by WTO negotiations, Indian workers by ILO regulations, Indian fiscal policy by G20 communiqués, Indian markets by QE3.
What’s left is Indian politics. So, we will have the Opposition and UPA allies hitting the street to build political capital. The government will cut excise duties on diesel and ask state government to cut state taxes to control diesel prices. The end result for consumers would be a final hike of Rs. 2-3 per litre. But this would be a good time for UPA spokespersons to get off their high-horses and start engaging with people, explaining that a little pain now would be an investment into the future. Any other option that does not bring the fiscal deficit under control would potentially mean India moving to a junk rating status. At which point, most investors will not be able to buy into the India story (they can only buy investment-grade securities and countries) and the Rupee will hit 70-75 to the dollar. After that: economic chaos.