High & low of oil prices - The Quicksand Of Consumption, Imports And Losses

Bharat Jhunjhunwala
The Statesman, 7 December

Oil prices have shot up by 35 per cent in the last four months and have now touched an all-time high of $95 a barrel. State-owned oil companies, however, continue to sell at lower prices because the government is concerned about the fallout on the coming elections in Gujarat and Himachal. Oil companies are incurring huge losses in the process which is expected to reach an astronomical level of Rs 70,000 crore by the end of the financial year. This is approximately 10 per cent of the total budget of the Government of India.

Oil companies are issuing bonds which are being bought by the government in order to make up for this loss. Technically, the loss is borne by the companies while the government owns assets in the form of bonds. But this burden will ultimately fall on the people of the country. Just as the loss incurred in business cannot be made up by continually borrowing from one’s brother, similarly the loss incurred by public sector oil companies cannot be made up by endlessly borrowing from the government.

The loss suffered by the oil companies is always incurred by the government which owns them. This policy is like that proposed by Charvaka ~ borrow today and drink ghee because no one knows what will happen tomorrow.

Reduce taxes

One suggestion that may help surmount this problem is for the Union and state governments to reduce the taxes on petroleum products. This will immediately provide relief to the oil companies. For example, the taxes may constitute about Rs 20 out of the price of Rs 40 for a litre of petrol. Oil companies are getting only Rs 20 out of the sale. Reduction in the taxes by Rs 10 will increase the receipts of the oil companies by same amount and reduce their loss.

But this too is a fictitious solution. The revenues of the government will be less and it will have to impose higher taxes on other items such as match boxes and bicycle tyres to make up for the loss. The burden of the higher taxes will fall on the people. We must face the hard truth that there is no free lunch. The oil that we are consuming cheap today will have to be paid out of our hard-earned income tomorrow. Instead of tinkering with such non-solutions we must consider the pros and cons of increasing the domestic price of oil.

If the price of oil is lower than the global levels, it can have a negative impact. The low price adversely affects our economic sovereignty. It encourages people to burn more oil which, in turn, forces the oil companies to import yet higher quantities. We sink into the quicksand of ever increasing consumption, imports and losses. Higher consumption of oil makes our economy more energy-intensive. Oil supplies can be curtailed in the event of a war or a natural catastrophe such as tsunami and that will inflict great damage on our economy. The bullock-driven water wheel can continue producing food without these imports but not diesel-driven tubewells.

High consumption of oil also affects our political sovereignty. We have to make friends with dictatorial regimes like those of Saudi Arabia and ignore the violations of human rights of the people in Nigeria by their government in order to secure our supplies. Our income is geared to the consumption of oil and we have less money to develop an ambitious programme to help other developing countries. We also have less money left to buy or manufacture radars, fighter planes and patriot missiles. We have had to make a less-than-equal agreement with the United States to obtain supplies of uranium because we consume a fair amount of energy.

The importance of oil in preserving national sovereignty has been highlighted by the editor of Newsweek, Fareed Zakaria. In an essay written in 2005 he contended that the most important issue for America’s foreign policy is to reduce the domestic consumption of oil. That would lead, he says, to a decline in the global price of oil and have the following consequences: (i) The cash obtained by Saudi Arabia and Iran which gets into the hands of terrorists will be reduced; (ii) Autocratic governments like those of Saudi Arabia will not be able to bribe the Wahabi imams and suppress demands for democratic reforms; (iii) Iran would not be able to fund its nuclear programme; (iv) President Putin of Russia will not be able to destroy competing centres of power or continue the "disastrous" war in Chechnya; and (v) President Hugo Chavez of Venezuela will not be able to rebel against American influence. The success of American foreign policy, says Zakaria, will depend on the reduction in the consumption of oil by America. That holds equally for us. Less consumption of oil and other forms of energy will give us more free play in international politics.

A lower price of oil prevents the development of alternative sources of energy. This writer had an opportunity to study the working of gobar gas plants in Shyampur village near Hardwar some time ago. At least 50 gobar gas plants were in operation successfully for more than 20 years. The LPG gas cylinders became available in the mid-nineties at a low price. Farmers found it easier to cook food with LPG than with gobar gas. They were saved the work of having to mix water with gobar to be fed into the plants, drying the slurry, maintaining the pipelines and water supply, etc. This alternative source of energy was dismantled as soon as cheaper LPG became available. The same applies to wind, solar, micro-hydel, thorium and bio sources of energy. Cheap oil distracts our attention from these sources and traps us into imports.

Other alternatives

The government should consider other alternatives to issuing bonds and reducing taxes. The main reason for not passing on the increase to the consumer is to protect the common man from the price rise. The simple solution is to pass on the same money to the consumer directly. Our population totals approximately 112 crore. Of these about a third are poor. Taking the average size of a family to be four, the number of poor households is about nine crore. The Rs 70,000 crore being spent by the government to insulate oil companies from high prices can be paid to these households directly. Each household will get Rs 6,700 per year.
Alternatively each household will get Rs 2,200 if the amount is given to all families irrespective of the level of income. Such a payout will be politically rewarding. The burden of increase in the price of oil will then fall mainly on those who consume more energy in gas-fired geysers and room heaters, air-conditioned cars and the like. This policy will be a boon for the common man. He will get more money than he spends on the purchase of expensive oil.

The larger benefit to the country will be that high prices will lead to reduced consumption of oil and help preserve our economic and political sovereignty. It will also encourage development of alternative renewable sources of energy which will be beneficial for mankind in the long run.

The author is former Professor of Economics, Indian Institute of Management, Bangalore.