Fuel reform at mercy of rain, politics

Fuel reform at mercy of rain, politics

New Delhi: The government is hoping monsoon rains will soon give it the political cover it needs to start cutting costly fuel subsidies, but reforms will have to proceed slowly to keep reluctant coalition allies on board.

A panel led by Union finance minister Pranab Mukherjee postponed a decision on reforming fuel pricing on Monday, after two key ministers from small coalition partners failed to attend in a clear signal of their reluctance to be associated with a policy that may improve India’s finances but will also cost votes.

Mukherjee appears determined not to give up, however, and the Cabinet will set a date soon for another bid to agree the issue.

Waiting 10 days or so will give the government a better sense of the strength of the oncoming summer monsoon.

If it is normal, as expected, this will bolster farm output and give a respite from food price inflation. And that could give the government a window of opportunity to cut fuel subsidies.

Submitting fuel to full market pricing would bolster India’s fiscal health as fuel accounts for a quarter of its estimated subsidy bill of Rs1.2 trillion ($25.5 billion).

It would help state-run energy retailers such as Indian Oil Corp, Bharat Petroleum Corp Ltd and Hindustan Petroleum Corp Ltd operate profitably.

And it would fatten profits for Reliance Industries and Essar Oil, private sector players which captured almost 15% of the retail fuel market between them 5 years ago, before they were hit by subsidised sales by state firms.

But public and political opposition in the face of looming state elections mean fuel reforms will be gradual at most.

Protecting the common man

The ruling Congress party coalition does not have the will to risk alienating its mostly poor and rural support base by exposing the price of cooking and motor fuels to market forces.

“We will be forced to cut down household expenditure such as on food if the government hikes cooking gas prices," said Rama Satpathy, a housewife in Bhubaneshwar.

“We buy chicken, fish and mutton twice in a week. Now we may have to do it once in a week," said Satpathy, whose husband works in a private firm and who has a child attending school.

By not acting boldly now, however, India may miss a rare window of opportunity for reforms as inflation is forecast to abate, the monsoon is off to a promising start, global crude prices are relatively moderate and the next major state election, in large and impoverished Bihar, will only take place in October.

“We believe the current macro environment is conducive for fuel reforms," said a report by Goldman Sachs.

Expectations for at least some changes in fuel pricing helped shares of state oil firms rise 3-4% on Wednesday.

Politicians worry higher fuel prices would worsen the impact of inflation on consumers already burdened by higher food bills.

Oil ministry officials say that to protect the “aam aadmi", or common man, the government is keen to retain controls on cooking gas, used mainly in urban homes, and kerosene, used for lighting by the poor in regions that have no electricity.

At most, the government might try to raise administered prices for cooking fuels.

It favours reforms in the price of petrol, which accounts for only 10% of India’s fuel demand and is used primarily by wealthier car owners, and a slower change for diesel, which accounts for a third of the country’s fuel demand.

Officials say the oil ministry is pushing for easing controls in phases, starting with market pricing of petrol.

The Trinamool Congress, a West Bengal-based party that provides the government vital parliamentary support, said any rise in fuel prices at a time the government was struggling to rein in inflation would only hurt the common man.

Indian authorities are sympathetic.

“From a political and welfare perspective, it is difficult to impose on them a hike in fuel prices at the time when they are already dealing with high food prices. Balancing out these two factors will drive the timing," Subir Gokarn, deputy governor of India’s central bank said this week in Singapore.

Hoping For Rain

New Delhi hopes a strong monsoon makes its decision easier. Food prices rose by an annual 15-16% after last year’s drought, provoking street protests and worrying regional allies of the coalition government. Within the next two weeks, the weather office will update its forecast for this year’s monsoon.

Proponents of ending the subsidies argue that the inflationary impact is overstated.

Fuel has a weight of about 8-9% in India’s widely watched wholesale price index, meaning a 10% rise in fuel rates would increase inflation by less than 1%, said T K Bhaumik, economist at JK Corp. “I don’t think this should have very significant impact on inflation," he said.

Also, India’s inflation rate is expected to soften -- the main jump in prices was last year due to the bad monsoon, so year-on-year inflation will soon start to slow.

“Both food inflation and fuel inflation will start slowing down because of the base effect," said N.R. Bhanumurthy, economist at the National Institute of Public Finance and Policy.