Home / Opinion / Columns /  Opinion | Oil product levies should be like sin taxes on tobacco and liquor

It is a pity that opposition voices have arisen asking for tax reductions that could destroy the only major source of government revenues during a year in which covid-19 has devastated the Indian economy, which is probably in a full-blown recession at this juncture. Complaints have been raised against the currently high levies on petrol and diesel at a time when international crude prices are relatively benign.

The term “extortion" has been used. One need not object to this word, given how heavily petroleum products are taxed in India. But the policy is indeed rational, as we shall see. In 2019-20, the Centre and states together collected 5.5 trillion from the petroleum sector through product taxes, income-tax and dividends. According to the Petroleum Products Analysis Cell, 3.34 trillion of this went to the Centre and the rest to states. But since states get 42% of all central revenue collections, effectively states received more than 3.4 trillion from the petroleum sector. This reliable source of revenue, reliant on inelastic demand, is the reason why states do not want to bring petroleum products under the goods and services tax.

In every country, there are some categories of products that display inelastic demand: their offtake does not vary much as prices change. Often, their high demand needs to be deterred. This is why taxes on liquor and tobacco are informally called “sin taxes". They are taxed heavily because high demand can harm the health of their consumers. Most states, of course, are happy to collect sin taxes, since they can do so with a clear conscience. In India, we should add petro-products to the category because we import more than 80% of the stuff, and allowing demand to grow too fast is dangerous for the health of our economy. Excessive use of fossil fuels damages the environment, too, causing pollution of various kinds (automobile exhaust, for example) and climate change.

Given this reality, in most countries, the imposition of a carbon tax is considered a good thing. India’s high petro-taxes are effectively a carbon tax that most climatologists would approve of.

We also need to underscore other positives in imposing such carbon taxes. One, when taxes are high, they make alternative sources of energy—especially renewables—more viable propositions. Cheaper petrol and diesel prices would have the opposite effect, of boosting demand for polluting fuels.

Politically, high tax rates give the government the flexibility to cut them if global crude prices rise all of a sudden. This cushion would not exist if Indians were consuming lots of cheap petrol and diesel, and a spike in crude prices were to suddenly disrupt the economy. It is politically far simpler to drop prices than raise them. Hence raising taxes when global crude prices fall makes political-economic sense. Ideally, the government should use some of the excess revenues to build a cash buffer that can be used to ease prices if global crude again goes through the roof. In a covid year, when jobs are iffy and the poor are short of food, it is high petro-taxes that allow the government to fund expenditure of providing essential items. With defence also needing more resources as China tests our resolve on the borders, this revenue source simply cannot be given up. The time to lower petro-taxes is when the economy begins firing on all cylinders, perhaps towards the second half of 2021-22. Who knows where crude prices will go at that time if the whole world is in recovery mode?

A political side swipe may also be in order here: Higher imports of crude benefit many authoritarian regimes in oil exporting countries (West Asia, Russia and Venezuela), and one wonders why dictatorships should get the benefit of greater demand. Oil price trends are often shaped by the moves of a global cartel, and high Indian taxes can help undercut the unfair power it wields.

On the downside, one has to admit that taxing petrol and diesel does impose economic costs. High petrol taxes can be justified on the ground that cars and two-wheelers are used mostly by the better-off, but high diesel prices impact an overall recovery and boost general inflation by making the movement of goods costlier. The agriculture sector, which uses diesel pumps and tractors, could also be impacted.

But here’s the point: Even at today’s levels, petrol and diesel prices are not very much higher than they were during previous peaks, and, adjusted for inflation, they may actually be lower. Agriculture is being freed of restrictions on marketing, and support prices for many key food items are fixed on a cost-plus-50% basis. This implies that the impact of high diesel prices will also reflect in higher support prices. The sector anyway pays no taxes beyond indirect ones, hence these high petro-taxes are not unreasonable even for it.

This does not mean that petro-taxes should stay high all the time. But those who argue that taxes must be cut this year, when other government revenues are shrinking, should be counter-queried. Those who believe that petrol and diesel should be cheaper are duty-bound to suggest where such sums of money can be obtained. By taxing other products or incomes? As long as these alternatives cannot be entertained, railing against high petro-taxes is pure politics and poor fiscal economics.

R. Jagannathan is editorial director, ‘Swarajya’ magazine

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