Pushed to bottom of the barrel
The Chaturvedi Committee has come up with useful and workable recommendations that could bring welcome relief from financial stress to most players in the oil sector. But
the Government, unfortunately, seems to have pushed the report into the deep-freeze, with little prospect of implementing it, says Raghuvir Srinivasan
The Committee has frowned on the practice of using import-parity price to calculate under-recovery. It is one of the most well-researched, in-depth reports by any government-appointed committee on the oil industry. Yet, the Report of the High Powered Committee on Financial Position of Oil Companies (the Chaturvedi Committee), constituted by no less than the Prime Minister, Dr Manmohan Singh himself, appears headed for the deep-freeze, where it will join the elite company of its predecessor, the Rangarajan Committee Report (2006).
The problem with the Chaturvedi Committee Report is that it contains far too many practical and reform-oriented recommendations that were always bound to be opposed by various interest groups in the oil industry, particularly the oil companies. There is something to be gained for most of these interest groups in continuing with the status quo, and the displeasure over the recommendations that will disturb this is but natural.
But the authorities’ response was expected to be different. The Committee was constituted at a most difficult time for the industry and secured its mandate directly from the Prime Minister who appeared keen to use the opportunity to reform the sector.
And the Committee did full justice to its mandate, coming up with a set of workable recommendations. Yet, it is sad that the government is unable now to even decide whether the report ought to be made public, leave alone implement its recommendations.
Mandate
The three-member Committee, headed by Mr B. K. Chaturvedi, a former Petroleum Secretary and including Dr Saumitra Chaudhuri, Member of the Prime Minister’s Economic Advisory Council, and Dr Arvind Virmani, Chief Economic Advisor, was tasked with the difficult job of finding a way out of the mess created by rising crude oil prices and almost static domestic fuel prices.
It was asked to examine whether the finances of the oil companies were indeed in disarray, as they claimed, and explicitly told to “revisit the concept of under-recoveries”.
Unravelling “under-recoveries”
To the Committee must go the credit for lifting the shroud of mystery over “under-recoveries”, which are not losses as is commonly understood. The concept is born out of the practice of the oil marketing companies — Indian Oil, Bharat Petroleum and Hindustan Petroleum — pricing their products on the notional framework of import-substitution.
Simply put, the pricing formula they adopt assumes that the products are imported from West Asia or South-East Asia when, in reality, only negligible quantities are imported in the case of diesel and cooking gas, and that again, only in the last two years.
What this formula does is load extra elements of cost, such as freight, insurance, funding costs, and so on, to the notional product price when, in reality, the oil companies are not incurring the same.
The oil companies then compare their actual realisations for these products from the domestic market, which are considerably lower, with the notional formula price, and the difference is what they loudly proclaim as ‘under-recoveries’.
The Chaturvedi Committee has frowned upon this practice.
Export-parity pricing
The Committee’s research shows that the refinery-gate price, in the current trade-parity pricing system, is higher than the international traded price for products such as petrol, diesel and kerosene. Import-parity prices, taken by the oil companies for calculating “under-recovery”, are even higher than trade-parity prices.
The Report says there is little reason why the refinery-gate prices ought to be more than the prices quoted in the refining and trading centres of New York, US Gulf Coast, Amsterdam, Tokyo and Singapore.
It has suggested adoption of export-parity pricing that takes into account free on board (fob) prices out of India. The logic is that a domestic refiner is reimbursed the same price in the domestic market as he would get by exporting abroad. Such export-parity prices are approximately the same as international traded price for these products.
The Committee also feels, and rightly so, that the domestic refineries do not need duty protection and has suggested that duties on petrol and diesel, currently at 2.5 per cent, be reduced to zero.
Predictably, these two recommendations have raised the ire of the oil companies. In a review meeting held by the Petroleum Ministry this week, some of them have opposed the two proposals on grounds of “loss of protection,” especially as they import the majority of their crude oil consumption.
The fact though is that the days of “protection” from duties have been long left behind by other industries. The oil companies should look to tighten operating efficiencies— there is a lot of room for improvement there— to protect margins.
If these were not enough, the Committee has also recommended freezing the marketing margins for petrol and diesel at Rs 3.25 and Rs 3 a litre respectively which, again, is not something the oil companies favour. They were hoping for an upward revision in these margins as they contend that the current level is carried over from the APM days.
Here, one feels that the Committee could have allowed differential pricing based on distances from refineries.
Thus, towns and cities closer to refineries would pay a lower price for fuel while those in the hinterland would pay higher to cover the extra freight charges. This is an overdue reform measure, as there is no reason why consumers in proximity to refineries ought to subsidise others in distant places.
SCOT free
The Committee’s recommendations on the contentious issue of windfall profit tax are noteworthy. The suggestion to slap a Special Crude Oil Tax (SCOT) on upstream companies ONGC and OIL, on the face of it, appears retrograde. But when you delve deeper, the merits are evident.
The Committee has suggested that all revenues of ONGC and OIL in excess of $75 a barrel be taxed as SCOT. The two companies are unlikely to complain because this is a better situation than what they find themselves in now.
Last quarter, when the average international crude price was over $100 a barrel, ONGC got just $59, after it paid up its subsidy share and royalties. The net revenue of $75 a barrel, recommended by the Committee, is a huge improvement over this! Little surprise, then, that ONGC’s top boss, Mr R. S. Sharma, is all for SCOT.
The other terms, such as SCOT being in force only till subsidies on other products remain, a periodic review, set-off of SCOT against other tax liabilities such as income tax, royalties and cess, are all favourable to ONGC and OIL. For pre-NELP (New Exploration Licensing Policy) producers, the discount of 40 per cent on SCOT liability is a fair deal.
The net terms of the SCOT proposal are progressive and favourable to the oil companies, especially because refineries have been excluded from its purview.
Though this writer has opposed the imposition of a windfall profit tax earlier, the terms proposed by the Committee now make SCOT a welcome proposal.
It will be transparent, temporary, offer a net revenue benefit to the upstream companies and the best part is that it can be set off against other taxes.
Reforming prices
Implementation of the gradual price increase suggestion for petrol and diesel that will see subsidies on the former eliminated by March 2009, and in the next two years in the case of the latter, will be a major reform move.
But, given political realities and the fact that we are in an election year now, it is unlikely that the government will implement the suggestion. This is unfortunate because the suggestion has a lot of merit and may be the least painful way to align domestic prices to market levels.
There are also other noteworthy suggestions that are unlikely to be implemented, such as the smart card system for targeting kerosene subsidy and the gradual phase-out of cooking gas subsidy.
The Committee has hoped for an early and smooth implementation of its recommendations to clear up the mess in the sector. In its own words: “Conditions have already become so parlous that a failure to put in place a purposeful and internally consistent reform programme will lead to serious supply disruptions that will eventually put the overall economy into considerable difficulties….
There is a clear capacity for the financial stress arising out of the petroleum sector to cause serious and lasting damage to the Indian economy and the finance of the Government, unless dealt with in an urgent and cohesive fashion.”
The warning bell has been rung loud and clear, but is the government listening?
Our Bureau 