Time to enforce a cost-plus pricing formula for petrol and diesel

Early this week, retail prices of petrol and diesel reached new highs, thanks to the steady rise in the price of international crude oil. The price of the Indian basket of crude oil has jumped 37 per cent in the last 10 months to $63.80 in March. Oil Minister Dharmendra Pradhan has done well to reject demands for lowering the excise duty on fuel and has argued that the only way the incidence of taxes on petroleum products can be reduced is by including them in the goods and services tax (GST) regime. But this cannot be done in a hurry. States and the Centre will have to agree to a timeline without causing any undue shock to their revenues. That is because petrol and diesel account for a large chunk of total indirect tax revenues for both. This share increased significantly after international crude oil prices started declining from the middle of 2014 and the Centre as well as many states took advantage of the lower prices to increase excise duty and sales tax on petrol and diesel, respectively. Now that crude oil prices have begun rising, there is a demand for rolling back those duty increases. However, conceding such demands can be disastrous for the fiscal situation of the Centre and the states. 


Instead, what can be explored is a proposal to deepen petroleum product pricing reforms. Several moves have been taken in the last few years to reform retail pricing of petroleum products. Retail prices of most of them are no longer administered by the government. Petrol prices were linked to the market in June 2010 and diesel prices, too, were freed up in October 2014. From June 2017, daily pricing of petrol and diesel was introduced in keeping with international practices. This allowed the oil marketing companies to adjust retail prices every day, instead of the earlier system of fortnightly revisions. Consumers have gained as any decline in international crude oil prices can be passed on to them without delay and oil marketing companies, too, have benefitted as they have not had to bear the impact of any increase for more than a day.


With the pressure of higher crude oil prices, the time is now ripe for introducing another reform initiative by switching over to pricing petrol and diesel based on a cost-plus formula. The current system of pricing is based on trade parity, assuming 80 per cent of petrol and diesel is imported and 20 per cent is exported. But this system is no longer relevant as the country does not import any of these products. Also, this system confers undue benefits to private sector refiners on their sales of petrol and diesel in the domestic market. It would be far more relevant to allow oil refiners to price their products based on their costs of refining, a reasonable rate of return and marketing overheads. This will also introduce an element of competition among different oil refiners and allow more efficient and transparent price discovery for these products. This is also likely to result in lower basic prices of these products than what is now determined on the basis of a flawed system of trade parity.