Welcome! High price of oil

The Government's decision to deregulate the price of fuel and leave it to be determined by market forces is wholly welcome.

Till now, Public Sector oil companies were buying expensive oi from the world markets and selling it cheap in the country. The government was bearing the losses incurred by the oil companies.

The opposition wants this policy to continue in order to protect the people from price rise. The consumer is already suffering due to high price of food items and he should not be twice burdened at this time, they say. But will cheap oil really contain price rise? Say, Indian Oil purchased a litre of petrol from Saudi Arabia for Rs 100 and sold it for Rs 50 in the domestic market. The Government provided a subsidy of Rs 50 to make up the loss.

This means that the true price of Rs 100 of oil will have to be paid anyway. Only it will be part paid by the consumer and the government.

Now, the government cannot create money out of thin air. It prints money to make this payment.

The currency in circulation increases and that leads to an overall increase in prices. Thus selling oil cheap does not truly contain the price rise. It only shifts the burden bit into the future when the impact of printing presses of Reserve Bank of India begins to be felt. Indeed, it can be said that present high rates of inflation in the country are, in part, due to earlier sale of cheap oil. The opposition's demand is merely to contain the price rise at the present time. Who is worried about the future? The poor are is not affected much by an increase in the price of oil anyway. Oil is mostly consumed by the rich. The middle- class family going for a weekend pleasure trip in the family car feels the pinch of the high price of petrol immediately. The poor consumer has only few goods that are transported from long distances.

Thus the rich are more affected by the present price increase. But the burden of subsidy given to oil companies falls on all people, including the poor. This can be explained by a simple example.

Say there are two rich persons in a village who own cars. The village Panchayat imposes a tax on all the people of the village to provide subsidy on oil consumed in the village. All the people pay the tax but the benefits are mostly obtained by the rich. The oil subsidy works similarly. All citizens of the country bear the consequences of printing notes while the rich harvest most benefits.

The correct method of protecting the poor is to demand a reduction in taxes imposed on items consumed by them. That will easily nullify the impact of an increase in the price of oil.

The share of oil in the wholesale price index is 7 percent while that of manufactured goods is 63 percent. It follows that an increase of Rs 4 in the cost of oil can be nullified by a reduction of 44 paise in the price of manufactured goods.

Lower taxes on coarse cloth, bicycle, match box, cement, etc. will compensate the poor for the small increase in cost of these items due to the increase in price of oil.

The opposition claims that deregulation of the price of oil will be beneficial for private sector oil companies. This is correct. They will get a chance to come back into the market. They had closed down their shutters earlier because the government was providing subsidy on oil only through public sector companies. Reentry of the private companies will now become possible. But this will not be anti- poor.

It will actually be beneficial for the people. A price war will take place between the privateand public players. We have seen the quality of service improve in telecom and civil aviation sectors due to such price wars. Consumers of oil will be similarly benefited. The opposition is actually trying to protect the monopoly and various malpractices that are widespread among the public sector oil companies.

The nation's economic sovereignty is also protected by the deregulation of price of oil. We were importing 66 percent of the oil consumed in the country in 1947. This reduced to 20 percent upon finding of oil in the Bombay High during the eighties. The share of imports has again increased to 75- 80 percent presently on the back of high growth rates and an increase in the demand for energy. This demand is artificially increased further by the low price of oil.

Deregulation will lead to domestic prices increasing in tandem with international prices.

Every consumer will adjust his consumption accordingly. The family will use the car only for reaching the metro station instead of taking a cross- city road travel. The homemaker will cook less urad - and more moong daal to save LPG gas. Companies will install desert coolers in offices instead of air- conditioners. People will install inverters instead of using diesel generators.

In such various ways domestic consumption will reduce when the price of oil increases in the international market.

A basic principle of economics is that welfare is best obtained by selling goods at their true market price. Selling goods cheap is as harmful as selling them expensive. Cheap electricity, for example, has taken away the livelihood of millions of handloom weavers. Cheap oil similarly takes away the livelihood of rickshaw pullers. We should not deprive the poor of their livelihood in the shrill call for selling cheap oil.

High price of oil leads helps in the development of alternate sources of energy. I had an occasion to study the gobar gas plants in village Shyampur near Haridwar a few years ago.

Farmers had closed down their gobar gas plants as soon as cheap LPG gas became available.

Thus we lost an alternative source of energy in our infatuation with cheap oil. The same holds for solar power. The cost of solar electricity at present is about Rs 14 per unit.

The price is expected to decline to about Rs 10 per unit few years down the line due to technological improvements.

I reckon the cost of electricity produced from oil is about Rs 6 per unit at present. Now, assume the price of oil in the international market doubles. The cost of electricity produced from oil becomes Rs 12 per unit while that of solar electricity is Rs 10. In this situation, if the price of oil was subsidized, we would still use oil for generation of electricity because the cost to the producer would be only Rs 6 per unit while the cost to the country would be Rs 12. We would produce electricity from oil, which is expensive and not solar electricity, which is cheaper- due to pricing anomalies.

The deregulation of price of oil is wholly desirable.

The opposition should not build upon shortsightedness of the voter. It should attack the government on measures that are truly antipeople.

They should ask for a reduction of taxes on items consumed by the poor to compensate for the impact of high oil price.

Source: The Financial Express, Delhi, 9th August 2010
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