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Impact Analysis of Petrol / Diesel Price Hike on Indian Economy

May 24, 2012

Indian oil companies will raise gasoline (petrol) prices by INR 7.5 per litre or 11-12% at the retail level, effective midnight tonight. Petrol has a weight of 1.1% in the wholesale price index (WPI) and this increase will raise the headline WPI inflation rate by around 20bp. Since petrol prices are technically decontrolled, the hike will not impact the fiscal subsidy bill.

Given that price adjustment by the oil marketing companies (OMCs) follows a two-week trailing average of crude oil, a cut of INR1-1.50/litre in petrol prices is likely when prices are revisited on 1 June.

What is the Loss to Oil Marketing Companies – BPCL, HPC, Indian Oil ?
Oil companies continue to face substantial losses on selling other fuel products at below market prices. Diesel, liquid petroleum gas (LPG) cylinder and kerosene prices need to be hiked by around 38%, 120% and 220% respectively in order to erase the losses of oil marketing companies.

Indian Fuel Subsidy Estimates for FY 2013 Here is the approximate Fuel Subsidy Bill of Indian Government.

LPG – Rs 44,000 Cr
Kerosene – Rs 30,000 Cr
Diesel / HSD – Rs 90,000 Cr
Petrol – No Subsidy
Total – USD 33 Bn is the Fuel Subsidy Burden

The latest move is meaningful and a positive signal from a government to cut fiscal deficit. However, the more important action will be to follow through with increases in the prices of other fuels (diesel and LPG, kerosene is unlikely to be touched). Diesel is the ultimate intermediate good and will have an adverse effect on inflation 0.5-0.8ppt on headline WPI inflation.

Medium Term Impact The price adjustments impact near term inflation trajectory, but are necessary to bring about some fiscal sanity and for correcting some of the imbalances causing the twin deficits. However, this will adversely affect consumer spending and overall economic growth. This is because disposable income will be hit due to lower subsidy outgo and there will also be pressure on government to restrain some other spending.

As there does not appear to be any meaningful improvement in investment spending by the Government of India due to Paralysis and Corruption Scandals, Indian GDP growth is likely to slip to 6% in FY 2013. And finally when you compare GDP / Inflation, we will be in the negative territory 🙂

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