His first experimentation had to do with issuance of bonds on various items – oil, food and fertilizer. The express reason for issuance of the bonds were to not use any cash to make good the under recoveries of the affected companies. These companies were issued bonds of various maturities in lieu of subsidies payable to them. During the period when this charade was played out, the government was able to show lower deficit as compared to what it should have been. However, these will come back to haunt government finances when these bonds mature as this has to be finally paid out of government revenue. As they, there’s no free lunch.
Having learnt the pitfalls of this strategy, the clever again finance minister devised a new strategy of making the oil companies take a hit by partially absorbing the loss they made by selling oil products (at government’s behest) at less than the cost price and the share of their burden increased progressively over the years to touch 40% of the total under recoveries.
Unfortunately, even that did not help bring the finances in order, given the rising pressure of populism on limited financial resources. The government has now started to borrow from the future to make good its contribution to the total oil subsidy. For the second year in a row, the government decided not to pay a significant amount of oil subsidy (I am talking of only their share) during the year and spill it over to the next year. During the last financial year, the government paid only 55000 crore rupees out of its total contribution of 100,000 crore rupees (total under recovery for the year being 161,000 crore rupees). The remaining 45000 crore rupees will be paid this year. There’s of course the small mater of the oil companies now being able to use the comfort letter thus issued and finalize the books of accounts for the financial year 2012-13 and show profit, as otherwise their balance sheet would have ended up with big blotch of red.
But even this is not the end of the story. For the current financial year, the government had budgeted 65000 crore rupees for oil subsidy. After paying our 45000 crores (as decided now), they would be left with only 20000 crores. Now, with election looming, the government cannot afford to spend more on oil subsidy when the need of the hour is to use as much financial resource as possible to buy votes by increasingly focusing on populist schemes. Remember food security bill is going to hit us soon. So, the next logical step is to increase the subsidy burden on the oil companies even further. For the current year, the government estimates that the total oil subsidy will be 80000 crores. With a mere 20000 crores being available, they want to shift the majority of the burden to the oil companies. Hence the current thinking of the finance minister is that, the oil companies should absorb the remaining 60000 crores i.e. the same amount they absorbed in the previous financial year. This would mean that the oil companies would now absorb as much as 75% of the total oil subsidy burden. How blatant can this be?
But hang on. The finance minister is still not done. Election still needs to be managed. Having failed miserably in controlling inflation, the government now wants to provide the feel good factor to the electorate before the elections are on us. An important way of achieving this would be by way of reducing petrol and diesel price. So what do we have now? In order to reduce the price of petrol and diesel, the government wants to move the domestic pricing norm from export parity to import parity.
Currently, oil companies are compensated for losses depending on trade parity – the ratio of imports to exports, which is 80:20. This means their losses are calculated to the extent of 80 percent on the basis of the prices of imported crude and petro-products, and 20 percent on the basis of domestic output.
The finance minister wants to shift to export parity pricing, since oil companies will then be compensated for losses based on the prices at which they export petro-products – which are lower, since import prices include freight, port and transportation charges. With this sleight of hand, the domestic price of motor fuel would come down while the burden on the oil companies would increase even further, as their business dynamics do not change in any way.
The burdened oil companies are getting increasingly leveraged while at the same time are having less and less of surplus to be able to invest in the future – an imperative for surviving in this investment intensive industry. As they say, there’s no free lunch. But that’s for later. For the time being lets count the wounds.