Increasing tax on crude oil and diesel is good economics

The NDA government is reportedly planning to increase taxes on crude oil and petroleum products in order to generate more revenues and keep the fiscal deficit in check. In all likelihood, five per cent customs duty may be imposed on crude oil imports, given that international prices are soft and there is little possibility of sharp turnaround soon.

In the current environment, that tax will not hurt consumers. At the most, it will mean that retail price of petrol and diesel will not be cut for some time when the tax is imposed, even if crude continues to slide in the global market.

The benefits for the government exchequer would be significant. India imports crude worth about Rs 65,000-70,000 crore every month and there is no customs duty to be paid on the imports. Only a small levy of Rs 50 per metric tonne is imposed as National Calamity Contingent Duty. A five  per cent tax will translate into revenues of over Rs 3,000 crore a month or Rs 13,500 crore in the remaining months of the current fiscal year, if the duty is imposed immediately. That’s enough to pay for three months of LPG subsidy.

The softening of crude oil prices also presents an opportunity to the government to reduce the big difference in taxes imposed on diesel and petrol, particularly the excise duty imposed by the Union Government. At present, the Union Government levies Rs 9.2 on a litre of petrol in form of various components of the central excise, including Rs 6 as special additional excise excise duty. In comparison, the central excise on diesel totals Rs 3.46 a litre. There is no special additional excise duty on diesel, considered a common man’s fuel.

Given that the consumption of diesel is almost four times that of petrol, it makes sense to increase tax on diesel as a revenue raising measure. A Re 1 increase in taxes on diesel by imposing special additional excise duty will generate about Rs 590 crore a month or Rs 2,650 crore in remaining months, assuming monthly consumption of average five millon metric tonnes.

Increasing tax on diesel would be met with vociferous opposition, both from users and political parties. It will be seen as an anti-people move. All along diesel prices were kept artificially low while petrol users were penalised with higher taxes on the assumption that petrol is consumed by the elite.

But the consumption pattern of the two fuels is an eye-opener. According to a study commissioned last year by the Petroleum Planning and Analysis Cell, a wing of the petroleum ministry, 61 per cent of the petrol sold in the country is consumed by two-wheelers (scooters, motorcycles and mopeds) and cars account for 34 per cent of the sales. Thus, keeping taxes high on petrol burdens the middle class folks.

Now consider the consumption pattern of diesel. About 38 per cent of diesel is consumed by buses, trucks and light commercial goods carriers.  Agriculture sector accounts for 13 per cent of the consumption. Together, transportation and agriculture account for just a shade over 50 per cent of the consumption. While there is merit in protecting transportation and agriculture, it cannot be ignored that 22 per cent of the fuel is consumed by cars and utility vehicles and 17 per cent by industry and genset users.

A one rupee increase in tax on diesel at this juncture when crude prices are down is unlikely to lead to increase in retail price of diesel. Instead, it would mean that the oil companies will have to hold the price of diesel steady even as petrol price is cut. Narrowing the variation in tax structures is almost as difficult as ending subsidy on diesel, but it is a reform that NDA government should consider to contain further dieselisation of passenger vehicle segment.