As crude oil prices increase, should the Finance Ministry be worried?

A debate has once again started whether the Finance Minister Nirmala Sitharaman should be worried about the spike in global crude oil prices, as her team works on the Union Budget.

The price at which the Indian refiners buy their crude oil has breached the $65 a barrel range in December, with global crude oil prices hitting $68 a barrel.

While a certain section within the government would like to believe that the Indian economy is no longer impacted by the crude oil prices, a larger section still believes that it is worrisome as it has an impact on country’s finances.

The Indian basket — the price at which Indian refiners buy crude — averaged $71 a barrel in April 2019, and then it declined to $ 59.35 a barrel in August, and $ 59.70 a barrel in October, till it moved up to $62.54 a barrel in November. In December, the basket has been on the rise, moving up from $ 61.78 a barrel on December 2 to $67.29 a barrel on December 24.

‘No dramatic rise in oil demand’

On the current spike seen in the oil prices, Narendra Taneja, energy expert, said, “Oil markets have over reacted to the reported thaw in the US-China trade talks. This will not lead to any dramatic rise in demand for oil by China and other big importers any time soon.”

According to Taneja, “Stable demand and supply fundamentals and unlikelihood of any geopolitical tremor in January and February mean crude prices should remain within the band of $60 and $65 a barrel on average in the near future. The military exercise by Russia, Iran and China in the waters close to the Gulf would not lead to any push up in prices until the US presidential elections are over.”

Missed opportunity?

While arguments continue on the oil prices spike, a question arises on whether India has missed the opportunity of bringing necessary reforms in the sector when the prices were low.

The Ministry of Petroleum and Natural Gas has made efforts to address the priorities like energy access, energy efficiency, energy sustainability and energy security. However, concerns still remain even as 2019 comes to an end.

K Ravichandran, Senior Vice-President and Group Head, Corporate Ratings, ICRA, points out that in the upstream segment a spate of arbitrations/litigations surrounding the interpretation of provisions (such as cost recovery, profit petroleum, taxes) in production sharing contracts, mostly signed during pre-NELP and NELP regimes, continue to dent the investor confidence in the oil sector, partly neutralising various reforms measures announced in the last couple of years.

“Price controls on domestically produced natural gas under nominated/pre-NELP/NELP regimes have not been remunerative, making further investments unviable in such fields. Also high cess incidence for the legacy fields is pulling down the net realisation for the upstream companies,” he added.

Declining domestic oil production, even as imports rise, still remains a concern. “Faster regulatory approvals for the recent awards could speed up exploratory projects,” Ravichandran said.

Other challenges

He also pointed out the challenges remaining in the midstream segment of the sector.

“Regulatory uncertainty on the transmission tariff for inter-State gas pipelines, with the incumbents challenging tariff guidelines of the Petroleum & Natural Gas Regulator Board, as they have not been able to achieve normative returns enshrined in regulations; and lopsided bidding criteria for inter-State gas pipelines awards, resulting in limited/no progress on the new pipeline projects, are creating dents,” he said.

As regards downstream the biggest challenge is the price controls on LPG (Domestic) and SKO (PDS). “Even though the government fully subsidises oil marketing companies for pricing these products below import parity levels, there are often delays in payment of subsidy, resulting in the build up of short-term borrowings; interest on such borrowings are not compensated, leading to pressure on their profitability,” he said.

Finally, the lack of visibility on compensation for producing/selling BS-VI auto fuels to recover the investments made by refineries for the conversion projects, is another aspect remaining unanswered.

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