Why petrol, diesel prices haven’t fallen in line with the crude oil crash

Why is the crash of crude oil over the past week not translating into a sharp fall in the prices of petrol and diesel — the two key transportation fuels in India? From about $50 per barrel a week back, Brent fell about 34 per cent to $33 a barrel until yesterday (March 12). In contrast, the prices of petrol and diesel have dropped just about ₹1 a litre (1.6 per cent lower) over the past week. At Indian Oil’s petrol pumps in Delhi, petrol cost ₹71.29 a litre on March 5, and ₹70.14 a litre on March 12. Diesel cost ₹63.94 a litre on March 5, and ₹62.89 a litre on March 12. What explains this wide gap?

Many factors — pricing mechanism, currency movements and taxes – queer the pitch on passing on crude oil cost benefits to customers.

Product pricing not crude linked

The price of petrol and diesel in India is not determined by the actual costs incurred by refiners on crude oil sourcing, refining and marketing. Rather, a formula — trade parity price (TPP) — is the starting point for pricing these products. TPP is the weighted average of import parity price (IPP) and export parity price (EPP) with weights of 80 and 20, respectively.

IPP is the price importers would pay in case of actual import of the petrol and diesel at Indian ports, while EPP is the price oil companies would realise on export of petrol and diesel. In short, the product pricing assumes that 80 per cent of the petrol and diesel is imported into India and 20 per cent is exported.

Essentially, the TPP of petrol and diesel in India is determined based on prices of petrol and diesel prevailing in the international market - and not on the basis of crude oil prices.

Now, while international petrol and diesel prices generally move in line with crude oil prices, that need not always be the case. Demand and supply dynamics globally could be different for the raw material (crude oil) and the finished products (petrol and diesel), and so could their price trajectory — in terms of direction and/or timing.

Daily pricing; fortnightly average

The TPP, which is quoted in dollars, is converted to rupees. To this is added the cost of inland freight, marketing costs and margins charged by the oil companies, the dealer commission and the taxes levied by the Central and State governments.

Starting mid-June 2017, the pricing of petrol and diesel using the TPP is happening through a ‘daily pricing’ mechanism. Until then, prices for these fuels used to be determined on a fortnightly basis. But even under the ‘daily pricing’ mechanism, in which the prices of petrol and diesel are revised daily, the price is based on a 15-day rolling average rate of the international benchmarks of petrol and diesel. For instance, the price of petrol in India on March 12 would be based on the international prices of petrol during the preceding fortnight (February 26 to March 11). So, international prices of petrol and diesel do not reflect immediately in India — that happens with a time lag.

Forex factor

It is also to be noted that while crude oil prices have crashed, the rupee has been slipping. From 71.2 per dollar in early January 2020, the rupee now trades at 74.4. This rupee weakness offsets to some extent the benefit of lower international crude oil and petrol/diesel prices, which are quoted in dollars. This will chip away at the price reduction in petrol and diesel.

Tax burden

Next, even if international prices of petrol and diesel are low over an extended period, it does not always reflect in the price of these products in India. Blame this on the heavy taxes imposed by both Central and State governments.

For instance, last time, when the crude oil rout was underway from mid-2014 to early 2016, the Governments at the Centre and many States chose to pocket most of the gains through regular hikes in excise duty and VAT (value added tax) on petrol and diesel. Between November 2014 and January 2016, excise duty on petrol and diesel was raised nine times. Today, the excise duty on petrol is ₹19.98 a litre (from ₹9.48 a litre in January 2014), while that on diesel is ₹15.83 a litre (from ₹3.56 in January 2014).

Not just the Centre, many states also upped their VAT rates when the previous oil rout was underway. High VAT rates are why customers in some States such as Maharashtra and cities such as Mumbai have it worse than others. In effect, only a minor portion of the crude oil cost reduction benefit was passed on to consumers.

There could be an encore this time too. While there has been a fall in prices of petrol and diesel (about ₹6 a litre) in petrol and diesel since January 2020, the fiscal position of both the Centre and the States is quite tight and they may seek to shore up their revenues. This could be true, especially in case of the States, which levy VAT on an ad valorem basis (that is, as a percentage of petrol and diesel prices) unlike the Centre which levies excise duties on a fixed basis per litre. So, a dip in product prices hurts the tax revenue of States, and they may choose to recoup this. For instance, Karnataka recently increased the VAT on petrol and diesel by 3 percentage points, to be applicable from April 1. Other states could follow suit. If the Centre and the States raise taxes, the price reduction benefit to the customer gets reduced to that extent.

Potential benefit

Considering the interplay of the above factors, customers should see some price benefit on petrol and diesel over the next few days. But will it be to the extent of the 34 per cent crash in crude oil prices? Unlikely.

COMMENT NOW