Oil bonds

In News

• The Finance Minister has said the government cannot bring down taxes and thus oil prices because it has to pay for oil bonds issued by the UPA.

What are oil bonds?

• Meaning: An oil bond is an IOU, or a promissory note issued by the government to the OMCs, in lieu of cash that the government would have given them so that these companies don’t charge the public the full price of fuel.
• Mechanism: When fuel prices were too high for domestic consumers, governments in the past often asked oil marketing companies (OMCs) to avoid charging consumers the full price.
  • But if oil companies don’t get paid, they would become unprofitable.
  • To address this, the government said it would pay the difference.
  • But again, if the government paid that amount in cash, it would have been pointless, because then the government would have had to tax the same people to collect the money to pay the OMCs.
• Oil bonds were issued by several governments in the past.
• Significance of Oil Bonds: Oil bonds are issued by the government to compensate OMCs to offset losses that they suffer to shield consumers from rising crude prices.
• Issue with Oil Bonds: These bonds do not qualify as statutory liquidity ratio securities, making them less liquid when compared to other government securities.

Why were they issued only up to 2010?

• Deregulation of Petrol Prices in June 2010:
  • The UPA government deregulated petrol pricing in 2010.
  • It ended under-recovery on the fuel.
• No losses from Oct 2014:
  • OMCs stopped suffering losses on every litre of diesel they sold from 2014 due to the deregulation of Petrol Prices.
• Price difference between World Market and Domestic Supply was high till 2010:
  • As per the Petroleum Planning & Analysis Cell (PPAC), during that 5-year period, the price of a barrel of crude oil averaged $70.15.
  • The retail selling price of petrol ranged from a low of 37.99 to a peak of 50.62 (in July 2008) over the same period.

Link between oil cost and retail fuel prices

• Elements of petrol prices delivered to consumers:
  • The price of crude oil that is processed into the respective fuels,
  • Central and State levies and
  • Dealer commissions.
• Price peaked in 2011-12 and then eased slightly by 2013-14:
  • The price of the Indian basket of crude oil kept rising during the UPA years, starting at an annual average of $39.21 in 2004-05.
  • They climbed to a high of $111.89 in 2011-12.
  • Prices eased slightly thereafter to an annual average of $105.52 in 2013-14, before the current government assumed office in May 2014.
• Reducing Prices and Increasing Taxes since 2014-15:
  • Since 2014-15, when a barrel on average cost $84.16, crude prices have been on a downtrend and fell to $44.82 in 2020-21.
  • Excise duty and related Central levies have, however, risen sharply
    • They constitute almost a third of the pump price of petrol sold in Delhi as in August 2021, compared with just 14% in May 2014.
  • State taxes have increased at a more gradual pace and risen in Delhi to 23% of the pump price, from 17% in May 2014.

Components of oil bonds that need to be paid off

• There are two components of oil bonds that need to be paid off:
  • The annual interest payment
  • The final payment at the end of the bond’s tenure.
• By issuing such bonds, a government can defer the full payment by 5 or 10 or 20 years, and in the interim just pay the interest costs.

How much of fuel prices is tax?

• There are two components to the domestic retail price:
  • The price of crude oil itself
  • The taxes levied on this basic price.
• Together they make up the retail price.
• The taxes vary from one product to another.
• As of now, taxes account for 50% of the total retail price for a litre of petrol, and 44% for a litre of diesel.

Issues raised by the Government

• Ukraine crisis: The ongoing conflict in Ukraine is to be blamed for higher crude oil prices.
• Oil Bonds: Taxpayers of today are paying for the subsidy which was dished out to consumers more than a decade ago in the name of oil bonds and they will continue to pay for the next five years as the redemption of bonds continues till 2026.

Is the amount large enough to restrict a reduction in taxes?

• Total payout was just 7% of the total revenues in 2014-15: As the years progressed, this percentage has come down because taxes generated from this sector have soared.
• Total revenue earned by the government (both Centre and states) between 2014 and 2022 from taxing petroleum products: This amount is more than Rs 43 lakh crore. That means the total payout by the NDA government till date on account of oil bonds is just 2.2% of the total revenues earned during this period.
• The total amount of revenue earned by the Centre from just one kind of tax Excise in just 2014-15 was more than Rs 99, 000 crore.
  • In other words, while the NDA government has had to pay for oil bonds, the payout is not big compared to revenues earned in this sector.

Way forward

• In a relatively poor country like India, all governments are forced to resort to the use of bonds of some kind: Take the current NDA government itself, which has issued bonds worth Rs 2.79 lakh crore (twice the amount of oil bonds) to recapitalise public sector banks.
  • These bonds will be paid by governments till 2036.
• The present regime can easily pay back the bond debt:
  • The Centre has consistently derived far higher returns from excise duty and other levies than the expenditure it has so far incurred in relation to the bonds.
• Cut down the Central and Excise Duty:
  • The exorbitant excise duty of around 1/3rd of pump price is too high seeing the COVID pandemic, poor economy, high unemployment and high inflation.

Source:IE