Heres Why The Diesel Price Hike Is Good For The Economy

Posted on February 15, 2013 in Business and Economy

By Akshay Rajagopal:

The recent decision by the government to raise the diesel prices every month by 45 paise did not come without widespread condemnation from people around the country. The decision comes at a time when the common man is still struggling to digest the increased petrol prices, inflation in daily needs and consumable commodities, the dreaded price hike and cap on LPG supply. With opposition bashing the government and questioning their motive of helping the economy, many parties have taken a strong antagonistic stand. The production and manufacturing industries are also hostile to this call and the decision might see the railways and other government transport systems bear the brunt. Bank of America- Merrill Lynch claims the partial diesel price hike will inflict a 1.20 per cent burden on the already sticky inflation  that might remain high till the next fiscal year. While all this is giving the government nightmares, the Oil Minister M Veerappa Moily conveyed the government’s stand on going ahead with the “controlled” price hike.
However, there is a section that thinks the hike in diesel prices could not have come at a better time and is a step forward in strengthening the economy. Diesel prices have remained unchanged for the most part in India making it cheaper than in China and even Pakistan. It is important to mention here that in the past 10 years, where the fuel price has doubled in the country the cost of crude oil has grown four folds. The government has tried to keep the prices intact for so long that it has resulted in a shocking Rs 400,000 crore of oil subsidy in the past five years. The real shocker is that the government is staring at a bill of 800,000 crore if the oil prices keep rising at current rate. The economic imbalance, fall of the rupee and widening fiscal gap has only added to the woes. The small hike in price will reportedly not help in bridging the gap between the local and international oil prices but will provide the government with some breathing space and the RBI some legroom in formulating their policies for the next fiscal year. The RBI has long called the government to reduce its fiscal deficit which was putting pressure on the interest rate and locking liquidity. If FICCI is to be believed, the governments decision to deregulate the diesel price will have a marginal effect in increasing the inflation for the next few months but is being justified by the reduction in fiscal deficit that the government is trying to find a solution for. “The spike in inflation (by 6-7 basis points), which is most likely to be observed, would be a short-run phenomenon that would eventually translate into lower fiscal deficit (achieving a target of 5.3 per cent of GDP), thus, opening up the option of reduction in subsidy on LPG and kerosene,” FICCI President Naina Lal Kidwai said. Rating agency Moody’s has also stated the decision to be a welcome relief for the economy and is a step forward in the right direction. While the increase in FDI is seen as a boon for the struggling economy the price hike was an interim relief to the economy and the policy makers as it reduces subsidy of 15,000 crore a year.

Selling shares of state owned companies is the central plank of the policies being constructed to bring the deficit down to a healthy 5.3% of GDP for the financial year end and avoid any credit downgrade from the rating agencies. The news of diesel hike has already started showing improvement in the stock market with shares of oil firms going up by 20 per cent adding 1.1 billion to Oil Indias market value. The decision would help attract more foreign investment when the government decides to sell its shares. New Delhi plans to raise $5.5 billion in current fiscal year by selling its stake. This reduced gap in the fiscal deficit will allow the government in diverting its money in more important sectors like raising the LPG cylinder limit from 6 to 9 seen recently.

Apart from saving the fiscal deficit gap the price rise is also seen as  a savior for the car makers who have seen a drastic plunge in their petrol car sales. Manufacturers of diesel car makers have welcomed the move and state the hike will not have any adverse effect on the car sales. Pawan Goenka, president , Mahindra and Mahindra said the gap between diesel and petrol being narrowed is a positive call and will have no impact in the demand for utility and commercial vehicles.

All in all the decision to de-subsidise the diesel prices is seen as the government waking up from its slumber and finally calling the shots. Its being said the price hike will have a positive long term impact on the economy and will help the people. Although how helpful it is for the middle class and the poor, especially the farmers whose livelihood depends on them is yet to be seen.