Reform of the Fiscal and Subsidy Regime for the Petroleum Sector (Based on a Report Commissioned by the Petroleum Federation of India)

Abstract

Problems in the oil sector emanate from the structure of central taxes and the system of subsidization through prices. Solutions to the problems necessarily have to address both tax and subsidy simultaneously. The social losses include misuse / wasteful use of scarce petroleum resources, diversion, adulteration, other avoidable negative externalities, improper substitution between products, tax arbitrage, distortion of consumer preferences and input choices of industries, and international crosshauling of petroleum. Nearly all these costs and problems arise not because of subsidization per se but because of the use of varying retail prices that are used to subsidize. Prices for the same product vary for different consumers. They also vary across products. These tax /subsidy variations are the root cause of nearly all problems in the sector. Autonomous price variations (i.e. those resulting from the actions of firms (under a regime of non-distortionary subsidies) would be small and not subject to arbitrage, i.e. to the realization of rents through diversion and adulteration.