Friday, 7 September 2012

Indian Energy Industry: Petroleum Overview

Energy in India: An Overview

The objective of this post is to provide an overview of Energy with emphasis production, consumption and pricing snapshot, idea for the same being that it will help us understand the exact nature of Energy related subsidy and in-efficiencies. 
First we will identify the primary sources of Energy and then go into details for the ones that can be classified into Petroleum and Electricity (there are some overlapping but in India’s case they are minor).

1.       Primary Sources of Energy

                                                                                Fig. 1 Primary Energy Sources %
The key facts from Energy perspective are:
a.       Majority of energy is met by Coal whose share is set to increase in short to medium term.
b.      India imports 80% of its Oil & Gas which has consequences from Energy security perspective.
c.       Nuclear & Renewable energy have not taken off in India but India need to consider them for to meet its Energy needs in long term i.e. 2020 onwards.
d.      India’s energy needs is growing at 6% CAGR

2.      Oil & Gas

Fig 2.  Petroleum products by consumption % for 2011-12
 Major facts that need to kept in mind:
a. HSD (Diesel), SKO (Kerosene) and LPG constitute Sensitive products whereby GoI provides subsidies for the same (implicit and explicit)
b.  Petrol has been removed from the above list from Jun 2010 hence currently there is no under-recovery or losses to OMC (Oil marketing Co.) on Petrol.
c.    Others constitute furnace oil, Naphtha etc are industrial products which can be bought and sold in open market without GoI intervention in its pricing.
d.  India is self sufficient in refining crude and exports approximately 20% of its refined petroleum products

HSD (Diesel)

Fig 3.  Use-wise percentage share in total consumption of diesel 2008-09
Consumption analysis of diesel brings out few salient points that should weigh in for overall Energy policy
a.       Except for a share of passenger car and power generators which is used by home owners for personal use majority of diesel consumption is for commercial activities.
b.      Hence, any price increase in diesel will result in price increase in various sectors so for e.g. farmers will be compensated by higher MSP of major crops, transporters can increase their rentals similarly for industry.
c.       The closer the diesel price is to market price will result in lesser subsidies which could then be used for targeted subsidy to economically weaker groups.
d.      Removal of distortion/inefficiencies that build up in economy for e.g.
                                 i.            Railway consumes 25% energy in moving freight vis-à-vis trucks, by bringing diesel prices closer to market price good movements demand will be moved towards railways improving efficiency
                               ii.            Diesel based passenger cars have proliferated from 4% of passenger car market in 2004-05 to 40% in 2011-12. This causes inverse subsidy whereby GoI is subsidizing the rich creamy layer from taxes!
e.      To discourage diesel based passenger cars as compared to Petrol an excise duty should be levied that should take into account difference in taxes for Petrol (customs, excise as well as VAT/sales) over a life time of a vehicle of 10 years plus a tax to account for negative externality like pollution (Diesel is more as compared to petrol). For e.g. a vehicle that is driven 8000 km/year and gives an average of 13.5/ Km per litre receives a benefit of Rs 12,000/year which should be levied as tax after discounting the same for 10 year or average life of a vehicle.

SKO – Kerosene
PDS Kerosene is used by homeowners primarily for lighting. It is mainly used in rural environment for lighting where electricity is not available or if available its supply is erratic. It is an very inefficient form of lighting/cooking medium as compared to electricity or LPG with which it should be substituted.

Fig 4.  Kerosene (SKO) production in ‘000 MT

Fig 5.  Share of Energy sources for Lighting in Households from NSSO 2010
The key points with regard to SKO – Kerosene are:
a.       Over the years there has developed a inverse relationship between consumption of Kerosene and a state’s income level, thus today per capita kerosene consumption in high income states is 41% higher than low income states. This need to be rationalized and GoI allocation of kerosene needs to account for rise in personal income across households.
b.      From 1999-2000 to 2005-06 there has been decline by 53% in households using kerosene in high income states while the same is 24% for low income states.
c.       As per NSSO data for majority of households 3.5 litre of kerosene per month is sufficient for lighting purpose hence a PDS limit of 5 litre per household should be more than adequate.
d.      A large price difference in price of Kerosene vis-à-vis diesel (approx Rs 30/litre in Delhi) is an incentive for adulteration. It is estimated that around 40% of PDS kerosene is diverted for unauthorized purposes including adulteration. This not only is substantial leakage in taxpayers money but causes loss both due to pollution and wastage of money in upgrading vehicles as well as fuels into Euro III and Euro IV standards.
e.      Cell based lanterns and solar powered lanterns would be a clean and efficient replacement for kerosene based lighting, also with spread of rural electrification need for Kerosene as source of lighting could be phased off.
Domestic consumption of LPG has increased from 9.3 MMT in 2003-04 to 15.4 MMT in 2011-12. Sale of subsidized domestic LPG cylinders constituted 86.5% (cylinders of 14.2 KG) of total LPG sale in 2008-09 which would have only decreased slightly with coming in of private players.

Fig 6.  Share of Energy sources for Cooking in Households from NSSO 2010
The key understandings about LPG are:
a.       It is stated policy of GoI to provide access to clean and efficient cooking medium primarily LPG to 75% of households by 2015.
b.      LPG usage is primarily urban based with only 9% of rural households having access to LPG.
c.       LPG is heavily subsidized by GoI and in unlimited quantity (although there have been recent measure to restrict no of cylinder refills per connection) thus providing substantial subsidy to well-off section of population.
d.      The LPG-consuming households in the top 3 decile (Fig 7) in urban areas, comprising some 22 million households, use nearly 40 per cent of LPG and spend less than 5 per cent of their total expenditure. These households get a large part of the subsidy even when they have the capacity to pay the market price for LPG and will use LPG even when the price is raised.
e.      LPG subsidy as currently structured is a regressive subsidy whereby people spending more (of course they earn more) are the ones who get more subsidy from GoI while ideal subsidy should have been reverse where household below certain threshold should only qualify for the subsidy.

Fig 7.  LPG consumption per decile of household Rural/Urban from NSSO 2010
        Until June 2010 Petrol was also classified as Sensitive products i.e. its pricing was determined by GoI directive and any losses incurred by OMC were to provided by GoI in implicit or explicit subsidies. Now , its prices are market driven hence in current financial year there are no implication from its under-recovery/losses.

3.      Subsidy and Pricing of Petroleum products

Energy subsidy is basically defined as a government action that
a.       Lowers the cost of production,
b.      Raises the price received by producers
c.       Lowers the price paid by consumers.
In India’s case it is the last which forms the bulk of subsidy with a slight bit coming in the form of tax credits.
India has a huge population that is in extreme poverty and majority of population approx 60-70% that has limited economic mean; it is a well established fact that basic energy demand is in-elastic thus in market driven environment this would cause extreme burden on majority population and secondly price volatility would cause further distress. Hence, it has been considered one of the core objective of GoI policies to provide subsidies for Petroleum products consumed at household i.e. domestic LPG, PDS Kerosene and Diesel (Petrol was declared market driven in June 2010)
Types of Subsidy
Sensitive petroleum products are sold for less than cost prices to OMC (related to international market prices), with the government providing a fiscal subsidy on LPG and Kerosene. The subsidy, however, covers only a part of the difference between the cost price (including marketing costs) and the selling price of these three petroleum products, thereby resulting in “under-recoveries” for the OMCs.
Under Recovery = Cost Price – (Depot Price + Fiscal Subsidy*)
 where, Cost Price is cost to OMC including its profit margin
Depot price is the price at which OMC sells the same to Distributor
*In case of Diesel there is no direct fiscal subsidy
The Under Recovery is covered by GoI either by direct cash assistance or Oil bonds (2005-2009) and part of the amount is covered by upstream NOCs like ONGC, GAIL etc. (Indian Producers) whose profits will now be shared with downstream OMCs, remaining any amount has to be borne by OMCs themselves.

Fig 8. Financing of Under-Recovery for 2010-11

Fig 9 Trend in Under-Recovery

Over a period of time Petrol has moved out of sensitive product hence has no losses for OMCs while Kerosene consumption is also on a downward trend but Diesel and LPG are area of concern as they are growing at high rates.


These are the prices for Sensitive products as of 1-Sep-2012 in Delhi with their corresponding Under-Recovery amount.

In FY 2012-13 Apr-Jun quarter alone the total amount for Under-Recovery is Rs 47,811 crore which is more than double the amount of 2010-11.


GoI various taxes from Petroleum industries both at Central and State level in the form of customs, excise, sales and VAT etc. The revenue for last two years was

These revenues is from all petroleum products and not just sensitive ones but the important fact to note is that total amount of subsidy including Under-Recovery for OMCs is less than total taxes collected by government in any given year!
The issue is that OMCs are solely supported from Central budget while taxes are split between central and state government. However, these do not include corporate tax, tax on dividend, profit petroleum including all such accruals to GoI the total taxes were Rs 225,494 crore in 2010-11.

4.      Subsidy : A way forward
No one in their senses can ignore energy poverty prevailing in India and they do need all help from government for a better future. The current way subsidies are operated due to their historical and political reasons they are highly inefficient and in some cases perverse where middle-class tax payer are subsidizing rich or well-off section of society.

The key steps that are recommended are:
a.       Targeted Subsidy: Subsidies in current form are executed in blunt fashion to improve their efficiency going they need to be better targeted mostly BPL or household with income below mean. This need to be strongly linked to a Unique identification system (Aadhar/UID ?). This will help in rationing of either LPG/Kerosene and could also in future be used to have cash transfer of subsidy into beneficiary bank accounts.
b.      Market Price: These needs to be done for Diesel initially as most of its consumers have the ability to pass on the price to end customers. For LPG and Kerosene this needs to be done in conjunction with above as then GoI will have the ability to achieve cash transfer for subsidy amount to beneficiary. This will help in reducing Under-Recovery amount drastically a part of which would be used for direct cash transfer.
c.       Taxation: Petroleum products are currently attracts substantial taxes at both central and state level. As products are de-regulated these could be brought down to levels that are prevailing world wide, it is also suggested to have rationalization whereby Govt promotes cleaner and efficient fuels.

 I have aggregated these from multiple sources for a simpler understanding. If you wish to delve deeper into these issues it is highly recommended to go through the following documents

1.       Petroleum Planning and Analysis Cell: MoPNG, New Delhi
2.       A citizens guide to Energy Subsidies in India
Produced by The energy and resources Institute and The International Institute for sustainable development’s global subsidies Initiative.
3.       Report of The Expert Group on A Viable and Sustainable System of Pricing of Petroleum Products
Govt of India, New Delhi 2010
4.       Energy Statistics 2012: Central Statistics Office MoSPI New Delhi

No comments:

Post a Comment