Fuel duty cuts likely to help ease retail inflation by up to 25 bps

But experts call for other fiscal measures too to bring inflation down

The Union government’s move to cut excise duty on petrol and diesel by Rs 8 and Rs 6 a litre, respectively, is likely to ease the retail inflation rate by up to 25 basis points (bps) from June onwards. If the move’s indirect impact on other items, including food prices, is also considered, the average inflation rate may reduce by 40 basis points during the current fiscal year.  

Since only nine days are left this month, the measure may impact the consumer price index (CPI)-based inflation rate by 7-8 bps only.

According to Devendra Pant, chief economist, India Ratings and Research, “The step is likely to have an impact of around 20-25 bps from June onwards, while in May, the impact may be limited to around 7-8 bps.”

ICRA Chief Economist Aditi Nayar tentatively pegged the CPI inflation rate at 6.5-7 per cent in May against an eight-year high of 7.79 per cent in April. But this includes both base effect and initial impact of the excise duty cuts.

The inflation rate in April 2021 stood at 4.23 per cent and it rose to 6.30 per cent in May that year. This itself shall statistically lower the inflation rate, provided other factors remain the same. This is called base effect. 

Besides the Centre, Maharashtra, Rajasthan, Kerala, and Odisha have reduced their value added taxes (VAT) on petrol and diesel. While Rajasthan slashed VAT on petrol by Rs 2.48 a litre and diesel by Rs 1.16 a litre, Kerala did so by Rs 2.41 and Rs 1.36, respectively, and Odisha by Rs 2.23 and Rs 1.36.

The Maharashtra government has slashed VAT on petrol by Rs 2.08 per litre and diesel by Rs 1.44 per litre. In a statement, it said the state exchequer will have to bear an annual loss of Rs 2,500 crore as a result of this decision.

These four states are likely to witness the additional impact on inflation because of the reduction of VAT on fuel.

"The first round impact of the excise cut will be felt for only about 10 days this month. We are waiting to see how many states follow suit and this will also determine the second-round impact," Nayar said.

But former finance minister P Chidambaram flagged weak financial conditions of states. “The states are getting very little by way of share of duties on petrol and diesel. Their revenue is from VAT on petrol and diesel. I wonder if they can afford to give up that revenue unless the Centre devolved more funds or gave them more grants. The situation is like being between ‘the devil and the deep sea’,” he tweeted.

The finance ministry, on the other hand, clarified that the excise duty cuts have been made in the road & infrastructure cess. And that means states will not lose money due to these cuts.

Besides, the reduction in excise duty will impact auto, bus, and taxi fares. This will also have an indirect impact on food and other items due to lower transport costs.

For instance, truck rentals rose 4-5 per cent in the fourth week of March after diesel prices surged by Rs 5.70 a litre, according to Indian Foundation of Transport Research and Training. After a long pause since Diwali on November 4, 2021, oil marketing companies started raising prices of diesel and petrol from March 22, days after the results for five Assembly elections were announced.

Bank of Baroda Chief Economist Madan Sabnavis said he now expects the inflation rate to average 5.6-6.1 per cent for 2022-23. His earlier estimate was 6-65 per cent.
 

Pant said the second-round impact because of reduced freight costs may show with a lag of a month or so.

Even though benchmark global oil prices have declined on the back of easing supply concerns, they are still hovering around $110 per barrel for Brent and West Texas Intermediate crude amid the extended war in Europe.

It is learnt that finance ministry officials, already seeing their FY23 fiscal maths go awry due to higher-than-budgeted food and fertiliser subsidy outlay, were not in favour of such a big excise duty cut. According to Finance Minister Nirmala Sitharman, the impact of the latest excise duty cuts on the exchequer would be Rs 1 trillion on an annualized basis.

But Pant said the move by the Centre and some states won’t have a significant impact on controlling inflation.

The Centre has been taking measures to ease supply-side concerns related to various items, including wheat, pulses, edible oils, and cotton, in a bid to make them relatively affordable.

For instance, the Centre had on March 30, 2022, extended the free import of tur and urad for one year. Under the regime, introduced in May last year, specified pulses can be imported without any quantitative restriction.

The country meets 10–12 per cent of its domestic consumption of pulses through imports. Its pulses production is estimated to be 26.96 mt in 2021-22.

Surging global prices of refined oils prompted the Union government to reduce the customs duty from time to time to provide relief to consumers. Since February 2021, the government has reduced the duty on edible oils six times to control domestic prices. The current effective duty on crude palm oil, crude soybean, and sunflower at 5.50 per cent is valid until this calendar year-end.

The landed price (carriage, invoice and freight -- CIF) of RBD Palmolein in India has gone up by 132 per cent, crude palm oil by 135 per cent, soybean oil by 131 per cent, and sunflower oil by 163 per cent since January 2020, due to the jump in international prices and rupee depreciation by 7 per cent in the past two years.

Recently, Indonesia imposed a ban on export of all varieties of palm oil, which further pushed up prices. This triggered talks of another round of duty reduction to cool down landed prices. However, the Indonesian government last week announced that it will lift the ban on export from May 23 as its domestic stocks have exceeded storage capacities and local prices cooled down.

According to highly placed sources, two rounds of discussions have taken place in the highest levels of government so far. One on duty cuts on petrol and diesel and the other on cooking oil.

While duties on crude cooking oil are almost negligible, there was still scope for some cuts in refined cooking oil products. But officials were apprehensive that a cut in import duty by India would lead to a rise in export duties by the likes of Indonesia and Malaysia.

However, with Indonesia lifting the ban on cooking oil exports, the expectation is that cooking oil prices will cool down.

Similarly, the Centre in April this year had waived the customs duty on cotton until September 30 to cool down prices and smoothen the supply pipeline. But there was little respite as cotton yarn manufacturers raised prices by Rs 40 per kg for various categories. The international market, too, factored in the duty cut and raised prices, thereby further negating the impact.

Garment units in Tirupur decided to go on a strike between May 16 and May 21 due to the rise in cotton yarn rates.

To ease price burden

Other duty changes and subsidies by the government

• Rs 200 subsidy per gas cylinder (up to 12 cylinders) to 90 million beneficiaries of Ujjwala scheme

• Reduction in Customs duty on raw materials and intermediaries for plastic products, such as naphtha, propylene oxide

• Reduction in import duty on some raw materials of steel, such as coking coal and ferronickel

• Increase export duty on some steel products, such as iron ore pellets and pig iron

• Measures being taken to improve the availability of cement and reduce its cost through better logistics

The most vital of all agricultural commodities whose price spike has rattled the government the most is wheat. Therefore, barely weeks after Prime Minister Narendra Modi talked about “India feeding the world with its grains”, the government banned all types of wheat exports with immediate effect, to salvage its falling inventories on May 13, 2022.

The finance ministry said the RBI data showed that total developmental expenditure incurred by the Modi government stood at Rs 90.4 trillion during 2014-2022, against Rs 49.2 trillion during 2004-14.

The belief in the government is that global inflation is the only major headwind facing the Indian economy. Officials are encouraged by the fact that despite disruption in supply chains and the spike in commodity prices due to Russia’s invasion of Ukraine, India’s economy is still expected to grow around 7.2 per cent in FY23, according to the projection by the Reserve Bank of India.

The wholesale price index (WPI)-based inflation rate rose to the highest level in the current 2011-12 series at 15.08 per cent in April. With this, WPI-based inflation has been in double digits for 13 consecutive months.

The CPI inflation rate galloped to a 95-month high in April at 7.8 per cent, which shall prompt the RBI’s monetary policy committee (MPC) to go for more policy rate hikes after an off-cycle 40 basis point increase in the repo rate earlier this month.