With kerosene and LPG, govt faces a balancing act

Monthly increase in prices to eliminate subsidy could dissuade people from using clean cooking fuel

When Union Finance Minister Arun Jaitley presented the medium-term expenditure projections for the next two years last week, he estimated a nearly 64 per cent fall in petroleum subsidy at  Rs 10,000 crore. Among the three major subsidies — food, petroleum and fertiliser—petroleum is the only one that is expected to fall. 

The minister’s assumption is based on the current policies for cooking fuels — domestic LPG and kerosene. Petrol and diesel, which were earlier subsidised, are priced at market rates. Petrol was decontrolled in June 2010, while diesel, after phased monthly increases, became fully market-linked in October 2014. 

For kerosene, price is being increased by 25 paise a litre every month since July 2016, while LPG price is being increased by Rs4 every month since June 2017; LPG was increased by Rs 2 every month before that (from August 2016).  

“Sustained generic subsidies restrain a government’s ability to invest in development needs. Rather than ending subsidies all at once, a staggered reduction, as was done in the case of diesel, can help minimise the blow and provide time to assess and mitigate any extreme fallouts,” says Saurabh Kamdar, director (energy and natural resources), CRISIL Infrastructure Advisory.

Through these phased increases, the government wants to bring the retail price on par with global benchmark.  “The aim of the government is to eliminate the subsidy on LPG cylinders by end March 2018,” Jaitley said in his statement. While allocation of kerosene to the states for sale through the public distribution system (PDS) has been rationalised from 2016-17 in keeping with the Expenditure Management Commission recommendations, steps are also being taken to enhance DBT coverage for kerosene, he said.

Jharkhand has implemented DBT for kerosene in four districts from April 1, 2016, and other states are being encouraged to follow suit. Some states have, in fact, initiated measures to end kerosene use altogether. Chandigarh declared itself kerosene free from April 1, 2016, and Haryana, too, is aiming to get there.

The total quantum of under recovery/subsidy for kerosene and LPG put together has fallen from about Rs 65,000 crore in 2014-15 to under Rs 23,000 crore in fiscal 2016-17.

Replacing kerosene with LPG, where subsidy is currently restricted to 12 cylinders and for those whose annual household income is less than Rs 10 lakh, will mean an exponential increase in LPG usage. There are over 180 million households using subsidised LPG supply, and the subsidy per 14.2 kg domestic LPG cylinder is about Rs44.

The government through its Ujjwala programme has given out 27.2 million LPG connections to BPL households. “The government aims to cumulatively connect 50 million BPL households under the scheme by 2019. This is expected to double the annual subsidy outlay towards BPL households, at current price levels and for 12 cylinders annually, from Rs 1,300 crore to Rs 2,600 crore,” says Kamdar. 

The consumers coming into the LPG fold will no more be eligible for PDS kerosene quota. And, here comes the difficult choice for the government: If it doesn’t increase LPG price, it will end up bloating its subsidy bill through these additional connections.  However, if it continues to increase the price by Rs 4 every month, as it is currently doing, it may lose the price sensitive consumers at the lowest income level. The monthly increases are for all categories of consumers at present.

The below poverty line  (BPL) families rely on solid fuels, such as wood and cow dung, for cooking. “While these fuels are sourced locally in some places, studies indicate that for a significant proportion of BPL households, the monthly household expenditure towards cooking fuels is Rs 350-Rs 400 a month,” says Kamdar. 

It is important that the cost of a cylinder is kept lower or close to that of alternative fuels although the government believes once people get used to using LPG, they may be willing to pay more for it, as LPG is associated with moving up the economic ladder, and families may not want to lose their newly-acquired status.

For oil companies, the steps to gradually increase LPG prices is a positive one; they will gain from the marginal savings on interest burden due to lower gross under recoveries. According to ICRA, if Indian Basket crude oil price goes beyond $65 a barrel, LPG subsidy for domestic use would touch Rs 255 a cylinder. “However,  with the government on the path to deregulating LPG prices by reducing the subsidy level to nil, the risk related to material under-recovery burden on oil marketing companies  (OMCs) or public sector upstream companies in a high crude oil price scenario has reduced significantly,” says K Ravichandran, senior vice-president and group head (corporate sector ratings), ICRA.

Ravichandran also points out that deregulating LPG prices will open the market for private players, nudging the OMCs to become more efficient in the face of increased competition from private and standalone refineries.

However, the government will need to look beyond its own fiscal burden or the interest of oil companies in deregulating LPG. Access to cleaner fuel is linked to human development indices, and the government may have to strike a balance between its own needs and promoting  clean energy.