Thoughts on economics and liberty

My 3 October talk at Pune’s Entrepreneurs International Club: Why India’s petrol price is so high

The talk was held at Damle Hall. I think around 50 entrepreneurs attended. They started by pledging to serve the society and ended by presenting me with framed inspirational comments from JDR Tata: I’m posting a photo of the framed comments:


Mr Subhas Mayankar, the President of the Entrepreneurs International Pune Club was to chair the session but he became unwell that day, so Mr Anand Bhedsgonkar chaired the session, instead.

I began by praising the role of entrepreneurs in sustaining India despite the odds being stacked against them due to socialist policies. I had the following notes in front of me and broadly followed the structure but not the text. This material is being published here for potential future use. Time permitting, this will feed into a future article for a newspaper/journal.

===BACKGROUND NOTES===

No matter what issue one picks up in India, the cause is the same: the policies of socialism.

I’ll illustrate this through the example of petrol prices.

India’s petrol prices have been high for many years but now they are at their peak. Fortunately, due to benign inflation and growing incomes, this high price has not caused protests in the streets. But petrol is a crucial input to economic activity and high prices of petrol are disrupting economic activity, thereby reducing the employment prospects for millions of people.

We need to understand the causes of this price rise in order to find solutions.

I will discuss three aspects of the situation:

First: the fall in the Indian rupee

Second, crude oil prices are increasing

Third, the extremely high level of taxation of petrol in India.

  1. The fall in the Indian rupee

Since 1947 the Indian rupee has fallen over 400 times in value and almost 20 times in value against major world currencies. For example one US dollar was worth less than four rupees. Today it is worth 73 rupees.

The rupee’s decline in purchasing power compared with foreign currencies is entirely driven by India’s socialist policies. These have led to India playing a very small part in world trade at least till the 1990s, and therefore low demand for the Indian rupee. India, on the other hand, needs foreign currencies to purchase essential needs, so these currencies are much more valued. [+ Deficit financing – elaborate].

Further, the weakness of the Indian economy and rupee means it is not practical to make the Indian rupee fully convertible as that could lead to a vast outflow of capital out of India, further harming the rupee.

No economist recommends socialism, but India continues to follow it in almost every way even today. But we know that socialism is a very dangerous ideology.

Cuba was much richer than Singapore in 1959 when Castro and Lee Kuan Yew both came to power. Both countries are also roughly comparable in their population size. Cuba chose the socialist model. Singapore chose the capitalist model. Today, Singapore is nearly 9 times wealthier per capita than Cuba. The colonial histories of these countries did not matter. What mattered was the economic system they chose. Similar stories can be said about North and South Korea.

It is true that the immediate factors leading to the steep decline in the rupee this year have been outside India’s control. These are the result of the GFC of 2008 and the subsequent low interest rates which saw money pouring into risky developing countries. But now that the US economy is offering higher interest rates, the money is flowing back, putting a downward pressure on the rupee.

While the Modi government is not responsible for these factors, it is fully responsible for continuing the socialist model which has ruined India and the rupee since 1947.

  1. Crude oil prices are increasing

Crude oil prices have been volatile over the past ten years. The price of West Texas Intermediate crude oil reached over $140 per barrel prior to the GFC which made it profitable for manufacturers in USA and Canada to produce shale oil. But crude oil prices collapsed after the GFC. Demand recovered again for a couple of years to cross $100 per barrel but fell sharply from June 2014, just when Modi  government came to power. It remained low for most of the tenure of the Modi government, even dropping to less than $30 per barrel. Crude is now hovering between $70 and $80 per barrel.

But why is crude oil price rising again? One, global demand is outstripping supply since the world economy has largely recovered from the GFC. Two, the OPEC, which controls 60 per cent of global oil output, has imposed production cuts till the end of 2018. There are also increasing geopolitical risks in Iran.

With oil prices in today’s range, it is now profitable to produce shale oil again and so we can expect oil supply to be boosted strongly and oil prices to stabilise or even fall in 2019.

While the Modi government doesn’t control these factors, it does control the domestic supply production of oil and the purchasing power of the people. It also controls the level of innovation in the energy sector in India.

Domestic supply of oil: Domestic oil production has fallen for six years in a row. We now import 82 per cent of India’s crude oil requirements. While it is possible that there are no new major finds to be made in India, there is a strong likelihood that India’s poor investment environment is partly responsible. India’s socialist model has restricted private investment and production in many areas of natural resource extraction, including mining. In mining – an area which I have studied in some detail – the policies were designed badly. More generally, the government must entirely get out of oil exploration and production.

Purchasing power of the people: The real issue is the poor purchasing power of the people. The rich don’t experience as many negative effects from petrol price rise, as the poor. Wealthy countries like Singapore and Australia can buy as much petrol as they need at any price. There is also effectively no limit to oil production, for if necessary, it can be produced from coal or corn. India continues to rank as one of the poorest nations in the world because of its socialist policies. Its poorest suffer the most. The Modi government is responsible for keeping India poor.

Low levels of innovation in energy: There is a race across the world to discover alternative forms of energy such as fusion to dependence on oil. But India is lagging on this front, although it is member of ITER, the International Thermonuclear Experimental Reactor in France. Much innovation in this field is happening in the private sector such as Lockheed’s compact fusion reactor. Since Indian companies mostly do not produce new technology but copy the West, we are not leading in discovering alternative forms of energy. This is once again a problem of socialism, which doesn’t create enough resources to invest in research.

  1. Extremely high taxation of petrol in India

The overall level of taxation of petrol in India is extremely high compared with developed countries. Petrol costs Rs.48 per litre in the USA today and Rs. 75 per litre in Australia.

Even if we compare with Australia we find that the level of taxation in India is extortionate.

First, the level of taxation is punitive. Taxation (including excise on petrol and GST) is around 100 per cent of the cost of the product. Such extreme levels of taxation are generally applied to strongly discourage certain anti-social behaviour. But petrol should not attract a “sin-tax”. It is an essential input to transportation, which is the lifeline of the economy.

Second, we must remember that the cost of delivery of government services in India is much lower than in the West. Therefore taxation must be proportionately much lower. For instance, a Police constable in India gets Rs.3 lakhs per year while Australia governments pay around Rs.35 lakhs per year to a constable. India’s Cabinet Secretary gets around Rs. 35 lakhs per year while comparable officers in Australia get Rs. 4.5 crores per year.

But these salary levels should be moderated through purchasing power parity calculations. India’s per capita income is US$1,670 in nominal foreign exchange terms but US$5,350 in purchasing parity terms. A salary of Rs. 3 lakhs per year for a constable is therefore worth Rs. 10 lakhs in purchasing power. But even then it shows that India’s government services cost no more than 30 per cent of Western country costs.

Further, India’s overall tax level is two-third of the overall tax level of an average Western country. Therefore, fuel taxes in India should not exceed 20 per cent of Western tax rates. In other words, the Modi government should not charge more than 20 per cent of comparable Western country petrol taxes. The price of petrol after taxes at the pump in India should not exceed Rs. 50 per litre today, somewhat like the USA.

Of course, fuel taxes should mainly go towards road maintenance but India looks like a war zone with massive potholed roads. It is not that the government is even providing the services it is charging for.

Our party considers this extreme level of taxation to be a form of plunder. In fact, the Modi government did not allow retail petrol prices to fall when international crude oil prices fell. This was a shocking situation since in the West, such as in Australia, prices of petrol track crude oil prices very closely. People in the West benefited from extremely low petrol prices for the past three years but Indians were not so fortunate.

Therefore Indians have been paying vastly inflated prices of petrol for the past four years.

The data are clear. From around 77,000 crore rupees in petrol excise duty in India when Mod government came to power, the duty is now well over 250,000 crore rupees, an increase in more than three times.

The Modi government needs to drastically reduce petrol excise immediately.

Question: How will revenues be raised?

  • income tax broadening
  • sell PSUs
  • divest government land
  • asset recycling.

Urgently needed reforms

Socialism has destroyed India and continues to block its growth.

Nehru thought that profit is a dirty word, even as Lee Kuan Yew was scolding the socialists in Singapore that if profit was considered dirty then Singapore would go bankrupt. He showed Singaporeans that profit is critical for the growth of Singapore. Unfortunately, even today there is no one on the scene in India who believes this and explains it to the people.

Our party is fully committed to creating an environment in which business can flourish. India remains close to the bottom of the world in ease of doing business. And also on critical indicators of corruption and economic freedom.

We need governance reforms and policy reforms. I’ll highlight them now.

Governance reforms

India’s governance system is completely incompetent and corrupt. We have extremely poor quality of political representatives and shabby bureaucrats who have no knowledge of public policy making. This is because we copied the British model of governance and made it worse through socialist incentives.

In my book, Breaking Free of Nehru, the reforms are described in detail, but essentially we need state funding of elections on a per vote basis and also the elimination of tenured bureaucracy, and replacement with an accountable one.

Policy reform

The only thing a government must do is to play in a society is provide security, justice and some infrastructure. The less a government involves itself in any economic activity the more the people can innovate and become prosperous. The government must not undertake any business.

Thus, the government must divest all PSUs including in the oil sector and focus only on its core functions. By privatising oil refining, competitive pressures would further reduce petrol price.

SUMMARY

In summary, the solution to the petrol price problem is four-fold:

  1. cut petrol excise which is ridiculously high
  2. shrink the size of government and get out of all business activity
  3. transform the governance system to ensure high quality policy capacity and accountability.
  4. foster private enterprise and innovation

I resigned from the IAS when I realised that none of these and many other reforms were going to happen without political action. Since then I’ve helped form Swarna Bharat Party, India’s only liberal party. This party is committed to world best policies and governance systems for India.

Please join or support SBP. We are contesting at least three seats in and around Pune, which is the heart of liberalism in India. I look forward to your support for SBP.

Sanjeev Sabhlok

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