So, over the past week, fuel costs have gone up to the highest ever in India. Several ‘social media’ economists are either going full throated rudaali against, or offering fact-free defence, and I’m starting to feel that most among them don’t understand fuel economics.

Here’s my attempt to explain it…

Fuel economics is much more than the cost of fuel. Its about who uses fuel, what it is used for, what that cost includes (commodity price + taxes) and most importantly, the part it plays in the overall budget of the country.

Without going too deep into how the budget is prepared / balanced and how the Budget Deficits are managed, let me summarise by saying that the goal of any government should be to have a balanced budget where the difference between expenditure and income, which is funded by borrowings should be limited to what the country can service based on its revenue collections and future growth potential. In light of the same, here’s a quick chart of India’s budget deficits over the years.

Gross Deficit = Primary Deficit + Interest costs

As you can see, India’s budget deficit has been dropping rapidly over the past few years, the biggest drop being between 2013 & 2017. Now one reason of the high deficits used to be the increased government spending going into fuel subsidies. Fuel Subsidies are when the govt buys fuel at a high rate and sells it at a lower rate and bears the differential cost. Here’s some data about this.

As you can see, Fuel Subsidies have been completely eliminated in an slow & steady manner by the current government. This was one of the key economic points in the 2014 manifesto of the BJP, and they executed it, as per the will of the people. Now, in 2015-16 the government (& the country) were greatly aided by the fact that fuel prices dropped down to 50$ a barrel, so despite a sharp reduction in subsidies, fuel prices in India continued to stay low.

Now, let’s come to the point about why fuel subsidies are bad & who consumes fuel and for what purposes:

• Personal Transportation – There are approx 20 Cr 4-wheelers & 2-wheelers in India with 80% of these being 2-wheelers. That makes car owners in the top 4% of India’s SEC, and bike-owners (am using bike loosely to define all 2-wheelers) in the top 10% of India’s SEC. 2-wheeler’s average mileage is 5-6 times that of cars, so cars end up consuming much more fuel than bikes.
  So, effectively what happens is that any fuel subsidy given, goes to reduce the burden of only the richest top 15% of India’s population and within that too, most of it goes into reducing the cost burden of the richest top 4% of India’s population.
  Now you can decide for yourself if the top 15% wage earners of the country need a break or the remaining 85%?
• Food Transportation – Approx 14% of food cost is transportation cost. Only approx 60% of all food is transported by road, rest by rail. Of the road transportation cost, approx 40% is fuel cost. So, of total food cost, only approx 4% is the fuel cost. Hence, a 20% increase in fuel cost leads to ONLY a 0.8% increase in food costs. Negligible.
  Now, what used to happen in the past, because of the calamitist coverage of fuel prices by our (largely incompetent) media, is that middle-men would use the media pieces as cover to increase prices of food products and blame the increase on fuel price rise, whereas it was actually not so. However, now, with most middle-men having being eliminated from the food products value chain, you will see almost no increase in food products cost because of fuel increase.
• Other than the above, there are other consumers too, like diesel generator users – mostly hospitals & all of Gurugram (sic) and farm equipment (tractor, thresher, etc) users, but they are very very limited and most of them use diesel, which hasn’t gone up

Now let’s look at where this money being collected by the government as Fuel Taxes goes. Some of it goes towards payment of past dues of fuel. There’s a past due amount to Iran which the UPA II had not provisioned for, of a whopping 6.7bn Euros. So that needs to be paid for. The remaining goes into the common budgetary income pool, and which is used to fund the Food Security Act and Ujwala Yojana (free/cheap LPG in poorest-of-the-poor homes) and many other things like road construction, waterways building, etc etc etc.

Now, the Food Security Act basically ensures that each citizen (the poorest of poor / bottom of the SEC ladder) will receive XX grams of food daily (carbs + pulses + fats) at extremely low rates. It provides subsidised food grains to approximately two thirds of India’s 1.3 billion people. The bill for that is a whopping 80,000-90,000Cr annually.

Now its upto us to decide what makes more sense – to have a subsidy that benefits the top 15% (the top 4% really) of the country or one that benefits 2/3rd of India’s poorest of the poor… I think there’s really no argument there.

All that said, the argument can still be made that the fuel increase affects all and why should the taxpaying middle class bear even 1 Re of increased fuel cost?

Here’s why:

An Annual Household Income of a family less than 90 Thousand INR in india is considered as Poor Class; Income Between 90–2 lacs per annum is in the Low income Group; Between 2–5 lacs per annum is considered in the Middle Income Group

Incidence of motor vehicle ownership in the above 3 groups is less that 0.5% and bike ownership less than 5%.

Now pl peruse these charts / graphs of the past 4 years.

Over the past 4 yrs, the bottom rung among of the taxpayers have received a 66% reduction in the annual taxes they’ve been paying. Further, with CPI inflation crashing to half of what it was 4 yrs ago, each rupee today buys much more than what it used to 4 yrs ago. With a combination of these two massive improvements in their lives, the minor impact of fuel cost increase is something that they should bear, for the betterment / benefit of everyone. If they still don’t want to, and want to feel aggrieved, well then so be it. I’ll live with that.

All this noise being made by the Congress about fuel prices is nothing by political rhetoric and our (largely ignorant) media is doing calamitist coverage without doing any research or analysis. The sole beacon of high quality journalism in India is The Mint and I am willing to bet that the Mint will not do a piece exaggerating the impact of fuel costs.

Finally, let’s come to the larger point here – Non-subsidised fuel costs give an inaccurate picture of energy costs. If you subsidise fuel, you continue to distort the energy market and create impediments for development of alternative energy sources. Once people know what the actual real cost of fuel is, there will be more willingness, support and effort to move towards alternative energy solutions.

To prove my point: CNG is still ₹ 44.2 to the kg. It hasn’t gone up for a while now. 1 kg of CNG takes you about twice as far as 1 litre of petrol.

There’s much more I can write about fuel economics and the larger economics of India but all that for another day.

The crux of this piece is that while rising fuel prices look bad, the real impact on 85% of India is borderline negligible.

So all you carowners – go ahead & google “How to convert my car to CNG?” or to the super rich amongst you – switch to a hybrid and help to reduce India’s fuel bill further.

May The Force be with you.

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Additional content added about a week after the above blog…

Some people (who don’t seem to understand the blog or are just too lazy to read) have written to me asking for a ‘simpler’ explanation to the question, “Why does the government sell Fuel for Rs 80 that it buys for Rs 30?”.

And to that, my simple reply is:
“The govt sells fuel (to the top 15% of India’s wealthy) for Rs 80, that it buys for Rs 30, so that to the poorest of the poor:
– it can sell Wheat for Rs 2/kg that it buys for Rs 16/kg;
– it can sell Rice for Rs 1/kg that it buys for Rs 25/kg;
– it can sell Kerosene for Rs 15/L that it buys for Rs 50/L;
– it can sell Sugar for Rs 26/kg that it buys for Rs 40/kg;
– it can spend hundreds of crores to build toilets for free;
– it can provide complimentary gas connections;
– and fund many more such schemes that benefit the poor”

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