Finance Ministry's move to drastically change the way petrol and diesel are priced may sound the death knell for some of the domestic oil refineries, an industry association has warned.
The Finance Ministry wants auto fuel to be priced at export parity by abolishing 2.5 per cent customs duty on petrol and diesel to save up to Rs 18,000 crore (Rs 180 billion) in annual subsidy outgo.
The Petroleum Federation of India (Petrofed), an apex body of entities in hydrocarbon sector, on January 28 wrote to Finance Minister P Chidambaram saying removing duty protection on products would render "some inland refineries sick" while private refiners like Reliance Industries and Essar Oil may resort to exporting their full production.
There is no import duty on crude oil and if the same on petrol and diesel is also abolished, there were be no duty protection left to the refineries who included the element of customs duty in pricing of the product to make up for freight, Central Sales Tax (CST) and other charges.
"While a change from trade parity pricing to export parity pricing may benefit fiscal management of the government in short term by lowering its subsidy burden but it would render a serious blow to the domestic refineries," it wrote.
It said domestic refineries were removed from the cost plus mechanism on April 1, 1998 and pay the price of feed-stock crude oil on import parity basis. Indigenous crude oil is also paid for the refineries on import parity basis.
India imports nearly 80 per cent of its crude oil requirements.
"When the primary raw material is on import parity basis, the FOB export parity pricing for products would clearly be extremely unfair to the refineries," it said.
Making out a case against export parity pricing, Petrofed said Indian refiners are subjected to a freight cost on crude oil vis-a-vis West Asian refineries, which is at least $05-0.8 per barrel.
In addition, energy costs are higher since energy equivalent to 7 to 8 per cent of throughput is consumed in processing and has to be met by either crude oil based products of imported liquid gas (LNG)
Besides, Indian refineries incur heavy demurrage on import of crude oil due to constraints in infrastructure at Indian ports and also pay VAT/CST at the rate of 2 to 5 per cent on purchase of crude oil from domestic producers which is not a pass through.
It said for additional resources, the government can consider raising excise duties which are a direct pass through.
"The older refineries of PSUs may not be able to cover the cost of refining operations and will be further strained with lack of capital so vitally required for capacity addition or product quality upgradation," Petrofed said adding refining industry was passing through a downward margin cycle that may result in some inland refineries becoming sick.
Private refineries may resort to exporting their full production unless compensated for CST/coastal freight.
Petrofed said India's refining capacity has grown from a modest 62 million tons per annum in 1998 to over 215 million tons and is expected to grow to over 310 million tons by the end of 12th Five Year Plan. Private sector has invested over $25 billion in the refining industry.
"Customs duty on crude has progressively been reduced from 15 per cent to zero and that on petrol and diesel has gone down from 25 per cent to 2.5 per cent. There is nil duty protection on products like LPG, kerosene, ATF, naphtha and FO/LSHS for fertilisers," it said.
C Rangarajan in his report on 'Pricing and Taxation of Petroleum Products' in 2006 had made out a case for some effective protection to domestic refineries as the business was cyclical in natural characterised by very volatile prices.
Also, the spread between crude (raw material) and products prices fluctuates widely and there have been instances when diesel prices had lower than crude.