India will live with high oil prices until...

Feb 15, 2012

In this issue:
» What's common between the US and the ancient Roman Empire?
» RBI allows non-banks to set up ATMs
» Govt allows private airlines to expand wings overseas
» Greece is living out its worst nightmare
» ...and more!

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If the price of a commodity is very volatile, a company tries to pass on the costs to its customers. So what does India's management, meaning the Government of India, do on this front? Well, it gives subsidies to its customers and is hardly able to pass on the costs. Can you imagine the balance sheet of a company that has to pay high import bills and then has to sell the commodity at a discount? The balance sheet will be highly leveraged. For India, it means a high fiscal deficit.

So should petroleum product prices be deregulated? Yes, we think deregulating oil prices would certainly help reducing our dependence on imports. While the consumers would become more efficient users of fuel, price deregulation would also attract a lot of investment in the sector. But at the same time the taxation structure on petroleum products needs to be relaxed. Despite the oil subsidy, we end up paying high fuel prices due to excessive taxation.

Will the Government of India stop engaging in practices that tend to severely cripple its balance sheet and in turn affect future growth prospects? The answer seems to be in the negative. Why? There is no accountability. The management of India changes every 5 years. So every contesting political party is simply focussed on garnering votes and winning the next election. And the best way to appease the masses is by taking up populist measures such as doling out high subsidies and incurring revenue expenditure. But this kind of expenditure goes down the drain and does not generate wealth in the future.

For long term wealth, we need a government that focuses on capital investments in R&D (Research & Development) and technology. But thinking long term would require some tough reforms at the risk of losing the electorate. So as long as we have a skewed incentive structure for the government, oil will remain a major economic problem on which we have no control. And that will certainly put the future prospects of the Indian economy at risk.

Do you think the Indian government should deregulate oil prices and ramp up capex in technology and exploration? Share your comments with us or post your views on our Facebook page / Google+ page.

 Chart of the day
A recent study by Assocham reveals the preferred investment destinations in India. Today's chart of the day shows the five most investment-friendly states in the country. Of the 20 industrial states, these five states- Gujarat, Maharashtra, Andhra Pradesh, Odisha and Karnataka- attracted about 53.6% of total live investments worth Rs 120.3 trillion. With investment proposals worth about Rs 16.3 trillion, Gujarat has emerged as the most preferred investment destination in the country.

Data source:

There is no question that mankind has made enormous progress over the centuries. An alien visiting our planet after hundreds of years would be shell shocked to find the kind of transformation that has happened. But if there is one thing that has remained the same, it is the sameness of human nature we believe. The human mind still pretty much runs away from or lusts after the same objects or feelings that it did since time immemorial. Is it any wonder then that a parallel to what is happening in the US right now has been found in the history books concerning ancient Rome?

And the person to bring this to the fore lately is the famous US bond investor, Jeff Gundlach. He observed that just like the US, the ancient Rome too had a weak tax system and a huge military budget. And the similarities don't end here. As with Rome, Gundlach opines that the US too faces a huge class of people that could remain impoverished for a long, long time to come. Amidst such a scenario, is it wise investing in risk assets such as US stocks? Certainly not, believes Gundlach. He has warned against investing in US banks especially, as their problems are far from over. We have pretty much toed the same line, isn't it? And we are happy that someone like Gundlach shares the same view.

Offering adequate financial services to an economy like India is no mean task. On one hand you have high illiteracy. Even amongst those literate there is very little knowledge about financial products. Villagers and lower middle class still rely on scrupulous money lender for financial aid. Even the noble motive of microfinance has turned out to be a sour thumb in India's financial landscape. Thus, banks bear most of the burden of reaching out to the hinterlands. Setting up infrastructure with social motive can deal a huge blow to their profitability. No frills accounts, too, can be very expensive if the bank needs to invest in setting up banks and ATMs. Further, in certain locations there can be multiplicity of banking facilities.

To ensure adequate and equitable growth of banking infrastructure the RBI (Reserve Bank of India) has now allowed non banks to set up ATMs. Entities proposing such a service need to have minimum capital of Rs 1 bn. While allowing access to all bank customers, the service providers will earn a fee from the sponsor banks for the same. Besides, they will also earn advertising revenues. The proposal does seem a win-win for both banks and customers. Moreover, it can go a long way in making the economic growth more inclusive.

PSUs, by the virtue of being government undertakings, are given preferential treatment when compared to their private counterparts. Take the case of civil aviation industry for example. In order to protect business interests of the beleaguered Indian airline, Air India, the government gave it an exclusivity to ply on foreign routes. Basically, Air India had a virtual monopoly on these routes. Private airlines got their share of pie only when Air India refused to operate on them. As a result, several routes were under-utilised and the private carriers were disadvantaged.

However, considering the current turmoil in the airline industry, the government has finally allowed private airlines to expand their wings overseas, thereby, taking away the exclusive right from Air India. We believe this is a welcome move considering that most airlines are reeling under the pressure of rising competition, mounting debt and increasing fuel cost. Hopefully the change in policy will provide some respite to them.

Saying something and actually experiencing are two very different things. The Greeks have been forced to adopt austerity measures. This sounds good in papers and has actually led global markets into a heady upswing. But for the ordinary Greeks, there is nothing to cheer. Heavy pay cuts, short supply of medicinal drugs, higher taxes, lower pensions, are just some things that they have to make do with. The worst part is that there is no respite in sight. The country is in one of the worst recessions ever. Its downturn has lasted twice as long as the average economic crisis. The huge mountain of debt that Greece had taken on, has now come back to haunt them. The country is literally living out its worst nightmare. But then this is what happens when you stretch yourself beyond your means. And it is common knowledge that Greece had stretched itself out too thin. Though the Eurozone has been bailing it out time and again, the point is till when can this continue? So should Greece be allowed to default and quit the Euro? The Eurozone does not wish to think of this possibility as of now. But eventually they will have to.

Credit rating agency Moody's had lost confidence in the way European leaders were handling the debt crisis. That was why it downgraded the ratings of Spain, Portugal and Italy and also issued a warning to Britain and France. But China thinks otherwise. The Chinese central bank is confident that Europe will be able to solve its problems. As a result of which, the dragon nation intends to continue investing in eurozone government debt. It must be noted that recovery in Europe works to China's advantage given that the latter is still dependent on exports to fuel the growth of its economy. Besides, since the US is also deep in debt, the Chinese were always uncomfortable about putting too much money into US Treasuries. However, whether China's optimism on Europe turns into reality remains to be seen. European policymakers have been divided on how to resolve the crisis. Some believe that austerity measures are the only way to curb excess spending and reduce debt. But these measures will also choke growth in an environment where recession still continues to haunt the region.

In the meanwhile, the Indian stock markets have been gaining momentum after opening the day on a high note. At the time of writing, the BSE Sensex was up by 328 points (1.8%). Stocks in the Realty and Auto space were witnessing maximum gains. Barring Indonesia, all stock markets in Asia closed the day on a positive note.

 Today's Investing Mantra
"Can you really explain to a fish what it's like to walk on land? One day on land is worth a thousand years of talking about it, and one day running a business has exactly the same kind of value." - Warren Buffett

Click here to read our series on Lessons from Warren Buffett

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Equitymaster requests your view! Post a comment on "India will live with high oil prices until...". Click here!

8 Responses to "India will live with high oil prices until..."

Himanshu Somani

Feb 29, 2012

I recently read the email in which it was written that the Indian govt is more focused towards gaining votes and not doing any capital expenditure.
I think that we can force them to do so.
We have a big weapon FACEBOOK. We will pledge to post all the good works done by the govts since the last 5 yrs before the elections and will post them in all our friends blogs.
Then before going to vote anyone we will analyse who have done the best .
And at last we ll vote him / her .
For this I request those who have a political approach to gather some Knowledge and PLEASE PLEASE PLEASE post them so we can give our best and the most valuable VOTES only to them



Feb 22, 2012




Feb 17, 2012

About the price deregulation of fuel commodities in Indian its absolutely essential so as to reflect the true price of travel/transport in India. On one hand we are subsidising the fuel and on the other hand the taxes being paid are more than 50% of the landed price of the fuel itself. After constant followup by the petroleum ministry and reluctance on part of affecting the common individual a decision to deregulate the price of petrol was taken, and effect of same was seen with a small and consistent drop in the consumption of petrol. For the first time in history the consumption of petrol is below diesel. People look after economics at time of purchasing a vehicle, but due to unjust skewing of same towards diesel vehicles because of subsidised fuel the consumption of same has increased dramaticaly.Also bringing up of fuel prices to the current level will help in value added research for alternate fuels and alternate modes of transport mainly public transport. Its high time Government brought down subsidies on fuel and the taxes to a reasonable extent for a better India and its citizens, even though politically it could be bad but sometimes its worth sticking out your neck for the right cause.

Like (1)

Amit Sengupta

Feb 17, 2012

Sure - it must deregulate oil prices soonest. After all, it was to be done many many years back. The government must also reduce its dependence on OIL to garner its tax revenues.

Like (1)


Feb 16, 2012

I agree with Mr. Balasubramanya, that the advise on private ATMs is ill timed. Fake currency notes will only proliferate due to this, since now there is a third party in the picture, it would be easier to slip in fake notes into the ATM machines during refilling. It would be extremely difficult to figure out the guilty party in case fake notes are dispensed/customer complains of fake notes dispensed from ATMs. Instead RBI should incentivise expanding electronic card usage network into the rural areas with heavy emphasis on debit cards for even smaller vendors/shops.

Like (1)

Balasubramanya K

Feb 15, 2012

RBI (Reserve Bank of India) has now allowed non banks to set up ATMs.
I regularly use SBI/PNB/ICICI/AXIS bank ATM's at Ghaziabad.Normally they disperse Rs 500 or 1000 denominations.What i found out was out of 50 transactions I had done I ended up getting counterfiet notes at least 4 Times.I had to complain to Branch managers showing proof of transactions and finally I got genuine currency after 5 days!.When this is the case with regualar approved banks maintaining thier ATM's, imagine what will happen to INDIAN Economy If private people start ATM services.India will be flooded with fake currencies and economy will suffer.Already there is an estimated 40000 crores fake notes in circulation.IT IS REALLY AN ILL ADVISED MOVE and not good for INDIAN ECONOMY

Like (2)

Balasubramanya K

Feb 15, 2012

India requires well planned Mass Transport System.What we have is unplanned growth.We encourage 2 wheelers and 4 wheelers for individuals.Not surprisingly the fuel bill of India increases exponentially.We manufacture 2 million 2 wheelers and a million cars and 20000 Buses. This puts enormous pressure on Road usage.We expand roads by demolishing Buildings!.Our politicians should learn from Peru where they discourage private vehicles with Heavy Parking Fees and no fuel subsidy for gasoline.Once the consumer pays the actual price without subsidy Misuse of resources will be curbed and fuel bill of India will definetely reduce.BUT the big question is WHO IS GOING TO TAKE UNPLEASENT DECISIONS?

Like (1)

amit kapoor

Feb 15, 2012

Yes the government of India must deregualte the prices of the fuel. At the same time they should look at reducing the taxation on prices. Also the price of diesel should be increased for the people using it for personal vehicles. This will help in reducing the subsidy bill of the government

Like (1)
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