Indian ignorance and the crude oil saga - Views on News from Equitymaster

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Indian ignorance and the crude oil saga

Mar 31, 2000

The recent crisis that saw the price of crude triple in a years time has subsided, atleast for the time being. With the OPEC deciding to hike the daily output of crude, there is no longer a fear that demand for oil will continue to outstrip supply. Consequently oil prices have declined to US$ 25 per barrel The manner in which the government tackled the issue of surging oil prices makes interesting reading. Though not for the adeptness of the government in handling the issue. But how it managed to pull through the crisis without treating it as one!

The Indian government, which was reaping benefits of rock bottom crude prices till late 1998, failed to see the developments in the international arena the getting together of OPEC and non member countries like Mexico to stem the decline in oil prices. The surplus in the oil pool account (you see in India consumers share only the rise in costs, not declines and hence as crude prices crashed, domestic petroleum prices continued to remain high) was used by the government to repay its liabilities (accumulated during an earlier crisis) to refining companies.

The government made no efforts to permit domestic companies to enter into forward contracts to lock in (or hedge) lower crude prices. Thus, when oil prices rebounded, the country was left to bear the brunt.

Another issue that has continued to weigh heavily is the declining domestic crude oil output. The problem was compounded by the delay in permitting private sector participation in the oil exploration sector and the declining productivity at existing oil fields. As domestic refining capacity was growing at a rapid pace even as crude production continued to decline, the problem became more acute.

The most important issue raising product prices to cover higher raw material (crude) costs was left largely untackled by the government (it must be mentioned that recently the government has raised the price of kerosene). The fact that the government could not raise product prices in sync with crude prices (it was an election year, remember!) created a situation in which the implied subsidy on petroleum products increased dramatically. As a consequence the deficit in the oil pool account increased dramatically, implying that refining companies were no longer being paid their dues.

The recent decline in prices is expected to reduce by half the anticipated deficit in the oil pool account. This will bring much relief to refining companies that are yet to be paid their dues from the oil pool account.

It is interesting to note how the oil crisis has withered without the government having taken any concrete measures to control the same. When the US first faced the oil crisis, it went on to create large oil reserves in the country itself. India should learn from this and take measures to improve its position in view of its increasing dependence on foreign crude.

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