FAULTY PRICE STRUCTURE OF PETROLEUM PRODUCTS
SHAMIM AHMED RIZVI
Mar 31 - Apr 06, 2008
Two upward revisions in the prices of petroleum products by the caretaker government during the first fortnight of March 2008 (on March 1st and 16th) have added much fuel to fire of inflation making it unbearable for the general public. The prices of motor gasoline and diesel have gone by Rs 9 and Rs 6.40 per litre respectively if compared to the prices last month. Increase in the prices of petroleum products is being justified in view of the rise in the crude oil prices in the international market.
In the process however, the government has added to its revenues substantially. The collective burden of general sales tax (GST) and petroleum development levy (PDL) charged on sale of POL products have increased by a maximum of 22.90 percent on consumers across the country in this fortnight, official figures released by the Oil and Gas Regulatory Authority (OGRA) show. Per litre burden of federal levy and tax have increased from Rs 15.37 per litre on HOBC in last fortnight to Rs 18.89 per litre on HOBC during the fortnight. Authorities, however, believe that it was inevitable to cover the cost of subsidy being given on sale of diesel and kerosene oil. Even this additional revenue was not enough to cover the subsidy being given on sale of diesel and kerosene oil, they maintained.
Another prices review is due on March 31st. However, it is being expected in the concerned circles that the incoming PPP led government would not allow any upward revision in view of the sharp public reaction. The new civilian government has to keep its pledge to its voters to stabilise prices and control inflation.
A press release issued by the OGRA on March 15 announced new maximum ex-depot sale prices for petroleum products, effective March 16, 2008, which are as follows:
Light Diesel Oil
The prices of crude oil in the international market during the last fortnight touched US$100.5 per barrel in the Arab Gulf Market. The Federal Government, however, has only increased the domestic POL prices by 7% to minimize the burden on local consumers, thereby continuing to provide them relief. The petrol and HOBC prices have been raised by Rs 4.11 and Rs 4.89 per litre respectively. The prices of kerosene oil and light diesel oil have been raised by Rs 2.71 and Rs 2.52 per litre respectively.
The press release further said the government will continue to provide a subsidy of Rs 18.05 per litre on kerosene oil and Rs 16.02 per litre on light diesel oil after the price increase.
The price computation is carried out by OGRA in accordance with the formula prescribed by the Federal Government. It requires that the price should be based on average Arab Gulf prices for the last fortnight for naphtha, diesel, kerosene and HSFO, to which Inland Freight Equalization Margin (IFEM) is added, which reflects estimated transportation cost of the products to the 29 depots in the country, for the purpose of price equalization. Government levies viz. petroleum development levy and sales tax are added to arrive at the notified prices.
Motor gasoline now being sold at Rs 62.81 per litre comprises the following components.
Pet. Development levy
Price before Sales Tax
Max. ex-depot sale price
Max. ex-depot sale price
If the new civilian government has to keep its pledge to the voters to stabilize prices, it has to look into the oil pricing mechanism since 2001. Rs 10-15 per litre increase in diesel and kerosene prices may be necessary on the basis of existing pricing formula to bridge the differential between international subsidised domestic prices but it could be significantly offset by correcting the existing mechanism. This could be done by removing an unfair deemed duty on petroleum products particularly on diesel being allowed to refineries and rationalizing freight equalization margin for maintaining a uniform price across the country's 29 depots.
Politically, it would be prudent for the new government to present the entire oil pricing picture before the nation honestly. This should include: who is earning what, who has siphoned off public money and deprived the people and the economy of billions of rupees, say for example in eight years or so. This would require the new government to at least make public a report compiled by the National Accountability Bureau (NAB) and put under the carpet by the previous government. The report had pointed out over Rs 50 billion worth of annual anomalous profits to the oil industry due to faulty decision making by the former economic managers.
While the public pressure led to some subsequent amendments in the system, the refineries continue to earn windfalls of guaranteed rates of return and erroneously continuing deemed duties even on domestic production of oil. The caretaker minister for petroleum, Ahsanullah Khan had tried to take an initiative to revise the oil pricing mechanism but those more powerful than the minister effectively blocked the move. Many in the oil ministry suggest that the minister had made more than two attempts in consultation with the refining industry to rationalize their duties but those in the ministry of finance and close aides of the President had pre-empted such measures.
It may be surprising for many how the refineries continued to benefit from the 10 per cent deemed duty allowed about six years ago to modernize their system to European standards. And more so, the refineries have not been able to increase their storage and improve their products to Euro-IV standards as they had promised to do in return. Equally important would be to see why a directive issued by former prime minister to the petroleum ministry in February 2006 "to formulate recommendations for the phased withdrawal of the deemed duty for tall four products (HSD, SKO, LDO and JP4) in the interest of rationalizing the price regime across all the existing refineries," could not be implemented for more than two years now.
This pricing anomaly had caused more than Rs 200 billion losses to consumers in seven years and the refineries were making windfalls compared to their Pakistani counterparts in terms of earning per share and profits. For example, refineries in Singapore today earn between $2 and $3 per barrel, while refineries in Pakistan earned between $8 and $11 per barrel. As a result, the earning per share of Pakistani refineries has increased on an average of Rs 11 per share compared with Rs 3-4 about three years back.
An examination of the profitability of four refineries reveals an unusual level of profitability in Pakistan although none of them had honoured their commitment to improve capacity. The National Refinery Limited increased its profit from Rs 23 million in 2001 to Rs 704 million that reached Rs 1.2 billion in 2004, followed by Rs 2.458 billion in 2005, Rs 3.7 billion in 2006 and Rs 4.3 billion in 2007. As such, profitability increased by more than 180 times in just six years.
Likewise, Pakistan Refinery's profit increased from Rs 76 million in 2000-01 to Rs 610 million in 2002, further to Rs 824 million in 2003, Rs 1.4 billion in 2005, further to Rs 2.1 billion in 2006 and Rs 2.45 billion in 2007. As such its total profitability increased by 31 times in six years
The profitability of Attock Refinery that stood at Rs 29 million in 2000-01, increased to Rs 727 million in 2001-02. Its profit touched Rs 1.28 billion in 2004-05 and reached Rs 1.7 billion in 2006-07. As such, the profitability of ARL increased by 58 times in six years.
Similarly, the profit of Pak-Arab Refinery Limited stood at Rs 1.3 billion in 2001-01, which increased to Rs 2.36 billion in 2001-02, The profit of Parco further went up to Rs 8.9 billion in 2004-05, followed by Rs 9.6 billion in and Rs 10.6 billion in 2007. This meant that Parco's profit increased by 726 percent in six per cent.
The faulty price determination of petroleum products needs a through review. The petroleum deregulation initiated by the Musharraf administration in 2000 led to an increase in the oil companies' margin and the dealers' commission from a fixed 22.55 paisa per litre to 3.5 percent and four percent respectively on the final sale price in 2002. This automatically brought windfall earnings to dealers and oil marketing companies as the international oil prices spiralled.
To make things worse, the government allowed the calculation of the commission and the margin on the final sale price of petroleum products, including taxes and government levies, in such a way that they worked to the disadvantage of the national economy and domestic consumers. Further, the government delegated the regulatory powers of price fixation to cartel of oil companies-Oil Companies' Advisory Committee (OCAC). The industry, however, did not fulfil its commitment of enhancing its storage capacity. Instead, it invested in improving the outlook of their outlets and of course the product quality. Special investigations by the audit authorities and the NAB and their reports were swept under the carpet. Whether or not it was by design, ill-will, omission or commission is not the issue at the moment. The fact remains that the industry continuously earns profits beyond the principles of fiscal propriety and prudent economic policy. It was only in 2005 that adverse newspapers reports, objections by the audit authorities and consumer protests and criticism forced the government to transfer the price fixation authority to the Oil and Gas Regulatory Authority (OGRA) but that too under a pre-determined straitjacket pricing formula.
The intervention of the Supreme Court of Pakistan early last year, however, made a difference. The situation became grave for the government when the former attorney-general of Pakistan expressed the inability to defend the government in the Supreme Court of Pakistan due to serious illegalities of the whole mechanism. As result, the government modified the oil pricing mechanism and gradually excluded GST and PDL from the calculation of dealer commission and OMCs margin. This practically reduced the margins and commissions by about 22 percent on petrol in absolute terms but increased the government's PDL instead of reducing prices for the common man. Policies are supposedly designed to be for the public good. In this case, the objective could only be achieved when investigation reports of NAB and the audit authorities are made public and prudent returns are allowed to the dealers and companies only on the basis of production costs, keeping in mind the interest of the national economy and its people.