The Phantom Subsidy

The chart below looks simpler than most of the others on this site, but the story behind it is remarkably complex. If anyone ever told you that the petroleum subsidy, one of the single biggest items on the central government budget (closing in on a 1000 billion rupees, or about 7% of overall government expenditure), was a straightforward issue, don’t believe them.

But we can simplify it a bit though, by focusing on just one question : To what extent does this subsidy exist?

And the answer, looking at the broad numbers in the graph below is – not to any great extent.

Here’s the problem with our whole debate on the petroleum subsidy : it only looks at what the government is officially supposed to pay out of its budget every time someone buys diesel, or an LPG cylinder. In the graph, that’s the orange bar. It doesn’t look at what the government rakes in. Those are the blue and green bars (for the central and state governments).

It’s a bit like the following. The government gives you six rupees as a subsidy for something. But as part of the same transaction, it then takes back eleven rupees as tax.

In brief, here’s how it works. Oil companies sell diesel to the dealer at a wholesale price of about Rs 44 per litre in Delhi. At this price, they are supposed to be paid a subsidy of about six rupees (the first part of the transaction above). Add in the dealer commissions and margins (all regulated), and this price goes up by a little over a rupee. But the actual price paid for diesel by a consumer in Delhi is about Rs 55.50 per litre. That’s eleven rupees above the price the oil company gets – almost all of that difference is taxes. So the government commits to paying a subsidy to the oil companies of about six rupees, but charges the consumer eleven rupees in tax.

The oil subsidy debate (to be fair, not all of it) looks at the six rupees and calls it the petroleum subsidy, while ignoring the part where the government takes back eleven rupees with the other hand. Overall, the tax revenue that central and state governments earn from each unit of diesel sold, is more than the subsidy they pay out. In net terms (i.e. looking at both transactions rather than just one), this means there is a tax on that product, not a subsidy.

Now none of this is a dramatic revelation – see here and here.

I said that this issue was complicated and here’s where I begin to complicate it. But I do think the overall picture I presented above stays more or less unchanged. Also, in what follows, I will continue to use the term ‘subsidy’ for convenience sake. One of the things that always strikes me about the whole issue of the petroleum subsidy is that it is an excellent case study in how otherwise commonplace words are used by governments and bureaucracies in a confusing way. It’s not necessarily intentional, but then again…who knows?

(click anywhere on the chart below to switch between the official level of subsidy, and what the government actually pays out. This is explained further down. Hover your mouse over any of the bars to get the numbers) 

Also, what the government actually pays out, falls far short of the ‘overall’ subsidy

You’ll notice that clicking anywhere on the chart above causes the orange bars to change between what I call the official level of subsidy, and what is actually paid out. The latter is far less. This is because the government follows what is called ‘burden sharing’. Public Sector oil companies who import crude oil, refine it, and sell it to consumers, are forced to bear a share of the subsidy paid to consumers. So for every hundred rupees of subsidy that oil companies should get under this system, they may actually receive only say, 60 rupees, from the government.

One last thing. There are two governments involved here – the central and state government – who tax diesel or LPG or kerosene. But only one of them – the central government – pays the subsidy to the oil companies. Compare the orange and blue bars.

Notes :

Central government tax revenues from here ( Table VII.1, page 92

State government tax revenues from the same document above, Table VII.2, page 93, and VII.4, page 96. In both cases, I dont include royalties or revenues from natural gas. Note that in the second table, there is a component of central government revenues that is included (central sales tax), but I can’t seem to be able to disentangle that effect. Bottomline : the state government tax revenues include some component which should ideally be included under central government revenues.

The chart is made with the D3 library.

April 12, 2014

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