The recent heated discourse surrounding high oil prices has led to criticism against the government’s decision to maintain existing taxes. The Finance Minister has defended this policy by arguing that the government is shouldering significant financial responsibilities in the form of oil bonds, debts previously incurred by the past government. Critics, however, contend that the cost of servicing these oil bonds is negligible, especially when compared to the burgeoning revenues from this sector.
Understanding Fuel Price Composition
To comprehend the intricacies of fuel pricing, we need to understand its two primary components – the price of crude oil itself and the taxes imposed on it. These two elements together constitute the end price that consumers pay at the pump. However, the percentage of tax differs across fuel types. For instance, presently, taxes form 50% of the total retail price of a litre of petrol and 44% for a litre of diesel.
The Mechanism of Oil Bonds
In instances where fuel prices skyrocketed beyond affordable limits, past governments frequently intervened. They advised Oil Marketing Companies (OMCs) not to transfer the full price burden on consumers. However, such directives left OMCs at the risk of potential unprofitability if their dues were not settled. To counteract this, the government committed to bridging the price gap with cash payments. Direct cash payments, though, would defeat the purpose as the government would subsequently have to tax the public to raise the required amount for compensating OMCs. The solution to this conundrum was the introduction of oil bonds.
Oil bonds function as IOUs or promissory notes, issued by the government to OMCs. Instead of cash, these bonds serve as the government’s guarantee to pay a certain sum to the OMC, typically after a specified period like 10 years. Additionally, the government also commits to an annual payment, say 8%, as compensation for the advance money owed to the OMCs. Interestingly, oil bonds are not eligible as Statutory Liquidity Ratio (SLR) securities, making them less liquid compared to other government securities.
Significance of Oil Bonds
The issuance of oil bonds enables the government to subsidize consumers without jeopardizing the profitability of OMCs or inducing a massive budget deficit. They serve as a crucial instrument by which governments can maintain affordability for consumers while still ensuring the financial stability of OMCs.
Trivia from UPSC Civil Services Exam Previous Year Question
In relation to global oil prices, “Brent crude oil” is a term that often appears in news. A previous UPSC question on the subject read: “What does this term imply?” The choices included 1) It is a major classification of crude oil, 2) It is sourced from the North Sea and 3) It does not contain sulfur. The correct answer was 1) and 2), referring to Brent crude oil as a primary class of crude oil originating from the North Sea. Other significant categories based on geographical locations include West Texas Intermediate (USA) and Dubai/Oman (Persian Gulf).