Snakes and ladder on diesel taxes

April 07, 2010

It was our usual pre-budget musings - Will you… Wont you…. free up the prices of transport fuels, or make diesel cars pay the same lifetime fuel excise as petrol cars.

But the Union budget only increased taxes on petrol and diesel without touching the gaping tax divide between the two fuels. Though the usual qualms about inflation and price spiral whipped up political passion, the din dimmed the wisdom that tax distortions beget more distortions and distortions come at serious societal and public health costs. 

Why are we and those, desperate for clean air worry about fuel taxes and prices? Somehow the energy pricing has sinister link with foul and warming emissions. But efficiency gains or emissions cuts are not the intended goals of India’s fuel tax policy. High fuel taxes are typically the easy bait for any developing economy to enrich its coffers as the earnings are limited from its narrow base of direct taxes. In India too fuel taxes are close to one fifth of the total tax receipts. Therefore, the usual buzz on fuel pricing is always about economic price stabilisation and not about public health and energy security benefits and economic savings from it.

Apparently, our high fuel taxes have given us some unintended benefits. The recent number crunching from the World Bank has found six countries (the U.S, Russia, China, Brazil, Mexico and Canada), that under tax fuels, responsible for more than 40 percent of transport oil GHG emissions. But a much larger number of countries that overtax transport fuels -- and India is one of them, together account for 28 percent of transport fuel GHG world emissions.

But from another standpoint the fundamental distortion -- the deep divide between the petrol and diesel taxes, is fouling up air in our cities. The fiscal pundits tell us that people are less sensitive to absolute level of transport fuel prices in the short run. In fact, they may even buy and drive more if the income levels rise. But they can be immensely sensitive to price differences between fuels. Clearly evident in increased use of cheap diesel in cars that cause more pollution. 

It is no news that the tax differential is a subsidy for diesel cars. Trucks guzzle the maximum diesel at 36 per cent, but cars are next that use up more diesel than even agriculture! As diesel is easily substitutable with petrol in cars, the revenue losses from each litre of diesel that replaces a litre of petrol in a car is enormous. 

Naturally therefore, we got excited when the Kirit Parikh committee proposed to make diesel cars pay an additional excise duty to equalise the lifetime fuel excise burden of petrol cars.  Regrettably, this good idea is only an accounting measure and not energy security and environmental measure. The proposed paltry additional duty of Rs 81,000 for all diesel cars overlooks that bigger cars and SUVs guzzle more fuel and must pay more for it. The flat rate can also not deter dieselisation as under-taxed diesel will be more attractive to guard against price volatility when prices free up without tax rationalisation. 

But why would planners discourage diesel cars? Public health, energy security and climate mitigation are not in their accounting system. This disconnect is stark in Parikh committee’s erroneous assumption. It says, -- “it is okay if people opt for a diesel vehicle to drive much more than an average petrol car as diesel cars and SUVs have greater fuel efficiency and should not be penalised”. Really? 

Clearly, —they do not make the connection between energy pricing, energy security and public health. Cheap diesel fuel, fuel efficient diesel vehicles, lower fuel cost per km creates incentive for more driving. But increased driving results in more fuel use; more toxic pollution per km; more warming per litre of carbon rich diesel burnt; and, more warming due to its heat absorbing black carbon emissions. Shouldn’t fuel tax measures account for these costs when the country is firming up its both public health and climate mitigation strategies? Shouldn’t price of diesel per litre used in a car reflect the polluter pays principle and account for both air pollutants and greenhouse gas emissions?  

Even refinery economics can get burdensome if automotive use of diesel explodes. Total diesel consumption is already 4.6 times higher than petrol consumption. If this skews, refineries will be compelled to fractionate more diesel – even beyond the optimum balance with other refinery products. More secondary refining of heavier ends will lead to more energy losses and add to the refinery costs. Europe is already debating this. To this is added the challenge of producing clean diesel that is a non-negotiable public health agenda.  But partially reformed market inhibits refinery upgrades and investments in clean diesel. 

We need answers. What ever be the state of fuel sector reforms, bring fiscal strategies to off-put conventional diesel, hasten clean diesel and dampen fuel guzzling.  While luxury consumption of diesel in cars can be cut, trucks, buses and other commercial vehicles will still be the captive users of diesel and spew deadly toxins within our breathing zone. India’s vision to revolutionise public transport for clean air, health and energy security will also have to be powered by clean fuels. But greedy to bleed revenue from fuels, the government ignores fiscal strategy to clean up the diesel stream to protect public health.  

Also understand, -- fiscal measures can be tailored only according to the nature of the fuel market, its degree of state controls and market reforms. Look at Germany that completely turned its market towards clean diesel (with 10 ppm sulphur) just by maintaining a tax differential in its favour to stimulate refinery investments. But Indian public sector refiners cannot respond to such a measure of price changes and tax adjustments like the German refiners because they can not freely pass on the full cost of refining to the consumers. Their returns remain nearly fixed, costs uncovered and investments rigid. 

Hasten full reforms. If delayed find other fiscal strategies for clean fuels that can work in partially reformed fuel markets. Put back some amount of the fuel revenue back as direct and one time capital subsidy or allow tax concessions to the public sector refiners to meet targeted fuel quality improvement, as they did in Japan. Or raise funds through surcharge on fuels as Mexico planned to foot the bill of targeted fuel quality improvement to cut the toxic risks. And simultaneously dampen demand by rationalizing petrol and diesel taxes and by linking taxes to fuel consumption of vehicles. 

Clearly, fuel pricing and tax reforms cannot happen in isolation, cut off from the concerns over health, energy and climate. 


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