Let's draw a line under financial repression through fuel taxation
PremiumThe state of our economy and government finances would argue for relief-assuring fuel tax reforms
On 30 June, the Reserve Bank of India (RBI) released its monthly tables on the sectoral deployment of bank credit. In the current financial year (the period between 21 May and 26 March), credit to industry has contracted, except for credit to medium-sized industries. In the same period, credit to consumers (‘Personal Loans’) has shrunk 0.9%. That may be a mixed blessing because nearly half of the reduction in rupee terms has come from a decline in credit card outstandings.
A week earlier, the central bank had released data on household financial assets and liabilities up to December 2020. This reflects the first-wave impact of covid. Both in flow and stock terms, net financial assets of households had improved compared to the previous two years. Even excluding investment in financial markets, the conclusion stands. But the second wave happened in 2021 and that effect is not yet in the data. So, we don’t yet know the full impact of the pandemic. But it’s possible to guess the full picture through the glimpses we get, and it isn’t pretty.
By provisional estimates for 2020-21, private final consumption expenditure declined by ₹7.4 trillion compared to 2019-20. Second, in the latest consumer confidence survey published before the RBI monetary policy meeting in June, household expectations on the general economic condition, their incomes, employment prospects and spending intentions on non-essential items had deteriorated markedly from the previous survey. This survey was conducted between late-April and mid-May, during the peak of the second wave.
In its state-of-the-economy report published as part of its June monthly bulletin, RBI noted that the government’s fiscal stimulus to the economy in terms of higher expenditure was of the order of 2.4% of GDP in 2020-21. If one deducts 0.8%, the estimated impact of bringing into the budget a food subsidy that was previously off-budget, then the year’s fiscal stimulus reduces to a more modest 1.6% of GDP.
The government’s finances appear to be in far better shape than feared. On 1 July, after seeing the fiscal numbers of the government for April and May 2021, a knowledgeable friend wrote that its gross tax revenue as a proportion of the full-year budget was 14.1% in the first two months and that this was the highest in 20 years. Direct tax collections as a percentage of the budget in the first two months was also the highest in 20 years.
In his latest ‘Ecowrap’, dated 9 July, State Bank of India’s group chief economic advisor Soumya Kanti Ghosh argues that if state governments implemented reforms, it would enable them to avail of additional borrowing capacity of ₹1.77 trillion, more than offsetting their potential revenue shortfall of ₹1.05 trillion. Similarly, between goods and services tax (GST) collections and additional levies on fuel products, the Union government too could get additional tax revenues of ₹1.8 trillion offsetting the shortfall, if any, from non-tax revenues.
According to Mycarhelpline.com, the pump prices of petrol and diesel in Delhi as of 5 July 2021 were ₹99.36 and ₹89.36 per litre respectively. The crude oil cost per litre amounted to ₹35.73 per litre. After accounting for crude oil processing costs, the refining margin and dealer’s commission, 56% of the final price of petrol comprises taxes. Put differently, taxes of the Union and state governments constitute 125% of the non-tax components of the price of these fuels.
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The rate of consumer price inflation was 6.3% in May. Two components have a direct relationship with fuel prices. One is directly called fuel products. That carries a 5.6% weight in the consumer price index’s basket. Another is ‘Transport & Communication’, with a 9.7% weight. Both these components have an annual inflation rate of 12%. So, together, they contribute 1.8% (around 30%) of the annual inflation rate of 6.3%. Of course, fuel contributes indirectly to rising costs and prices of other items (or squeezed margins on them).
Two weeks ago, this column suggested that the government undertake a technical study on bringing fuel products into the GST framework. Ghosh of SBI had done the grunt work already. In a research note published in March, he had estimated that including them in the GST basket at the top rate of 28% plus a cess to compensate for states’ value-added tax would lower prices to ₹84 for petrol and ₹77 for diesel, resulting in a net combined revenue loss of 0.4% of GDP for the Centre and states. It is worth serious contemplation. It is time for the government to draw a line under the reliance on indirect taxes, especially fuel taxes, to shore up its fiscal situation.
Indirect taxes are regressive because they hold the economy back from operating at the production possibility frontier, lower the potential growth rate of the economy and thus drag down the income accruing to factors of production. Such a taxation policy is, shall we say, a ‘public bad’.
In the past one year, many countries around the world have made a choice in favour of supporting household finances at the expense of public finances. India may not have the enabling conditions that they had, nor does the country have to replicate the scale of their assistance. But the current situation is far from optimal for the long-term health and growth of the nation’s economy.
V. Anantha Nageswaran is a member of the Economic Advisory Council to the Prime Minister. These are the author’s personal views.
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