India deregulates diesel prices, increases natural gas prices

Effectively eliminating subsidies.

Domestic prices have been raised in a staggered manner since January 2013. As of September, losses on the sale of subsidised fuel were wiped out because of a sharp decline in global prices.

According to a report by DBS, over the weekend, the Indian government deregulated diesel prices and raised the price of natural gas. The deregulation of diesel prices effectively eliminates subsidies on the widely-used fuel variant.

DBS adds that the Indian basket of crude prices are down 20% (Brent -18%) since April. This provided an ideal window of opportunity for the government to deregulate the sector and start the process with a circa 6% cut in the diesel prices (staggered increase had left domestic prices > global). Petrol pricing was earlier deregulated, but subsidies of LPG and kerosene remain.

Simultaneously, natural gas prices were raised but the scale was smaller than proposed by the previous government. This hike is likely to incentivize drilling and investment operations, but marginally raise piped gas, utility costs and fertilizer subsidy burden.

DBS says that there are clear economic benefits of the diesel deregulation, especially in an environment of low global prices.

Firstly, making diesel market-determined will lower the government’s subsidy bill by circa 0.3-0.4% of GDP and shield the government’s balance sheet from volatility in global crude prices.

Secondly, the trade/current account balance will benefit through low global prices and imply 0.5-0.6% reduction in the deficit.

Next, lower crude prices (helped further by deregulation) will be a positive growth impetus, through higher discretionary incomes for households and lower input costs for business/manufacturers’ alongside agricultural production.

Finally, impact on CPI inflation will be marginal given that the basket is predominantly made of food and non-tradable non-food products. A 10% movement in crude oil prices below the baseline will lower headline CPI by 20bps, as noted by the central bank.