Over the past year, as retail prices for gasoline, diesel and other petroleum products jumped, the government has drawn criticism. On several occasions, including last week, Finance Minister Nirmala Sitharaman has sought to counter such criticism by asserting that the current government cannot cut taxes (and therefore prices) because it has to pay oil bonds issued by the Congress-led UPA government. To what extent do oil bonds limit the government in taxing petroleum products?

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How much of the fuel price is the tax?

The domestic retail price has two components: the price of the crude oil itself and the taxes levied on this base price. Together they constitute the selling price. Taxes vary from product to product. For example, taxes now represent 50% of the total sale price of a liter of petrol and 44% of a liter of diesel.

What did the Minister of Finance say?

She made two main points. First, she blamed the ongoing conflict in Ukraine for rising crude oil prices. Second, on taxes, she blamed UPA-era oil bonds. “…Today’s taxpayers are paying for the subsidy that was distributed to consumers over ten years ago in the name of oil bonds and they will continue to pay for the next five years as the repayment of the bonds continues. continues until 2026,” she said. in Rajya Sabha.

In December 2021, speaking in Parliament, she quoted Prime Minister Manmohan Singh’s speech to the nation in 2008: “I would like the nation to remember that the issuance of bonds and the burden of oil company deficits are not the permanent solution to this problem (of high fuel prices). We are only passing on our burden to our children who will have to repay this debt.

What are oil bonds? Why were they released?

When fuel prices were too high for domestic consumers, governments in the past often asked Petroleum Marketing Companies (OMCs) to avoid charging consumers full price.

But if the oil companies are not paid, they will become unprofitable. To remedy this, the government said it would pay the difference. But again, if the government had paid this amount in cash, it would have been useless, because then the government would have had to tax the same people to collect the money needed to pay the OMC.

This is where oil bonds come in. An oil bond is an IOU, or promissory note issued by the government to the WTO, in lieu of money the government would have given them so that these companies don’t charge the public the full amount. fuel price.

An oil bond states that the government will pay the oil marketing company the sum of, say, Rs 1,000 crore in 10 years. And to compensate the WTO for not having that money right away, the government will pay it, say, 8% (or Rs 80 crore) every year until the bond matures.

Thus, by issuing such oil bonds, the incumbent government is able to protect/subsidize consumers without ruining the profitability of the WTO or incurring a huge budget deficit itself.

Oil bonds have been issued by several governments in the past. But the ones we are talking about now are the ones that the UPA government issued.

As shown in Table 1, when the NDA government led by Prime Minister Narendra Modi took office in 2014, bonds worth 1.34 lakh crore were to be paid between 2015 and 2026.

Table 1, Chart 1 Source: Union Budgets, Express Research; Chart 2 Source: PPAC, Express Research

How much of the UPA-era oil bonds has the NDA government repaid?

As mentioned earlier, oil bonds have two elements that must be repaid: the annual interest payment and the final payment at the end of the bond term. By issuing such bonds, a government can defer full payment for 5, 10, or 20 years and, in the meantime, only pay interest charges. Table 1 shows that between 2015 and 2021, the NDA government fully repaid four sets of oil bonds – a total of Rs 13,500 crore.

Every year, the BJP government had also had to pay the interest rate on all unmatured bonds. Chart 1 shows the amount paid for the interest payment each year. Between 2014 and 2022, the BJP government had to spend a total of Rs 93,686 crore on interest as well as principal.

Is this amount large enough to prevent the Ministry of Finance from cutting taxes?

Compare the payment with the money the government earned from all sorts of taxes it levied on petroleum products. Chart 2, showing the total revenues earned by the Center and State combined from the sector, provides this information.

There are three ways to answer the question of whether the amount is large enough to restrict a tax reduction.

The first is to observe that the total payment represented only 7% of the total income in 2014-2015. Over the years, this percentage has decreased because the taxes generated by this sector have skyrocketed.

The second is to examine the total revenue generated by the government (central and state) between 2014 and 2022 through the taxation of petroleum products. This amount is more than Rs 43 lakh crore. This means that the total payment by the NDA government to date on oil bonds represents only 2.2% of the total revenue generated during this period.

The third way is to note that the total amount of revenue generated by the Center from just one type of tax – excise tax – in just – 2014-2015 – was over Rs 99,000 crore. (This data point is not plotted separately in Chart 2.)

In other words, while the NDA government had to pay for the oil bonds, the payment is not large compared to the revenue generated in this sector.

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Yet, isn’t it a bad idea to issue such bonds?

Former Prime Minister Manmohan Singh was right to note that issuing bonds only postponed the responsibility for a future generation. But to a large extent, most government borrowing is in the form of bonds. This is why, each year, the budget deficit (which essentially corresponds to the level of government borrowing on the market) is followed with such attention.

Moreover, in a relatively poor country like India, all governments are forced to resort to the use of bonds of any kind. Take the current NDA government itself, which issued bonds worth Rs 2.79 lakh crore (twice the amount of oil bonds) to recapitalize public sector banks. These bonds will be paid for by governments until 2036. According to NR Bhanumurthy, Vice Chancellor of Dr BR Ambedkar School of Economics University in Bengaluru, the main wisdom when issuing bonds is for a government to use this tool to increase the productive capacity of the economy.

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