How much has the central government cut excise duty on petrol and diesel to control retail inflation? 8 per liter and 6 per liter respectively. This shortfall has led to a fall in the prices of these fuels across the country. All other things being equal, economists expect this to reduce retail inflation by 20-40 basis points. One basis point is one hundredth of a percentile.
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The government’s earnings will also be reduced by the cut. Over the years, the excise duty on petrol and diesel has helped the government earn a lot of money. In October 2014, excise duty on petrol and diesel was 9.48 per liter and 3.56 per liter respectively. By February 2021 this had increased to 32.9 per liter and 31.8 per litre, boosting the overall government revenue.
In 2014-15, the total excise duty earned on petroleum products was 99,068 crores. By 2021-22, it had jumped 3.73 trillion. Excise duty earned from petrol and diesel forms a major part of excise duty on petroleum products. In the first nine months of the last fiscal year for April to December 2021, these revenues stood at Rs 2.63 trillion.
It was important for the government to cut excise duty on petrol and diesel, given that inflation is a politically sensitive issue and state assembly elections are due in Gujarat and Karnataka sometime. However, this would come at the cost of lower than anticipated revenue and, therefore, higher fiscal deficit. Fiscal deficit is the difference between what the government earns and what it spends.
Latest excise duty cut expected to hurt government 1 trillion at a time when the government’s ability to earn money through disinvestment is limited. The initial public offering of Life Insurance Corporation of India has not garnered much confidence. Also, foreign institutional investors are selling in Indian stocks, making further disinvestment difficult.
What doesn’t help is that the Reserve Bank of India (RBI) has paid dividend to the government for this financial year. 30,307 crore, which is much less than the budget for the budget. In addition, high inflation may ultimately have a negative impact on corporate profits, leading to lower dividend yields from public sector enterprises.
According to Nomura economists Sonal Verma and Aurodeep Nandi, the fiscal deficit is now expected to reach 6.8% of GDP against 6.4% of the budget. In addition to slashing fuel taxes, the war in Ukraine would massively increase fertilizer subsidies.
A higher fiscal deficit means the government will have to borrow more unless it cuts its spending. In this scenario, the RBI, as the debt manager of the government, has to ensure that the interest rate that the government pays on its loans does not go up too much. This is when it is trying to control inflation by raising interest rates.
Apart from trying to control inflation, the RBI is also trying to ensure that the value of the rupee does not fall too much against the US dollar. To do this, it is slowly sucking excess money out of the financial system. By early April, there was more than enough money in the economy. 8 trillion. it’s around the bottom now 3.2 trillion.
Due to the depreciation of the rupee, the value of the rupee against the dollar did not fall as sharply as it would have otherwise. But with the rupee depreciating, interest rates are likely to rise.
This makes the situation worse. Does RBI try to control inflation which is its mandate? Or does it keep the finance ministry happy by ensuring that interest rates on government borrowing don’t go up too fast? Given the recent experience, the RBI is likely to do so later. Therefore, he has to allow the rupee to gradually depreciate against the dollar.