The Fuel Subsidy Cess

Finance minister P Chidambaram and petroleum minister Murli Deora are considering an additional tax to pay for the government subsidy of petrol and diesel, according to the Financial Express of 27th May. “Each percentage rise in the income and corporate tax rates would yield around Rs 3,500 crore, so a 3-5% cess would yield anywhere between Rs 10,500 crore and Rs 17,500 crore.”

The Acorn recommends “that taxpayers line up in large numbers and vote against the simians making economic policy.” I concur. I have always maintained that India is ruled by monkeys.

But I don’t think that taxpayers can do anything to dislodge the simians. The taxpayers probably did not have much of a say in the electing of the simians in the first place; there are not all that many taxpayers anyway compared to non-taxpayers. Which is precisely the reason that the government finds it convenient to steal from taxpayers. As has been noted before, robbing Peter to pay Paul always assures the government of the support of Paul. Democracy is a numbers game. If Pauls outnumber Peters, the government can continue to steal from the Peters with impunity.

Imposing a fuel subsidy cess is a very bad idea because it goes against one of the most basic economic principles: don’t mess with prices [1].

Prices convey important information to consumers and producers. High prices send a signal to consumers to consume less of the thing and/or to shift their consumption to substitutes, thus reducing demand for the thing (and increasing the demand for the substitutes). Simultaneously, high prices induce increase supply of the thing, and also encourage producers of the substitutes. The changes on both the demand side and the supply side are rational reactions to high prices. By suppressing this price signal, these economically beneficial changes are inhibited and the net effect is welfare loss. If messing with prices is done sufficiently frequently and over extended periods of time, eventually the economy spirals into poverty.

I claim that India’s poverty is (at least to some significant degree) the result of sustained and frequent messing with prices. Now you can naturally expect simians to not appreciate basic economics. The story appears plausible: simians get elected; simians don’t understand economics; simians therefore make bad economic policies; the country suffers welfare losses and eventually is trapped into poverty.

But I hear you say, “Shirley you jest! The finance minister is a trained economist. And if the not prime minister, Dr Manmohan Singh himself has some knowledge of the field. So why on earth would they propose economic policies that are guaranteed to make India poorer?” My reply would be, “I am not joking. And don’t call me Shirley.”

I have arrived at an economics variation of Weinberg’s take on religion and people’s behavior [2]. My position on economists as policymakers in the context of democracy as practice in India: “Good economists propose good policies and stupid economists propose evil economic policies. But for good economists to enact evil economic policies they have to be part of the Indian government.”

It is easy to see why the policymakers, instead of allowing the price of oil to rise to reflect the true cost, want to impose yet another cess: the taxpayers are powerless to oppose it. Even among taxpayers, imposing a cess for fuel subsidy is not equitable. For instance, I don’t have a car and don’t directly use any subsidized fuel. A cess on my income to subsidize fuel for car owners is in effect an involuntary transfer from me to others who do use cars. Besides being economically wasteful, this is unethical and immoral [3].

The whole policy of the government subsidizing fuel is immensely harmful and goes beyond the mere immediate effects. Eventually it harms the whole economy. The government does not create resources. It merely redistributes wealth and often does so with considerable inefficiency. The subsidy broadly borrows from the future since sooner or later today’s consumption which results in a debt has to eventually be balanced out by lower consumption in the future. The fuel subsidy is therefore forcing the future generation to fund the consumption of the present generation.

The iron law of the universe is that there is no such thing as a free lunch. Someone somewhere will have to pay for any lunch. If the cost of fuel is high, the price will eventually have to be paid. Stealing from some of today’s people and stealing from the whole lot of tomorrow’s people may keep the government shielded from the effects of their policies today. But in the end, that karma will catch up. But by then, the present set of policymakers would be with yesterday’s seven thousand years after having enjoyed the perks of being rulers. The rest will have to suffer.

It’s all karma, neh?

Notes:

1. Prices should be messed with when there are externalities. If there are positive externalities, subsidies are warranted; if negative, taxes.

2. Steven Weinberg, the 1979 winner of the Nobel prize in physics had this to say about organized religion. “Without it, you’d have good people doing good things and evil people doing evil things. But for good people to do evil things, it takes religion.”

3. This point is also made by Mayuresh in a comment on The Acorn.

Author: Atanu Dey

Economist. View all posts by Atanu Dey