Govt, RBI will have to move in swiftly with measures to negate the impact of sliding rupee, rising crude

The fall of the rupee against the dollar and the concomitant rise in crude prices to $75 per barrel may turn out to be the beginning of a tumultuous fifth year in office for the Narendra Modi government. The rupee sinking below 67 to a dollar – for the first time in 15 months – and Brent crude futures being quoted at $75 a barrel will serve as a double whammy on the economy. The government and Reserve Bank of India (RBI) will have to move in swiftly with corrective measures to negate the impact of the twin developments on fuel users, India’s fiscal deficit and the GDP growth.

Petrol and diesel prices were being revised daily but fears of a possible fallout on the Karnataka state assembly elections seems to have forced state oil companies to hold the price line reminding us of the days of administered price mechanism (APM) when incumbent oil ministers took all pricing calls. Playing around with the petrol and diesel pricing policy for short-term political gain in one state is not a wise step. Leaving retail prices to market-driven forces, it may also be the right time to cut excise duties and VAT by the Centre and the states respectively. Given that various taxes constitute about 50 per cent of petrol prices and about one third the diesel rate, these imposts will have to be rescinded in a phased manner.

Excise duty and VAT were increased by the Centre and states over the last four years to rake in revenues worth an aggregate of Rs 4,00,000 crore annually. A counter-policy prescription should prioritise scaling down the duties that were hiked at a time when crude prices ruled at $35-$40 per barrel. Barring Rs two per litre reduction in excise duty on petrol and diesel announced by the Centre last October, there were hardly any occasions when the levies were rolled back. State governments have so far refused to reduce VAT on petrol and diesel.

Counter-cyclical measures to moderate the impact of rupee slide and petroleum product prices may have to begin right away. If the states and the Centre were to drag their feet, high inflation and interest rates may eat into the vitals of the economy that has just got on to a growth curve. Unless consumers get some relief from petrol and diesel related levies, kitchen budgets may go haywire and that could adversely impact demand for goods and services. The high cost of funds would only add to consumer woes. Run-away inflation will add to the difficulties of consumers and make fiscal management that much trickier.

Twin deficits – fiscal and current account – will come under increasing pressure thereby pushing the government into an abyss, cut in development expenses or infrastructure development. Any cut in public spending will threaten the 7.4 per cent growth projection for this fiscal and 7.8 per cent for 2019-20 made by IMF.

The government will have to rein-in oil subsidies. The Modi government appears to be caught in a cleft stick and unable to retrieve itself in the penultimate year of its five-year term in office. The continued economic crisis in Venezuela and the impending US-triggered economic sanctions on Iran may also have an adverse impact on crude prices. There are no signs of crude prices softening anytime soon amidst talk of a production cut by oil exporting countries. Meanwhile, the tools available with RBI to moderate the rupee slide are limited. In an election year, this may not be a good omen for the BJP-led governments at the Centre and in key states.