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Can India afford fully free oil prices?  

Can India afford fully free oil prices?

(Courtesy: The Economic Times, New Delhi, March 28, 2012)

Perhaps those recalcitrant allies of the Congress are right, but for the wrong reasons. The Trinamool Congress and the DMK, along with a few others, are fighting tooth and nail any move to deregulate diesel and LPG prices - all in the name of the aam aadmi. Which means the UPA is under tremendous political pressure from within not to decontrol oil prices, but much to its delight, an "economic justification" has just cropped up.

A study - which departs from the common-sense argument in favour of market-driven oil prices - suggests that the more decontrolled oil prices are, the lower will be growth, at least in the short run. A National Institute of Public Finance and Policy (NIPFP) paper, authored by NR Bhanumurthy, says, "Contrary to existing beliefs, passing on oil price hikes [to consumers] has an adverse impact on growth." Simply put, when we compare two scenarios- one of a 100% and other of a 50% decontrol of oil prices - when oil prices rise, GDP growth will be lower in the first case, at least in the short run.

The paper forecasts that even if overseas crude prices remain the same between 2012-13 and 2016-17 - a period when the Centre may gradually get rid of oil subsidies - average growth of the Indian economy may fall to 7.6% from 8.44% and average inflation accelerate by 0.7%. The study is based on the intuition that when the government decontrols oil prices, state expenditure on subsidies will fall and if there is no increase in any other component of expenditure, lower government demand will result in lower growth. Besides, higher inflation will contribute to lower real GDP growth.

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