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Something that media never tells you about calculation of petrol prices

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Sushant Sharma
Sushant Sharma works in the brand planning and strategy team for Leo Burnett Worldwide. He is an MBA from MICA (formerly, Mudra Institute of Communications, Ahmedabad). He was awarded the prestigious "top 100 young business leaders" award by CNBC TV18 and Dare2Compete. He writes research articles for Indian Management which is a management journal published by All India Management Association. https://www.linkedin.com/in/sushant-sharma-mica/

For years, there has been a blatant attempt to mislead the people with a year to year comparison of fuel prices in India as a yardstick of inflation measurement. In this article, I will put forward my argument to elaborate if anything which has to be blamed for the increase in the fuel prices it has to be the poor performance of the Indian foreign trade during the UPA 1 and 2.

It has to be understood that India is not endowed with reservoirs of crude oil. For this reason, every year India exhausts an extremely high percentage of its foreign exchange for purchasing crude oil from the oil producing and exporting countries. This premise makes the calculation of crude oil prices in India more of a concept from international trade and economics.

The balance of Payment accounts of a country systematically keeps a record of all the transaction from the country with the outside world. The account is broadly divided into current account and capital account. All the major economies (including India) of the world incur significant deficits in the current account. It means that most major economies import more and export less that leads to leaks in the valuable foreign exchange. However, developed economies such as USA, France, and Germany overcome this deficit with a surplus in their capital account. The developed economies have advanced financial markets that induce capital investments in the form of Foreign Direct Investment, Foreign Institutional Investors, Dometic Institutional Investments (FDI, FII, and DII). On the other end of the spectrum, there are newly industrialized nations and other developing countries that struggle to overcome their current account deficits with a surplus in their capital account because of the infancy of their financial markets.

A concept in economics – Time Value of Money better illustrates as to how developed economies successfully overcome their current account deficits. For instance, let us say that USA and China are two trading partners. A deficit in USA current account implies that China holds a higher amount of US Dollars than the USA holding the amount of Renminbi. How is the domestic market in China going to react to this? Because the extra amount that is held by a Chinese will earn him a better value if invested in the American financial market, a prudent investor will always prefer investing that extra amount of dollar in the American market. This flow continues until the deficit in the current account is set off by a movement in the capital account.

For years, the financial markets and international trade from India have been lacklustre. The primary reason for this is that our early economy was modelled on a socialist model from USSR. We created an environment that was abhorrently suspicious of entrepreneurship and risk-taking. We continued to incur total deficits for years. It was during the rule of the UPA 2 that the level of current account deficit in India peaked to a level of US$ 88.16 Billion. In fact, in all the years under the UPA 1 and 2, India has surprisingly recorded an increasing trade deficit year on year. Whereas, in every year under NDA the country has seen a reduction in deficit year on year. While looking at economic data, the election years are advised to be avoided because the government unreasonably increases its fiscal spending to induce inorganic growth.

When the continuing deficits pile up the stress on the economy, the country is majorly left with two measures -:

  1. Ask for monetary aid from international money lending institutions such as IMF and World Bank
  2. Increase the domestic prices of the commodities that are traded the maximum across the borders

When the prices for the crude and its allied products are decided, the government is left with no other option but to increase the domestic price. It is true that NDA has been most successful to overcome the trade deficits, but it is also true that the dismal performance of UPA to boost the cross-border trade left India with a significant lacuna to overcome. It has to be more than a little co-incidence that UPA has failed to reduced year on year deficit for every year post-2000. Their record of not able to curb deficits has been 100 percent. Whereas, the record of NDA to curb the deficits has been 100 percent.

Irving Fischer in his landmark study went on to give a hypothesis that if countries engage in international trade, their won’t eventually be a thing called inflation. The concept today is popularly taught in Universities across the world as International Fischer Effect.  If India wants to position itself firmly in the world, it will have to emphasize on cross-border business.

I would not deny the fact that Dr. Manmohan Singh holds excellent value as a finance minister who opened up the economy in 1991, but during the two terms as Prime Minister of India, Dr. Singh was unable to pull off something that he is a master at – Foreign Trade.

I hold to my argument that it is because of those deficits that we suffered during the UPA 1 and 2, the domestic consumers in India have today pay the extra amount of their pockets for everything that comes across borders – including crude and its allied products.

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Sushant Sharma
Sushant Sharma works in the brand planning and strategy team for Leo Burnett Worldwide. He is an MBA from MICA (formerly, Mudra Institute of Communications, Ahmedabad). He was awarded the prestigious "top 100 young business leaders" award by CNBC TV18 and Dare2Compete. He writes research articles for Indian Management which is a management journal published by All India Management Association. https://www.linkedin.com/in/sushant-sharma-mica/
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