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“Pricing & Taxation Policy – For Fuels & Other Enablers”

Pricing & Taxation Policy
Hilights


Money, Finance & Taxation

Quotations for consideration:

  • “If you drive a car, I’ll tax the street. If you try to sit, I’ll tax your seat. If you get too cold, I’ll tax the heat. If you take a walk, I’ll tax your feet.” – George Harrison… on the attitude of a Tax man.
  • “Governments view of the economy… If it moves tax it. If it keeps moving, regulate it. And if it stops moving, subsidize it.” – Ronald Reagan .

KEY CONCEPTS:

  • Objective of Taxation:

It should be the aim of any Government to arrive at a pricing and taxation policy for all Goods & Services that takes into account the difference in the nature and purpose of each and, is directed so as to equitably deliver the maximum benefit to the public and, not just to generate the maximum, immediate or short-term, tax revenues to the Government, even if it then claims to use such revenues only for public good. A benefit that can accrue to the public directly is far more equitable and effective than that which is first pooled into the Government’s ‘sticky’ hands and then distributed. The Government’s need for tax, like its bureaucracy, will otherwise be ever growing and there exists a strong and undesirable correlation between them.

  • Services vs Goods:

Consumers tend to spend relatively less on goods and more on services as their incomes rise. Once people have met their basic needs, they tend to want better medical care, transportation and communication, information, recreation, entertainment, financial and legal advice etc. Services including design, flexibility, innovation and smartness are steadily substituting for materials in our manufacturing, exports and trade.

  • Categorization of Goods & Services:

All types of Good & Services cannot be considered as being similar. They fall under three categories. The first category includes those that are consumed or used as end or final products itself divided into ‘staples’ and others, while the second category includes those that are intermediate products & services consumed in the production of such end products and finally, in the third category are the enablers, those which act as catalysts for, or are the essential inputs for, increasing productivity and generating greater employment.

  • Methods of Taxation:

The proposed General Sales Tax (GST) system is a very efficient, effective and equitable system for the first and second category of Goods & Services. The more one buys or consumes such items, the more one pays as tax. The rates of such taxation can be used to direct consumption in the appropriate direction in case of addictive and health effecting items which result in a greater burden on society. The tendency to use the tax policy to affect other ‘flavour of the day’ demands (to modifying eating habits or to enforce environmental conditions etc) should be strongly resisted as it may otherwise soon lead to cascading demands for other causes supported by the ever increasing number of self interested groups or NGO’s.

It is well recognized that such a Consumption Tax is the best and most equitable way of taxation without effecting the interest rates and thus entrepreneurship and industry. The very nature of such a tax, allowing offset of the input tax paid, is inherently a way to plug collection gaps and encourage compliance. It also has the advantage of reducing the tax collection burden on the Government by effectively outsourcing collection to Businesses with little reward to them for effective collection, but with inherent stiff penalties for failure as they will then not be able to claim the input credit for taxes already paid. Allowing for an additional cess, on such GST, to be applied from time to time, both at the Central and State level will enable a more effective and better way to control Country-wide, or only State-wide, inflation. To prevent misuse by the Tax authorities such cess should be only for a quarter and automatically lapse thereafter unless reapplied vide a transparent methodology. (See “Entrepreneurial Capitalism – The Case for”)

In order to reduce burden of consumption tax on the low income category, the tax rate on the staple items of consumption (both Goods & Services) should be at a minimal rate. Other non staple and also other value added food items may be treated differently from the basic staple food items.

The third category, consisting of the enablers that greatly increase the productivity of the 1 st & 2 nd categories and also generate greater employment, needs to be looked at, and priced and taxed differently especially as the increased productivity and employment are themselves again taxed to generate greater tax income. Hence the aim should be to encourage consumption of such enablers and therefore to arrive at pricing based on costs, where it can be costed, and on value as determined by competitive methodology keeping in mind the benefit to the public where costs are difficult or impossible to arrive at. In this category fall goods such as Fuel / Coal / Energy, Water, Frequency Spectrum for I.T, voice & data communication etc, and Services such as Education & Skills, Medical services and Health insurance (which allows for less down time) and R & D, all of which are enablers enhancing greater and more efficient productivity and generating greater employment and thus delivering better value and benefits to the public and hence should be taxed, if at all, at a minimal rate.

The litmus test to determine whether a product or service is an enabler or not, is to first determine whether its consumption results, directly or indirectly, in a short or longer term, in greater productivity of other Goods and/or enhancement of employment and thus of income, which are then in turn taxable under the Goods & Services General Sale Tax or under the Income Tax. If so, it should be considered an enabler, even if a tiny fraction of its consumption could be as an end product. (eg: The tiny amount of the water we consume domestically compared to the total quantity of water we use, or the tiny fraction of the fuel used for personal transportation for purely reasons of pleasure as compared to the total fuel consumed). Since an enabler generates taxable Goods & Services or Income, taxing the enablers at a lower rate, if at all, will still result in overall tax gain.

  • Pricing and taxation policy towards enablers:

“Subsidies only serve to benefit small special interest groups with the political clout to exploit someone.” – Steven E. Landsburg

  1. Energy/Fuel:

It is not understandable why the Government insists on treating fuel/energy costs as an end product. The fuel (especially when used for transport/power generation/Agriculture Tractors & Pump sets) is purely an enabler, allowing greater mobility & hence greater reach and choice for employment and greater productivity and employment generation.

By retaining the attitude derived from the decades old socialist paradigm, that views vehicles as a luxury and mechanization as an ill, even though it today speaks of a new paradigm of higher productivity and greater employment, the Government has positioned its taxation policy in a very regressive and restrictive way, collecting a high tax and that too as a percentage of the costs, to benefit from both increased demand and again also from increased prices.

The best thing the Government should now do, is charge a fixed amount, say  1 or  5/ltr, as its duties and taxes on fuel and let the greater demand for the fuel compensate for the fixed rate of tax. A low rate of tax encourages compliance, consumption and also eliminates adulteration. To ensure that the demand can be met, the Government should open up this sector and allow anyone who wishes to import fuel into the country and distribute it here, either directly or through various marketing companies, to do so. To avoid extra drain of scarce foreign exchange let such fuel importers pay for such imports by their earning of the required foreign currency through exports, or they may also purchase the currency required from other exporters on terms as mutually agreed to between them. Competition with Government companies and amongst themselves will ensure that the prices remain as low as realistically possible. The Telecom sector experience encourages us to expect that this way is the Best for the Public.

The cost of energy (electricity) derived from such fuel sources can be worked out and charged on a cost plus basis and the taxes thereon be kept at a minimal rate and consumption encouraged because being an enabler it would generate that much more productivity and employment. Such taxes may however have an additional component as cess that can be increased / adjusted to compel adherence to environmental standards. The scarcity of easily available fuel sources (fossil fuels) and the increase in demand for energy will ensure that market forces bring the pricing of energy derived from any and all fuel sources (especially non conventional and renewable) to comparable levels.

So also the fuel used to generate electricity, it has to be deemed an enabler as its end product, energy, is further consumed in enhancing productivity and employment which are in turn subject to tax.

  1. Petrol/Diesel

Key metrics:

  • Almost 50% of the end price of each of the Fuels is some form of taxation.
  • The costs of refining the crude into various fuels and its distribution, is far higher in the public sector oil companies in India than in other countries. Also the overheads in Public Sector Companies is about 22% vs. the marginally over 3% in private companies, an indication of scope for further price reduction.
  • Though Petrol is almost entirely used for private and personal transportation, only very little Diesel is so consumed. Diesel consumption is

Agriculture (Tractors & Pumps)- 18%

Private Personal Passenger Transport- 4.0%

Passenger Transportation (Taxi’s & Buses)- 9.0%

Goods Transportation (Trucks)- 36%

Industry- 5.0%

Others (Railways, Shipping, Power Generation etc)- 28%

Out of the 4% diesel consumed by cars used for personal transportation only a small fraction is used by Luxury cars/SUVs (which though very noticeable in our metro cities, are actually only relatively few in number country wide, less than 1% of the cars sold each year). So calling for extra excise duty or tax on Diesel cars is merely a populist and token measure, which will really have only a negligible impact on total Diesel consumption. The taxes on our cars today total from about, 35% to even 46.5% in States like Andhra Pradesh (E.D. 18%, VAT 14.5%, road tax 12-14%) compared to a total of only 16-20% in Korea and 8-12% in Japan, and yet the State governments keep seeking opportunities to further increase these taxes.

Diesel engines burn fuel about 30% more efficiently than petrol engines. It may also be noted that the greatly improved Diesel technology brought in by the luxury car/SUV manufacturers spills over in a myriad of improvements for diesel technology as a whole resulting in better performances, fuel efficiency and emission parameters for even those diesel engines used in trucks and other sectors (Agriculture & Industry and water transport).

In Europe even though Diesel is about 20c costlier than petrol, over 50% of the newer cars are diesel powered because of such benefits and the greater efficiency of diesels. As regards fear of the exhaust being carcinogenic, this fear arises from the excess emission of pollutants in old technology diesel vehicles using high Sulphur Diesel Fuel and does not apply to the newer vehicles with far better combustion and pollution control technologies. The oil refining companies must be compelled to deliver low Sulphur fuel.

As it is, Diesel vehicles are taxed at a higher Excise rate making the average diesel car about  1.0 Lakh costlier than its petrol equivalent. Diesel or Petrol used for transport is an enabler and hence should be taxed, if at all, very minimally, as the charges collected by the transporter/carrier are in any case taxed.

  1. CNG:

CNG is a limited fund fuel, and the best way to arrive at its costing is to auction the blocks, deemed as prospective sources, with an appropriate revenue share for the Government and with a commitment from the bidders to supply at their quoted cost, for a specified term which can be reviewed at regular intervals. Similar to the way suggested for auctioning of spectrum as given below.

  1. LPG/Kerosene:

To be imported as recommended for Petrol/Diesel with an export commitment for the required foreign exchange and sold competitively by both Private & Public Sector companies. The present subsidy system should be done away with and direct cash subsidy be given to the economically needy. Alternate cooking products (coal briquettes, solar cookers, biogas etc) should be incentivized & encouraged.

  1. Coal:

It is illogical that having some of the largest deposits of coal, we are allowing an exaggerated fear of damage to the environment to prevent us from using coal as a fuel more extensively. It is arguable whether the costs of damage to the environment, especially when using the newer ‘clean coal’ technologies now available, is more than the costs the lack of energy imposes on the public in terms of lower productivity, lower quality of life, lower health and so on.

“Environmental protection has to be part of the promotion of development rather than an obstacle or check on it.” – Oliver Morton.

Since coal deposits are a limited fund of fuel, they should be auctioned competitively to private mining companies and offered at the same rate to public companies. All bidders should be asked to submit both a technical bid (proving their competence) and a separate financial bid which specifies the amount of revenue share they are prepared to offer the government in addition to initial fixed amount and after accepting the call of the government to provide power at a specified rate of  X/kwh. Such companies would then all compete for supplying the coal to various users and thus keep prices as close to costs as feasible. Such mining companies can be asked to provide a guarantee of return of the site to acceptable ecological levels after mining. A cess on the coal mined can also be imposed and held separately solely for that purpose. If the coal blocks are allotted to the end users (steel, cement and power companies), then the auction system can be on the same lines as recommended for spectrum below.

The users could be called up on to maintain appropriate (realistically possible not idealistic) environmental pollution standards and a cess / penalty imposed for non implementation/violation.

This will allow for greater availability of reasonably priced energy to the people which will act as an enabler, a multiplier of their abilities, and thus increase their productivity and improve their quality of life.

  1. Fertilizers:

Today the fertilizer subsidy is given to the manufacturers who use scarce fossil fuels to manufacture chemical fertilizers and who thus have no incentive to research and

improve on the effectiveness of the end product. Infact the more they sell of the same the more they benefit.

The artificial low cost of such fertilizers to the farmers also encourages the farmers to over use the fertilizer, thus leading to pollution of all downstream water sources and of the ground water aquifers. It also discourages them from seeking better cultivation methodologies.

The subsidy if any, should be given directly to the farmer, on a per acre and type of crop basis, as suitable for the type of soil, to encourage more efficient usage of either the fossil fuel based fertilizer or use of natural fertilizers as they each deem fit.

The fertilizer companies could be called upon to source their requirement of crude through direct imports paid from their export earnings as suggested above for fuel marketing companies. They could be encouraged to tie up with the farmers to not only improve the farming practices and guide them in the selection of crop, but to also act as purchasers of the crop for both domestic distribution and exports.

  1. Frequency Spectrum:

In this context, the auctioning of the spectrum to the highest bidder is a regressive step. It discounts all the extra costs such as higher prices and lesser choices etc in the services provided to the public that will now have to be borne by the customers and seeks to provide a onetime lump sum benefit to the Government. Instead the Government should call for the bids from the prospective operators for the lowest rate at which they would be willing and able to provide stated services – voice calls, data transfer, additional services etc, from a fixed minimum band width of spectrum. The bids should be opened in two stages, first the technical bid to prove the competence of the bidder and second the financial bid offering the financial terms. Towards the cost of the spectrum allocated they can be asked to quote to offer a fixed sum, common to all bidders for a circle, large enough to be effective as a motivator for early implementation, but not so large as to adversely affect economic operation, in addition to an offer of a larger revenue share to the Government, say between 20 to 40 percent. The prices (say call rate @ 1ps/sec or bandwidth at  X/Mb etc for spectrum) and revenue share should be fixed for a stated period and increased or decreased as applicable against measurable fixed costs of the technology used. Additional spectrum can be offered on similar terms.

The offers from the bidders for each circle should be averaged across, say, the best three, to avoid unrealistic offers from outliers, and all three should be requested to submit a performance guarantee and rollout guarantee with specified parameters and with penalties for any shortfall in performance or delay in implementation. The selection of technology should be left entirely to them, it is more important that the end cost of service be optimized for both performance & economy.

With at least 3 competitors in any circle the competition would encourage the delivery of even further benefits to the consumers.

  1. Educational and Vocational Training:

The Government should lay down standards for school education, higher education and vocational training and allow private parties to compete for the students. It should also set up its own schools and institutions in collaboration with the local communities, to set bench marks and offer such services at a more economic level. Let the quality of the institutions or schools be measured by the students who compete to join them. A schools voucher system and a liberal scholarship and education loan policy, will take care of the needs of the economically disadvantaged. (See “Education in the 21st Century”). The UN calculates human capital based on the Country’s populations average years of schooling, the wages its workers can command and the number of years they can work before retiring. Then come, the Natural Capital and Manufacturing Capital. It is thus obvious that proper education and vocational training as appropriate is a value multiplier – an enabler. Once again such services should be encouraged by minimal taxation, if at all. Regulation should be more toward maintaining standards of physical resources/facilities and to ensure meeting of set educational standards and should involve parents and local authorities.

  1. Medical Services and Health Insurance:

These too are enablers though effective over a longer term, as they enhance productivity by reducing the down time caused by illnesses. Even such services utilized by the elderly can be deemed enablers as they then live longer and consume more and thus pay more consumption tax. Here too, the Government should lay down standards and setup public institutions to set bench marks and offer services at a more economic level. Private institutions and community based organizations should be encouraged to compete for the patients on the basis of services, facilities and costs. The costs of basic medicines, procedures and care should be standardized through bidding or negotiation or both. (See “Health Care for All”)

  1. Water:

Other than that used for purely domestic consumption, water is also an enabler. Too many years of treating water as a free good has caused great damage to our rivers, lakes, coastal waters and the ground water aquifers. About 75% of our fresh water requirement is used by Agriculture, 18% by Industry and only about 7% in domestic consumption. Intensive and over use of fertilizers & pesticides and choice of water intensive cash crops and the flooding system for watering crops by farmers, and of chemicals and inefficient processes by Industry, have led to great damage to our environment and wasteful use of water which is a limited resource.

Water needs to be costed realistically to ensure proper useage. Again competition with Public sector and other private sector companies for processing and transporting water and allowing for off-take of water by all such companies, from various sources at fixed rates as appropriate for that source, will allow each category of customers to get water of the right specifications at the lowest realistic price and thus impel them to use the water conservatively.

In the auction procedure for water, done in a similar manner as for coal and spectrum above, the government should lay down the standards for potable water and water for other uses and fix a rate at say  Y/Kl for each category. The rate for domestic consumption can be subsidized by an extra charge on the Industrial consumption.

Policies should be laid down and incentives, such as lower property taxes be offered to encourage rain water harvesting and storage, in check dams in fields and even in tanks in houses.

Those that claim that they should be supplied water ‘free’, should be directed to go to such places as they can find and use water without effecting the other users and without allowing their wastes to ‘pollute the water’. To expect water to be collected, treated, transported and distributed, without paying for it equitably is not reasonable; it also encourages unnecessary and wasteful use.

To those who predict water wars in the near future, one can only say

“Trust technology to find an effective and economic way to meet future needs. Remembering that all human consumption is only a fraction of one percent of the water available on earth and new technologies of water desalination & treatment etc are continuously becoming more effective and cheaper.”

It would be more effective and advantages to have policies that encourage better and more efficient use of available water and encourage and incentivize research in effective de-salination technologies.

  • Action points:
  1. Determine which goods or services are Enablers as defined above.
  2. Determine the methodology for valuing such Enablers incorporating the nature and term of benefits and the differing costs for the extraction & processing, or application & implementation of each of them.
  3. Public goods or resources should be allocated in a transparent manner which will allow for some immediate resources to be generated for the Government (say 5-10% of discounted value), and a guarantee of provision of goods and services to the public at reasonable costs as specified or, due to the competition, at even better cost, and an additional steady income to the Government from revenue share (say 20-40% or better) to be determined by auction amongst the bidders whose technical competence have been accepted by an earlier technical bid and by averaging the bid of the best three offers to avoid unrealistic offers from ‘outliers’. Also see the recommendations for auction of spectrum above.
  4. In all cases of auctioning such public goods there should be clearly specified guarantees for performance and specified penalties for non performance.

Seek to encourage enhanced productivity and greater employment generation and more efficient use of all natural resources by a realistic & practical taxation regime that differentiates between goods and services for consumption and those that are enablers.

Finally recognize that energy availability is essential for development and therefore seek to incentivize the development of

other energy sources, such as renewable energies and also nuclear power, especially from Thorium which is safer than uranium fuel and is also available in plenty in our Country and also encourage new nuclear technologies being developed such as the smaller and much safer plants that can be used from dispersed locations and buried deep underground there for greater safety. (Eg: Thorium based Molten Salt Reactors of about 50 Megawatts capacity each).

– Jai Hind ! –

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