Budget 2022: How Do Rising Oil Prices Impact Government Finances?

Budget 2022: Rising oil prices push the government to cut VAT and excise duty to control inflation. This wipes off a large part of the revenue from government's coffers.

New Delhi: Crude Oil Prices have been rising in the backdrop of rising geopolitical tensions between Russia and Ukraine and stress in the Middle East. On Thursday, the crude oil price breached the $90 per barrel mark, for the first time since 2014.

According to a report by Indian Express, some experts believe that the prices may soon touch the $100-110 mark per barrel. This is majorly due to supply bottlenecks and rising demand as economies start to open up. Interestingly, On December 2, 2021, the price per barrel was $65.88.

This rise in price puts a lot of pressure on the governments. A major part of the government’s revenue comes from taxes on oil prices but it also puts them in a difficult spot because of the constant rise in demand. For India, this is all the more important as Finance Minister Nirmala Sitharaman will present the Budget 2022 on February 1.

How Do Oil Prices Impact Government’s Finances?

Since the inception of the Covid-19 pandemic, oil prices have continuously been on an upward trajectory. However, with Omicron, the demand for fuel has not decreased. According to the report, the government had expected the oil prices to stay near $65-70 per barrel. But for most of the time this year, the oil prices have remained above this mark.

This has the following impacts on the budget:

1. Higher Inflation: Higher oil prices have a direct impact on inflation figures. The retail inflation of India or Consumer Price Index (CPI) has already touched 5.5 per cent in December. This is the highest in five months. On the other hand, the Wholesale Price Index (WPI) rose to 13.56 per cent. This rise in inflation pushes the government to cut the taxes on oil, leading to a smaller revenue.
2. Oil, LPG Subsidy: After cutting revenues, it becomes difficult for the government to pay the subsidies on LPG and Kerosene oil. This also impacts the lower-middle class and BPL part of the population in the country.
3. Imbalance in Balance of Payments: India imports over 85 per cent of its oil requirements. If the prices rise, so does the government’s bill of oils. With the high inflation figures, the government cannot further increase the excise duty on petrol and diesel. This may lead to a Balance of Payment (BoP) imbalance, which becomes a big problem in the Budget.
4. Low Tax Collection: With oil prices rising, the government may have to cut excise and VAT charged on petrol and diesel. This stops the Oil Marketing Companies from raising the petrol, diesel prices. But it comes with a big cost as thousands of crores are wiped off from the government’s coffers.