India Increases Diesel Prices Again

India’s first increase in diesel prices in 14 months and signs it will open its aviation industry to investment by foreign airlines may reflect a more assertive Prime Minister Manmohan Singh as he seeks to trim the fiscal deficit and raise growth.

Higher fuel prices brought calls for a rollback from Singh’s allies, pressure he has in the past responded to by lowering the size of the increases. Pushing ahead with the biggest change to foreign investment caps since being re-elected in 2009 would show a renewed, if limited, willingness to confront partners who have stalled changes.
“There seems to be agreement among policymakers that growth is taking a huge hit,” said N.R. Bhanumurthy, an economist at the National Institute of Public Finance and Policy in New Delhi. “If you don’t take policy measures you’re not going to be able to control the slide.”

Singh’s bid to implement policies to revive investment amid a rating agencies downgrade threat have been derailed by his fractious ruling coalition and graft allegations that paralyzed Parliament during its last session. Inflation near 7 percent has limited room for interest-rate cuts in an economy growing at near its slowest pace in three years.

The price of diesel was raised 14 percent to about 47 rupees a liter in New Delhi, the oil ministry said in an e- mailed statement yesterday. That’s the first increase since June 25, 2011, according to data on refiner Indian Oil Corp. (IOCL)’s website. Ministers may today consider a plan to permit overseas carriers to acquire as much as 49 percent of local counterparts, two government officials with direct knowledge of the matter said, asking not to be identified.
‘Rare Victory’

The price increase “comes as a rare victory for the Prime Minister and Finance Minister Palaniappan Chidambaram against the ingrained populism” of the ruling alliance, David Sloan, an analyst at New York-based Eurasia Group, said in an e-mailed analysis. “The price hike lends sorely needed credibility to their unfulfilled pledges to bolster the economy while working towards fiscal consolidation.”

Sloan and other analysts caution that proposals requiring parliamentary approval, such as raising the foreign investment cap in insurance from 26 percent to 49 percent “remain political non-starters” as Singh’s Congress party-led bloc has been unable to end a standoff with the opposition over alleged losses to the exchequer from an award of coal resources.

Allies such as Mamata Banerjee, the chief minister of West Bengal state, have said they will continue to oppose moves to allow overseas companies like Wal-Mart Stores Inc. to open supermarkets in the country.
Shares Rise

Still, “other political parties seem to have taken note of the grave situation and there may be some kind of implicit support in cabinet meetings,” said Bhanumurthy in a phone interview today.

The rupee, which has depreciated 13 percent against the dollar in the past 12 months, gained 1.2 percent to 54.7600 as of 10:25 a.m. in Mumbai. The BSE India Sensitive Index rose 2 percent, the most since June 29, after the diesel-price rise and the U.S. Federal Reserve announcement of a third round of stimulus.

Amid the political gridlock, India’s economic growth potential may have fallen to 6 percent to 6.5 percent a year, below the Reserve Bank of India’s 7.5 percent estimate, JPMorgan Chase & Co. (JPM) said. Foreign direct investment fell 67 percent to $4.43 billion in the three months ended June from a year earlier, government data show.
Record Losses

Higher fuel tariffs will reduce record losses at the three state refiners and ease the government’s subsidy costs as it seeks to curb spending. Singh is trying to cut a budget deficit amid high inflation, slowing economic growth and the threat of a rating downgrade.

“This is going to be inflationary in the short term, but the extent of savings on the fiscal side doesn’t seem to be substantial,” said Sonal Varma, an economist at Nomura Holdings Inc. (8604) in Mumbai. “It will provide some relief to refiners sulking under massive losses.”

India’s benchmark wholesale-price index, which has remained above the central bank’s 5 percent comfort level since December 2009, probably accelerated to 7.1 percent in August, according to a Bloomberg survey of 35 economists before data due today. The Reserve Bank of India will keep borrowing costs at the highest level among major Asian economies at its Sept. 17 policy review, a separate Bloomberg survey showed.

“The RBI must have also taken into account the possible hike in diesel prices when they were estimating the inflation expectations,” said Bhanumurthy. “That’s probably one of the reasons why they’re holding interest rates high.”
Junk Status

India plans to trim its subsidy bill for food, fuel and fertilizer by 12 percent to 1.9 trillion rupees, or 2 percent of gross domestic product, this financial year.

Singh is targeting a budget deficit of 5.1 percent of gross domestic product in the year ending March from 5.8 percent a year earlier. Asia’s third-largest economy grew 5.5 percent in the three months ended June 30 after expanding 5.3 percent in the previous quarter, the least in three years.

The budget shortfall and a deficit in the current account, the broadest measure of trade, led Standard & Poor’s and Fitch Ratings to say earlier this year that they may strip India of its investment-grade credit rating.

S&P on April 25 lowered the outlook on India’s sovereign credit rating to negative from stable, saying the move reflects a one-in-three likelihood of a ratings downgrade to junk status because of slower investment and economic growth. Fitch Ratings cut its outlook on June 18, citing limited progress in paring the budget deficit. Both companies rank India’s debt BBB-, the lowest investment grade.
Government ‘Committed’

“The rating companies may want more policy actions which reduce the fiscal deficit and increase growth,” Bhanumurthy said. “The diesel price hike does not promote growth. In fact, they may be betting on a reversal.”

The price increase shows “the government is committed to contain the fiscal deficit at the level indicated in the budget,” C. Rangarajan, an adviser to the prime minister, said in an interview to Bloomberg TV India yesterday. “The important thing to note is that the government is willing to act.”

Fuel pricing is a sensitive political issue in India. Diesel is used to power generators in farms and by trucks that transport food. Nomura’s Varma estimates the increase in diesel prices may have a direct impact of about 65 basis points on inflation.

India has been planning the policy change for its airlines for more than three years as Kingfisher Airlines Ltd. (KAIR), controlled by billionaire Vijay Mallya, and state-owned Air India Ltd. delayed salaries and defaulted on payments to airports and fuel suppliers because of cash shortage.

Bloomberg