Deregulating the oil sector – I

There has often been talk of deregulating the petroleum sector. There are pros and cons which have been hotly debated. In policy circles, the same debate or even preparations are reportedly undergoing. We will examine the pros and cons of regulated versus open markets in this space.

In Pakistan, petroleum sector is largely regulated — from crude oil production through refining and marketing. Some products are unregulated such as kerosene, jet fuel, furnace oil and lubricants. Essentially, regulation means price control and some quantity controls. Other regulatory requirements of quality and safety are common in regulated and unregulated sectors.

Competition vs regulation?

It is said that competition brings benefits and value to the consumers by reducing the price and improving quality, access, service and availability. It also benefits business by enhancing efficiency, productivity, innovation and expansion. In competitive markets, there are no barriers to entry and a large number of producers and consumers so that no one has constraining influence on price. At societal level competition reduces the role of government and promotes freedom and democracy, if required by the society.

However, there are risks of collusion and monopoly. It may increase consumer prices, degrade quality and create supply instability. The statements made in the foregoing may be disputed by some and considered rather idealistic and almost never achieved in full .Where it is achieved in full, it is called pure competition. Pure competition is probably among the labour in poor and developing countries where excess supply often brings their wages down to unsustainable level. It is seldom that there are a large number of suppliers and collusion or cooperation among producers is not rare.

Oil market types

There are four types of markets; 1.Unorganized free markets; 2. Organized free markets; 3.Price cap markets; fixed price markets. Unorganised free markets are a free-for-all due to lack of governance and institutional infrastructure. There are no price controls; rather no controls at all even on safety, quality and licensing issues. This type of market is there in small and underdeveloped countries. Organised free markets are those where there is no price control but there are other regulatory controls including on safety, quality and completion assurance, etc. The USA, Canada, Japan, South Korea and most developed countries of Europe have this kind of market.

Price cap markets have free market but there are price cap controls. Amazingly, some advanced countries such as China, Luxemburg, Belgium, Brazil, Mexico and Vietnam have this type of market. This may also be called a hybrid market. Fixed price markets are those which have complete price control. This type of market exists in most developing countries, especially the large and medium ones (Algeria, Indonesia, Malaysia, Bangladesh, Egypt, South Africa and Zambia). Quite some big names these are. Brazil, India and China have a special system apparently open with diffused and subtle controls and markets managed by large public sector companies controlling 80-90% of the market.

Regulation

However, if competitive markets are not feasible or possible, the government brings in some rules and controls to organize a market in a safe manner; this is called regulation. Regulation, it is said, brings stability, reasonable quality and improves the average conditions. On the other hand, regulation rewards the lazy and the inefficient by awarding prices and setting quality and other standards suitable to the least efficient.

Many people are deeply skeptical about the purported competitive and fair practices expected in a deregulated oil sector. There are all kinds of mafias operating in open and unregulated markets of which sugar scandal has been an indicator. In an economy where black money abounds and businessmen maintain two or three books of accounts, evade taxes and launder money, over-invoice and under-invoice and indulge in many other vices, such skepticism appears to be well-placed.

People talk of real or perceived oil mafia already. Will this mafia be strengthened in a deregulated environment? On the other hand, mafia may be diluted by competition—if real competitive conditions are created — a big if, it is said. In almost all global indicators of fairness and transparency, Pakistan comes down among the lowest positions. Can ethos and practices of advanced countries be transplanted in such a situation?

Deregulation will eliminate IFEM under which transportation costs up to storage points are grossed and averaged and on the average Rs 3-4/litre are added to the petroleum retail price. There are many complaints about illegal and nontransparent practices in IFEM. IFEM promotes uneconomic and unnecessary transportation as well. Real transportation cost may come down due to the elimination of IFEM.

However, the advantage of IFEM is that uniform petroleum prices are maintained throughout Pakistan. In northern areas, petroleum prices may be higher and in the south, especially in Karachi, prices would be lower. There may be a difference of Rs 10 per litre. This may cause discontent in the areas affected by the price differential. This can, however, be handled by imposing a provincial tax on petroleum which provincial governments may apply flexibly to balance the prices.

Petroleum is a probably the largest sector of the economy and petroleum being the vital input for the economic and social life in the country. Oil refineries are considered as strategic assets (almost all are in the private sector). One should tinker with it with a lot of care.

(To be continued on Wednesday)

Copyright Business Recorder, 2022