Rs 10 Mirage | Modi government’s dilemma on fuel prices

Populism at the pump may buy time till April, but June will demand a reckoning

On March 27, the Union government reduced excise duty on petrol and diesel by Rs 10 per litre, thereby foregoing tax revenues of about Rs 15,000 crore a month.

The cut did not lead to any reduction in petrol and diesel prices for the consumers. It was meant to ‘reduce the under-recoveries being absorbed by public sector oil marketing companies (OMCs)’, the government said.

The government was concerned that, at prevailing international crude prices, the OMCs' underrecoveries stood at approximately Rs 26 per litre on petrol and Rs 81.90 per litre on diesel, resulting in a daily loss of Rs 2,400 crore.

What excise duty does the Union government currently levy on petrol and diesel? How much tax revenue would it lose from this reduction? Can excise duties be cut further, and for how long can the government avoid raising prices?

Government excise revenues

The Union government has budgeted to receive Rs 3.89 trillion as excise revenues for FY2027 made up of six components. Two excise duties and two cesses totalled to Rs 21.9 for petrol per litre and Rs 17.8 for diesel per litre.

Before the March 27 cut, the contribution from the special additional excise duties (SAED) was Rs 1.7 lakh-crore (or 48% of total receipts), and from basic excise duties (BED) was Rs 90,810 crore. The road and infrastructure cess (RIC) was Rs 46,930 crore, and the agriculture infrastructure and development cess (AIDC) was Rs 55,490 crore.

The remaining contribution was budgeted from cess on crude oil (Rs 16,210 crore) and the national calamity contingency duty (NCCD) of Rs 9,750 crore.

After the cut, the SAED is ~95% reduced, which translates into a loss of about Rs 1.65 lakh-crore if it remains for a year — or about Rs 15,000 crore a month.

Considering the state of play in the United States-Isreal war on Iran, Iran’s control of the Strait of Hormuz, damage to the fuel and gas infrastructure, the need to raise oil revenues for post-war construction, and a much higher say of Iran in OPEC policies and production control, oil prices are expected to remain elevated at over $100 per barrel in FY2027. It is highly unlikely that the Union government would be able to raise excise duties on petrol and diesel during the year.

The loss of Rs 1.5-1.65 lakh-crore a year will be the third major surgical strike on the Narendra Modi government’s tax revenues after the changes to income tax collection announced on February 1, 2025, and the changes to GST charges announced on August 15.

Three affected parties

The rise in crude oil prices has produced three affected parties — government, the OMCs, and consumers.

If price increases are passed on to consumers, they bear the burden while government revenues and the OMCs' profits remain protected. If OMCs are asked not to raise prices, their under recoveries — the gap between pump prices and the actual cost the OMCs pay — keep mounting, pushing their balance-sheets deep into the red. When the government slashes duties, but retail prices are not adjusted, it takes the hit instead.

The government’s estimate of Rs 2,400 crore under recoveries per day, or about Rs 72,000 crore a month, is exaggerated. A more reasonable estimate, with the average petroleum crude price of $100 per barrel, is around Rs 30,000-35,000 crore a month.

The Rs 10 per litre reduction in excise duty will still see the OMCs suffer a loss of Rs 15,000-20,000 crore a month. They cannot bear it. This will even compromise their ability to buy petroleum products and keep the pumps running.

The Union government will have to do something — further reduce excise duties, pay a subsidy from the Budget or raise prices at the pump.

Tough options

The problem gets further complicated because the government does not have much of an option to cut excise duties/cesses any further.

Wiping out RICs and AIDC will adversely affect roads, railways, agricultural infrastructure, and other capital expenditures. Touching the BED will dent state government revenues, besides hurting central tax resources. It is practically impossible for the Centre to cut excise duties any more.

The option of providing budgetary subsidies to the OMCs, as was done for LPG under recoveries, will raise the fiscal deficit unsustainably, thereby compromising the government’s fiscal management claim.

Post-poll call

The Modi government is ultra-populist, and will be quite reluctant to increase prices for farmers or consumers. Until the end of April, till the elections to the four states and one Union Territory, are over, the government is unlikely to raise prices. 

Till then, it may force the OMCs to bear the burden, promising to provide budgetary subsidies later, throwing in direct provision of foreign exchange from the RBI. If the current situation lasts beyond June, even that option will not work. A tough call will then be unavoidable. In that case, expect a hike of Rs 10 per litre of fuel, done over two instalments, from June onwards.

Subhash Chandra Garg is former Finance & Economic Affairs Secretary, and author of ‘The Ten Trillion Dream Dented’, ‘Commentary on Budget 2025-2026’, and ‘We Also Make Policy’.

Disclaimer: The views expressed above are the author's own. They do not necessarily reflect the views of DH.