Petroleum product’s demand, supply, prices and never-ending queue at petrol pumps in Nepal

The long queue at petrol pumps, rationing of LPG, rising NOC’s losses due to increase in international prices on whose basis it purchases from the IOC, NOC’s inability of purchase enough fuel when the subsidy government is offering has to be shouldered by the corporation, and the MoF’s inability to either give sufficient funds to NOC or compel it to restructure (administration, leakages and prices) are recurrent issues. The web of interconnections among these baffles analysts and, as in many cases, beyond some point there is no logic to the fuel prices in market, losses to NOC and supply of fuel (thanks to politics!).

Anyway, here is how the prices of petroleum products are moving in Nepal. The increase in domestic prices do not entirely reflect the prices in the international market. On April 4, 1996, a liter of petrol cost Rs 31; Rs 40 on July 17, 1998; Rs 47 on October 14, 2000; Rs 67.25 on March 3, 2006; Rs 100 on June 9, 2008; Rs 77.5 on February 17, 2010; and Rs 120 now. The prices of diesel and kerosene have been fixed at the same rate since December 3, 2008, largely to stop adulteration. Currently, petrol and diesel prices are highest in Kathmandu and Surkhet (Rs 120 and Rs 89 per liter respectively). The lowest prices (Rs 118.50/L for petrol  and Rs 87.50/L for diesel) are in the border cities with India. [Fyi, POL means petroleum, oil and lubricants. One barrel is equivalent to 159 liters and 1 cylinder 14.2 kg.]

As of 2012-05-01, there is loss in sale of diesel and LPG, which are also the ones with the highest demand in the market. Before the prices were adjusted two months ago, the losses were even bigger than what are listed in the table below. The NOC currently owes Rs 23.17 billion to the government and various banks and financial institutions. Of the total loans, the NOC owes Rs 10.73 billion to the government, Rs 6.40 billion to the EPF, Rs 4.13 billion to the CIT and Rs 1.90 to banks and financial institutions.

Profit and loss as per IOC's rate as of 2012-05-01
Item	Price
Petrol (MS)	3.71/Ltr
Diesel (HSD)	-10.60/Ltr
Kerosene (SKO)	3.02/Ltr
LP Gas	-598.34/cyl
Aviation Turbine Fuel (JET A-1)	14.39/Ltr (Duty Paid)
Aviation Turbine Fuel (JET A-1)	19.73/Ltr (Bonded)
Estimated total loss as of May 2012	- 1.1447 billion

Also be clear that the retail price of POL is high also because of high tariff (VAT, road tax and other charges), insurance and transportation charges, leakages, and NOC’s administrative costs. See the table below for the breakdown of costs for petrol, diesel, kerosene and LPG.

NRs	Petrol/L	Diesel/L	Kerosene/L	LPG/cylinder
Buying price as of May 1, 2012 from Raxaul	73.94	77.55	76.38	1530.32
Tariff	33.55	14.78	2.04	241.84
Interest on NOC's loan	1.47	1.47	1.47	20.87
Transportation cost and insurance	2.15	2.15	2.15	105.81
NOC's administrative charge	0.50	0.50	0.50	7.10
Technical leakage	0.98	0.59	0.50	1.39
Dealer commission	2.74	1.75	1.97	56.00
Insurance and transportation charge of dealer	1.24	0.82	0.97	50.00
Total price	116.29	99.60	85.98	2013.34
Retail price in Kathmandu	120.00	89.00	89.00	1415.00
Total monthly sales (KL, cylinder)	17,000	65,000	6,000	1,200,000

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Load-shedding, petro demand and inflation

The link between international petroleum prices and inflation in Nepal has been strong since 2007, the same year when load-shedding increased substantially and demand for petroleum products skyrocketed. A recent study by the IMF economists showed that almost a third of the variability in domestic inflation can be attributed to the prices in India and movements of international oil prices. The study found that the responsiveness of food price inflation was significant and quick to spillovers from India’s food prices and the global oil price fluctuations before 2007. However, after 2007 the impact of fluctuating oil prices is more persistent than the spillovers of food prices prevalent in the Indian economy. Even though petroleum prices do not change readily in our economy as they do in the international market, the price fluctuations are seen directly and indirectly in the cost of imported inputs (and final products) used by agricultural, industrial and service sectors.

The consumption of diesel has increased by over 100 percent between 2007/08 and 2010/11 (from 3 lakhs KL to 6.5 lakhs KL). The increase in demand comes mainly from the industries as a result of drastic increase in load-shedding hours. The peak demand for electricity in 2007 and 2011 was 648.39 MW and 946.1 MW respectively. The available energy (NEA hydro, NEA thermal, purchase from IPP and India) in 2007 and 2011 was 3051.82 GWh and 3858.37 GWh respectively. While the average annual average growth of peak demand for electricity between 2007 and 2011 was 9.44 percent, the annual average growth of available energy was 6.98 percent. There is a huge electricity demand and supply gap (on an average the demand is 650-900 MW but supply is around 450 MW). Furthermore, driven by the increasing purchasing power and expansion of trading business (mostly commercial), thanks to remittances, the additional number of consumers has also drastically increased between 2007 and 2008 (from 1.3 million to 2.05 million). The increase in consumption of petroleum fuel (especially diesel and LPG) is inversely related to the supply of electricity (load-shedding hours) in Nepal.

Nepal imported about Rs 51 billion of petroleum products in 2009/10, which increased to Rs 75 billion in 2010/11 (a solid jump of about 45 percent). It is expected to surpass Rs 100 billion in 2011/12. Fyi, the total merchandise export of Nepal was just Rs 64 billion in 2010/11.

What is the solution?

Saving myself from repeating the same arguments on how to handle the situation, let me direct readers to my earlier detail piece on the sorry state of state-owned enterprises, including NOC. Brief points are listed below:

• Adjust domestic prices with international prices (find other means to rein in on the impact of rising petroleum prices on inflation—NRB, MoCS, MoF, and NPC need to step up their efforts)
• Minimize leakages, including offering freebies to staff and MoCS guys, and lay off unnecessary staff at NOC
• Minimize political meddling in management, and improve governance and accountability
• Let private players join the market
• End syndicates and cartels in fuel transport
• Increase storage facility, mainly to partially tame price volatility. The present storage capacity of 71,558 kiloliters is just enough for 15 days (based on the projected sales for 2009).

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This is what happens when you ration products that have high demand in the market—it leads to a thriving black market. Petrol in mineral water bottles!

Current State of Nepali Economy

Here are the slides from a presentation on current state of Nepali economy held at Shanker Dev Campus, MBS 2nd year, Kathmandu.

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How ready is Nepal for change?–Not so much!

According to a new index (Change Readiness Index) that provides insight into which countries are better able to manage and mitigate the risks associated with change and capitalize on the new resulting opportunities, it looks like Nepal is ranked (overall) 50 out of 60 countries, meaning that it is well below the average in terms of its readiness to cope with change. Lower rank means better readiness for change.

Specifically, the ranking in economic sub-index (relating to economic policies and frameworks), governance sub-index (relating to the capacity of government and the institutional arrangements that have been established) and social sub-index (relating to the characteristics of a society, such as literacy, social support networks and civil society) is 50, 38,  and 57 respectively.

The top five countries in the CRI are Chile, Tunisia, Taiwan, Jordan and Kazakhstan. The bottom five countries are Venezuela, Honduras, Zimbabwe, Mozambique, and Bolivia. In South Asia, Sri Lanak is ranked at 22, followed by India at 23, Bangladesh at 45, Nepal at 50 and Pakistan at 54.

Change Readiness Index (CRI) captures government capability and the capability of a country as a whole - including the private sector and civil society - to manage and respond effectively to change. The Index combines data from a number of existing indicators with new measures that have been identified to capture specific elements of change readiness that are not currently being captured, including risk management capabilities, efforts to promote economic diversification, strong governance, and social safety nets. The study also considered the impact of recent food, fuel, and financial crises on countries around the world to asses country’s change readiness. The assumption is that a country’s capability for managing change might be an important factor in supporting sustained growth in the long term.

Dimensions of capability to manage change:

Economic capabilities

• Macro framework
• Investment climate
• Economic openness
• Labor markets
• Economic diversification

Governance capabilities

• Public administration
• Financial regulation
• Risk management
• State business relations

Social capabilities

• Entrepreneurship
• Safety nets
• ICT and innovation
• Human capital
• Civil society

While the report gives a sense of a country’s capabilities to cope with change and exploit the resulting opportunities, it also states that “when assessing growth prospects, this data must be viewed in combination with other information on issues that will affect economic prospects such as political stability, sovereign debt, sustainability or endowments of capital, labor and natural resources”.

Can storage help ensure food security?

Larson et al. argue that it can if the target is set high and reserves are adequate. Here is the abstract from their paper:

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In times of highly volatile commodity markets, governments often try to protect their populations from rapidly-rising food prices, which can be particularly harsh for the poor. A potential solution for food-deficit countries is to hold strategic reserves, which can be called on when international prices spike. But how large should strategic stockpiles be? This paper develops a dynamic storage model for wheat in the Middle East and North Africa (MENA) region, where imported wheat dominates the average diet. The paper uses the model to analyze a strategy that sets aside wheat stockpiles, which can be used when needed to keep domestic prices below a targeted price. This paper shows that if the target is set high and reserves are adequate, the strategy can be effective and robust. Contrary to most interventions, strategic storage policies are counter-cyclical and, when the importing region is sufficiently large, a regional policy can smooth global prices. This paper shows that this is the case for the MENA region. Nevertheless, the policy is more costly than the pro-cyclical policy of a targeted intervention that directly offsets high prices with a subsidy similar to food stamps.

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Meanwhile, Gouel and Sebastien recommend an activist policy to stabilize the impact of high food prices. They argue that the optimal trade policy for a single low-income country is to subsidize imports when domestic availability is low and tax exports when world prices are high, which will benefit consumers at the expense of producers, because it reduces the likelihood of high prices. Meanwhile, a pure storage policy might have an opposite effect: it raises the average domestic price because of the increased stock accumulation, and is detrimental to consumers. They argue that to protect consumers from food price volatility in an efficient way, storage policies need to be complemented by trade policies, which would provide some isolation from the world market.

Evolution of industrial policy in India, China and Germany

The economies that liberalized early on with strategic support to boost capabilities and competitiveness of industries also achieved high growth rate and high prosperity. Germany liberalized in 1950s, China in 1978, and India in 1992. [Nepal is trailing far behind in comparison to these economies—even when compared to the Indian economy as it liberalized its economy in tandem with the liberalization drive in the Southern neighbor. Here and here are two articles related to industrial policy in Nepal.]

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Chart source is WEF

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This statement by Dani Rodrik is highly relevant here: “The right model for industrial policy is not that of an autonomous government applying Pigovian taxes or subsidies (i.e. lump sum taxes or subsidies), but of strategic collaboration between the private sector and the government with the aim of uncovering where the most significant obstacles to restructuring lie and what type of interventions are most likely to remove them.”

Determinants of manufacturing competitiveness

Here is a nice chart that shows the determinants of manufacturing competitiveness. A combination of government action, manufacturing capabilities, market forces, and resources is needed for successful enhancement of manufacturing competitiveness. It is based largely on exports sophistication and complexity of products.

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 Government forces

• Education policies
• Energy policies
• Economic, trade, labor, financial and tax policies
• Science and technology policies
• Manufacturing and infrastructure policies

Capabilities

• Innovation
• Technology
• Process
• Infrastructure

Market forces

• Demographic
• Macroeconomic

Resources

• Human
• Materials
• Energy
• Financial

By the way, Nepal’s manufacturing sector is going downhill. If you look at the list of determinants of manufacturing competitiveness, almost all of them are either missing or inadequately supplied in Nepal. Here is an earlier discussion on the state of Nepali economy, industrial sector, and exports.

Latest on India’s largest poverty alleviation and rural employment generation program: MGNREGS is working

In a new working paper, Dutta, Murgai, Ravallion, and van de Walle argue that poorer families tend to have more demand for work on the scheme, and that (despite the un-met demand) the self-targeting mechanism allows it to reach relatively poor families and backward castes. The extent of the un-met demand is greater in the poorest states — ironically where the scheme is needed most. Labor-market responses to the scheme are likely to be weak. The scheme is attracting poor women into the workforce, although the local-level rationing processes favor men.

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We do not find that the local-level processes determining who gets work amongst those who want it are generally skewed against the poor. There are sure to be places where this is happening (and qualitative field reports have provided examples). But it does not appear to stand up as a generalization. We do find evidence that the poor fare somewhat less well when it comes to the total number of days of work they manage to get on the scheme. However, despite the pervasive rationing we find, it is plain that the scheme is still reaching poor people and also reaching the scheduled tribes and backward castes.

Participation rates on the scheme are higher for poor people than others. This holds at the official poverty line, but the scheme is also reaching many families just above the official line. It is only at relatively high consumption levels that participation drops off sharply. This should not be interpreted as indicating that well-off families in rural India are turning to MGREGS. There may well be shocks that are not evident in the household consumption aggregates. And there may be individual needs for help that are not evident in those aggregates.

Targeting performance varies across states. Some of those living above the official poverty line in better-off states will no doubt be relatively poor, and need help from the scheme. The overall participation rate seems to be an important factor in accounting for these inter-state differences in targeting performance, with the scheme being more pro-poor and reaching scheduled tribes and backward castes more effectively in states with higher overall participation rates.

While the allocation of work through the local-level rationing process is not working against the poor, there are clearly many poor people who are not getting help because the employment guarantee is not in operation almost anywhere (Himachal Pradesh, Rajasthan and Tamil Nadu could be counted as the exceptions, where 80% or more of those who want work got it). And other potential benefits of the scheme to poor people are almost certainly undermined by the extensive rationing, notably the empowerment gains and the insurance benefits. The first-order problem for MGNREGS is the level of un-met demand.

While the scheme is clearly popular with women—who have a participation rate that is double their participation rate in the casual labor market—the rationing process does not appear to be favoring them. We also find evidence of a strong effect of relative wages on women‘s participation—both wages on the scheme relative to the market wage and the male-female differential in market wages. As one would expect, poor families often choose whether it is the man or the woman who goes to the scheme according to relative wages.

It has been claimed by some observers that the scheme is driving up wages for other work, such as in agriculture; some observers see this as a good thing, others not. For India as a whole, we find that the scheme‘s average wage rate was roughly in line with the casual labor market in 2009/10. This might look like a competitive labor market equilibrium, but that view is hard to reconcile with the extensive rationing we find. Interestingly, we do find a significant negative correlation between the extent of rationing and the wage rate in the casual labor market relative to the wage rate on the scheme. Although this is suggestive, on closer inspection we are more inclined to think that other economic factors are at work. Indeed, the correlation largely vanishes when we control for the level of poverty. Poorer states tend to see both more rationing of work on the scheme and lower casual wages—possibly due to a greater supply of labor given the extent of rural landlessness.

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NREGA is a flagship rural employment generation and livelihood program of the UPA government in India. This social welfare program guarantees one hundred days of employment per year at the prevailing minimum wage rate for unskilled labor.

The Act came into force on February 2, 2006 with an aim to “directly touch lives of the poor and promote inclusive growth.” Along with the objectives of boosting rural economy and enhancing overall (inclusive) economic growth, this public works program was also designed to prop up purchasing power of poor people; stabilize their household income; assure livelihood security to the most marginalized groups; accelerate the pace of meeting the MDGs; and strengthen natural resource management through works that address causes of chronic poverty like drought, deforestation and soil erosion. One of the objectives of the program is to make the process of employment generation sustainable.

It started with a pilot project in the state of Maharashtra in 1965 with an aim to provide relief to poor farmers during famine and drought. An Employment Guarantee Scheme (EGS) Act was passed in 1979 by the state legislature, widening the reach of the pilot program to the entire state. The federal government picked upon the success of the program and implemented (under Phase I) it in 200 of the most backward districts on February 2, 2006. It was expanded to cover an additional 130 districts in 2007/2008 (under Phase II) and the remaining (under Phase III) 285 districts (in total 615 rural districts) on April 1, 2008. In 34 states, a total of 45,019,215 households (as of September 2, 2009) were provided employment in 2008/09.

For more on NREGA, see this. It looks like cost of Mahatma Gandhi National Rural Employment Guarantee Act (MGNREGA), the largest employment guarantee public works program in the world, is coming down. Its cost as a share of GDP, total expenditure and revenue receipts is decreasing and is expected to be 0.45 percent, 3.19 percent, and 5.08 percent respectively in fiscal year 2011-2012. Here is more on MGNREGA.

NREGA budget (Rs Crore)
	2006-07	2007-08	2008-09**	2009-10**	2010-2011*	2011-2012*
GDP, current prices#	4,293,672	4,986,426	5,582,623	6,550,271	7,877,947	8,980,860
Total expenditure	583,387	712,671	900,953	1,020,838	1,108,749	1,257,729
Revenue receipts	434,387	541,864	562,173	614,497	682212	789892
NREGA allocated budget	11,300	12,000	30,000	39,100	40,100	40,100
NREGA/GDP	0.26	0.24	0.54	0.60	0.51	0.45
NREGA/Exp	1.94	1.68	3.33	3.83	3.62	3.19
NREGA/Rev	2.60	2.21	5.34	6.36	5.88	5.08

Source: Calculation based on data from Union Budgets; *estimate; **revised estimate'; # Economic Survey 2010-11

In FY 2010-2011, 5.49 crore households were provided employment (100 days employment  on demand to each household during lean season). The total persondays of employment created was 257.15 persondays (crore). Of this, the share of SCs, STs, and women accounted for 30.63%, 20.85%, and 47.73% respectively.