Why has the govt slashed windfall tax on fuel exports and crude output?

The shares of Indian oil producers and refiners rallied in unison on Wednesday morning as a government move lifted their spirits. 

And what was the move? The government slashed windfall taxes on fuel exports and local crude oil sales that were imposed only 20 days ago, on July 1. The open-ended levies are reviewed every fortnight.  

To target profits made from a spike in oil prices after the Russia-Ukraine conflict started, India had imposed windfall tax in the form of a cess of Rs 23,250 per tonne or $40 a barrel on domestic crude production. 

Now, this has been slashed by 27% to Rs 17,000 a tonne -- benefiting oil producers like state-owned ONGC and Oil India, and Vedanta.

Shares of these three companies closed between 3.7% and 5.9% higher on Wednesday.

Similarly, the government reduced the windfall tax on diesel and jet fuel exports by Rs 2 a litre from 13 rupees and 6 rupees respectively. The levy of 6 rupees a litre on petrol exports has been scrapped completely. 

Reliance jumped 2.5% on Wednesday while state-owned Mangalore Refinery and Petrochemicals hit upper circuit of 5% and Chennai Petroleum Corporation closed nearly 9% higher.

The levies came as oil refiners reaped major profits by boosting fuel exports to deficit regions such as Europe, which is now boycotting imports of Russian energy. 

India’s only privately-owned refining companies, Russia’s Rosneft-backed Nayara Energy and Reliance Industries, account for 80-85% of the country’s overall petrol and diesel exports, according to consultancy firm FGE. 

The government also removed the levies on exports from refineries located in Special Economic Zones, benefiting Reliance, as the Mukesh Ambani-led company runs India’s only export-focused refining unit in Gujarat’s Jamnagar.

Global crude oil benchmark, Brent, has slumped since the first week of June when it was above $120 a barrel on fears of a potential global recession. Returns from processing petrol and diesel in Asia have also plunged in recent weeks. News agency PTI said that the windfall levy scooped out 40 percent of the oil producers’ earnings. On top of it, they also paid royalty and cess.

Revenue Secretary Tarun Bajaj had said the government would withdraw the windfall tax if global prices of crude fall as much as $40 a barrel from around $112 levels. But Brent is currently trading at $105 a barrel after rebounding nearly 10% over the past week.

Analysts at Morgan Stanley on Wednesday said that steady improvement in local fuel availability, stability in oil prices and more normalised global fuel margins will help in further reducing windfall taxes under fortnightly review.

Reliance, Oil India and ONGC will see reduction in overhang and equity valuations should start pricing in high sustainable energy margins as government action provides clarity on the path ahead, they added.

Prashant Vashisht, Vice President and Co-Group head, ICRA, said recession fears led to easing of crude prices.  This may have led to govt decision. Refining margins for petrol have dipped sharply. 

Analysts from Kotak Institutional Equities had said that windfall tax on fuel exports were not well thought out and may hamper the investment climate. They said the imposition of taxes on exports of petroleum products goes against the government’s historic policy of incentivising refining. Whereas, an expert at IIFL Securities told a business channel that the government has been pragmatic and tried to address the situation as soon as things have come under control.

The so-called crack spread, which is the profit that refiners get from turning crude into petrol, diesel and jet fuel, has crashed since the imposition of the windfall taxes.

But a sharper drop for petrol explains why the special additional excise duty on the fuel’s export has been removed altogether.  

While recession fears sparked concerns of a slowdown in oil demand, realisations for producers are still remunerative. Therefore, windfall taxes on domestic crude oil

production may sustain longer.