As all roads lead to the IMF, and energy subsidy reform once again becomes the focal point – it may be worthwhile attempting to see from the IMF’s lens. Recall that ha the IMF had pushed for raising the maximum allowable limit on Petroleum Levy from Rs30/ltr to Rs50/ltr, as the collection target was set close to Rs800 billion for FY23. News reports coming out from the ongoing negotiations suggest that pricing of energy – petroleum, electricity, and gas – remains the topmost agenda in what is broadly referred to as subsidy reforms.
The IMF’s subsidy reform playbook puts significant emphasis on externalities, for the consumption of fossil fuels. A wide range of assumptions goes in to arrive at what is termed the benchmark or equilibrium price for energy consumption – from gasoline to diesel, and from electricity to gas. The price gap and pass-through approaches are the most frequent ones used by the IMF to assess where petroleum pricing in a particular geography stands in relation to the equilibrium rate.
Pakistan has not run a price gap on an annual average basis with an international price on petrol since at least FY10. The pre-tax price gap is simply the difference between the prevailing retail prices in the country versus the supply cost of petrol that takes into account import costs and distribution margins. The IMF uses 20 cents per liter as margins to be added to reference gasoline prices to arrive at supply cost. A negative price gap tells there are no pre-tax subsidies in place, which has been the case in Pakistan for over a decade, except for a few months.
Taxation consideration is where the IMF puts the greatest emphasis on, from carbon emission, traffic congestion, accidents, road damage, etc. Different countries are assigned different values for corrective tax, which is the cost of externalities that petroleum consumption should have associated with. For Pakistan, the IMF came up with 31 cents as a corrective tax estimate, which is in addition to the standard VAT applicable in the country.
In the last ten years, Pakistan’s post-tax price gap for petrol has averaged 31 cents, which is interestingly what IMF estimates as corrective tax in Pakistan’s case. The infamous FY22 subsidy that lasted longer than it should have unsurprisingly leads the way with 47 cents per liter as the price gap – the highest since at least FY10. The gap has since narrowed, and hovers around 24 cents for 7MFY23, as tax incidence has been raised in phases to have reached the maximum PL limit of Rs50/ltr towards the end of 2022.
The current gap of 23 cents from the benchmark price suggests that the IMF would want the government to impose GST on petrol. A 17 percent GST from the current rate would mean at least another Rs50/ltr from the current price if all other settings remain unchanged. Given how the IMF is also pushing for price adjustments in the electricity and gas sector –the government may well be offered leeway and the increase could be phased out.
A part of subsidy reform, at least in the IMF literature, is also wary of adjusting energy prices too heavily, especially in low growth and high inflation times. Pakistan currently fits the bill for both, and there may well be a phased increase as petrol prices are considered to have the highest degree of direct and indirect impact on inflation, versus other fuels which are high on either front.
When the dust settles and normalcy returns, sooner or later, it will not hurt if the authorities take it upon themselves to chalk out a subsidy policy, that ensures a passthrough of prices, while protecting the most vulnerable, with or without the IMF.
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