Should the rise in fuel prices be passed on to the consumer?
The Ceylon Chamber of Commerce (CCC) has issued a statement that the increase in oil prices should be passed on to the consumer. Its contention is that if this were not done the government would incur a higher deficit and have to resort to inflationary financing. They point out that the macro economic impacts of a higher fiscal deficit would be more detrimental to the economy than a rise in fuel and other related prices.

Besides this, if prices were not adjusted to increases in import costs, then consumers would not curtail their demand. The consumption of petrol, diesel and other petroleum-based products and electricity would not be adjusted to the actual costs. Hence consumption of these products would be higher than warranted by the international price rise.

There is much truth in these arguments, yet the hardships on the poor could be enormous and the political repercussions disadvantageous to the incumbent government. Perhaps the economic consequences of keeping oil prices down may take more time and therefore the unstable coalition government may prefer to let the adverse consequences work themselves out over time.

There appears to be a diversity of views within the government with those close to finance advocating the adjustment of consumer prices in line with the rising international prices. The Secretary to the Treasury has gone on record as saying that prices of petroleum products and electricity would have to be adjusted. He is keen on keeping the fiscal deficit to 7 per cent of GDP. A similar view has been expressed by the Finance Minister. Other constituent elements in the government appear to favour a subsidy to cushion the higher prices. Their concern is the political fall out of the higher costs of living.

Those wanting prices to be kept down argue that the oil price hike is of a temporary nature and that prices would come down. They contend that the government should subsidise energy during this temporary period. However, there is no certainty that oil prices would come down soon. On the other hand, when energy prices are increased and they lead to an upward spiralling of prices, the prospect of bringing down prices when oil prices fall is remote, owing to what economists call the "ratchet" effect. Ordinary mortals know this fully well. It is very seldom that prices of commodities come down when import prices fall.

It is not only consumer prices that would be affected by increases in the prices of petrol, diesel, gas and electricity. Producer costs too would rise. It is for this reason that the government is not expected to raise industrial electricity tariffs. Higher costs of energy would affect competitiveness in world markets for our industrial exports, especially as some of the competitors are not as dependent on oil imports as we are. In fact already electricity tariffs for industries in Sri Lanka are said to be one of the highest. Therefore further increases in costs could jeopardise our industrial export sector. Such discriminatory pricing in favour of industries may seem unfair. Yet it is sound economic reasoning in the longer run interests of the economy. Higher pricing to consumers seems socially unjust, especially to a society used to welfare handouts and subsidies. Yet the harsh economic reality is that unless higher international prices are passed on, the economy could face fundamental problems that could affect the structure and performance of the economy for quite some time.

There is a decisive question of choice whether to heap further burdens on the consumer or allow subsidies to affect the macro economic fundamentals. By passing on the price increases there could be some adjustment in the consumption of oil-based products. Yet it is surprising that price increases appear to have little impact on the use of petroleum and electricity in the country. Why is this so in a poor economy and society?

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