07.07.2005 Feature Article

The Case for Petroleum Sector Deregulation

The Case for Petroleum Sector Deregulation
07.07.2005 LISTEN

...Should be Taken Directly to the People In a previous article, we tried to make a case for deregulation of the petroleum sector. We were encouraged by the responses that we received—some complimentary, others critical. That is really the spirit of our involvement in this process—to provoke open debate on the subject. The restricted medium used for these articles—Ghanaweb and Daily Graphic—however, means that our audience tends to be equally restricted. We have to emphasize that the purpose of these articles is not to support one group against another, but to present our objective views on the subject and, naturally, take a stand, as others are equally entitled to take a stand as well.

Since the last article, the Government has, commendably, moved the deregulation agenda forward, including by establishing the National Petroleum Authority (NPA), the independent body to oversee the application of the automatic pricing mechanism. At the same time, opposition to the process has also intensified, with anti-deregulation demonstrations being organized across the country. It seems to us that the case for deregulation, while meritorious, is not being made forcefully enough and is, regrettably, being drowned by a more vociferous campaign against it.

This article is a continuation of our crusade for deregulation, which we believe is right for Ghana. The purpose is to reinforce the case for deregulation and also to encourage the Government to take the case more forcefully and openly to the wider Ghanaian public in order to broaden consensus for and ownership of the deregulation policy.

The costs of the subsidy system

For the benefit of those who must have missed the first article, we restate, briefly, the costs of the current subsidy system to buttress the case for change.

· The subsidy cost the budget cedis 1.8 trillion in 2004 alone (or about $200 million).

· The subsidy deprives government of resources that could otherwise have been used for development and provision of social services.

· The subsidy reduces the incentive to economize in the use of petroleum products.

· The subsidy provides an incentive for smuggling petroleum products to neighboring countries where prices are higher.

· The management of a subsidy entails a bureaucracy with administrative costs.

The principal beneficiaries of the subsidy system—the poor or the rich?

A consumer subsidy is normally used to protect more vulnerable people who would otherwise be disadvantaged by an existing policy. In that sense, who is the real beneficiary of the petroleum subsidy? A study by ISSER (2004) shows that the transport sector accounts for 80 percent of petroleum product consumption in Ghana, households for 6.2 percent, industry for 6.7 percent, and agriculture for 4.2 percent. Household consumption is generally limited to LPG (largely used by urbanites) and kerosene. Coming to the transport sector, since rich people have more cars per capita, they consume more petrol per capita than poor people. You can see clearly that rich people travel around with 1-5 passengers per vehicle, while poor people travel around with anything from 5 (in a taxi) to 30 or more (in a large bus). On that score, rich people use more petrol and, therefore, benefit more from a subsidy than poor people, and would, naturally, want it to stay.

Deregulation will, undeniably, have an impact on household incomes—directly from the higher petroleum prices and indirectly via the passthrough of petroleum prices to other goods and services. A recent officially-commissioned study found the direct impact in terms of loss from a subsidy removal to be much higher for rich households than poor households—about 34 percent for the top quintile (20 percent) as against 14 percent for the lowest quintile. On the indirect effect side, the study also found that the richest households bear a disproportionate amount of the subsidy removal loss—35 percent for the top quintile and 8 percent for the bottom quintile. So, on both accounts, rich people who benefit more when a subsidy is in place, also stand to lose more from its removal. What these facts also demonstrate is that petroleum subsidy is an ineffective means of protecting poor households since there is an unintended leakage of the benefits to the rich.

Therefore, if rich people speak out against deregulation and persuade poor people to join them in demonstrating against it, you can understand their motive—whether it is egoistic or altruistic. In the same vein, one wonders if the opposing voice is really the 'peoples' voice.' Are the people opposing the deregulation really fighting for the interest of the average Ghanaian, who is presumably poor? The foregoing facts do not seem to support such motivation. They are pursuing their own interest rather than that of the poor. We need to point out that people who oppose the subsidy removal do not exclusively belong to the 'political opposition.' You will find them even on the Government side (although they may then be silent sympathizers) or in other public service or private capacity. Their common motive, however, is to have the subsidy retained as they are the principal beneficiaries. Only a few rich people who are really altruistic would advocate for deregulation because they want the poor, and not them, to benefit.

The benefits of deregulation

Again, let us restate the potential benefits of deregulation, which are really the flip side of the costs.

· Deregulation will free huge resources for government to spend on productive ventures and social sectors.

· Market pricing will encourage efficiency in the use of petroleum products, which will save the country money in terms of reducing oil imports.

· Removing the subsidy will reduce the incentive to smuggle petroleum products, which will save the country money.

· Even more fundamentally, deregulation will depoliticize petroleum pricing and eliminate the speculations, rentseeking, and other practices usually associated with government-announced price increases.

· Automatic pricing should allow the benefits of cost reductions, including through world oil price falls, efficiency, and competition, to be passed on to consumers. Mitigating the costs of deregulation We stated above that deregulation also has costs—the direct and indirect effects. To alleviate the effects on the poor, Government needs to introduce well-targeted social safety nets. Some actions have been initiated to this end, which we reinforce below.

· To mitigate transport costs, urban and inter-city transportation needs to be improved by making available more public transport at subsidized fares.

· The feeder road network needs to be improved to increase accessibility, while facilitating and reducing the cost of carting foodstuffs into the urban areas. · Also well targeted is the decision to absorb the cost of public Primary/JSS education, which directly benefits the poor.

· Petroleum products used predominantly by people at the lower end of the social stratum, such as kerosene and pre-mix fuel, are also being duly cross-subsidized.

· Also appropriate is the reduction of business taxes in the budget, which should foster domestic production and benefit the poor, as is the reduction of the income tax threshold, making the tax system more progressive and, therefore, pro-poor. Conclusion The Government needs to take these facts to the people as loudly as possible to help strengthen the case for deregulation. It cannot afford to cede the initiative in this regard to the anti-deregulation coalition, who may be a minority seeking their own interest rather than that of the people. Policy in an information vacuum can be dangerous. The Government must have effective vehicles for communicating its message to the people, including the FM stations, the Ministry of Information system, and public rallies across the country.

The public education campaign must have simple, focused message:

· The subsidy system is costly. It has the potential to cripple government finances.

· The subsidy system is unsustainable and risks returning the country to the old era of petrol rationing and queues as the demand-supply gap widens.

· The subsidy benefits the rich more than the poor and denies the poor important social benefits.

· Deregulation will encourage efficiency and adjustments in consumption and save the country scarce foreign exchange.

· The saved subsidy will be used to fund social and development projects.

· Government will introduce additional safety nets, well-targeted to the poor to mitigate the impact of deregulation.

It cannot be stressed enough that the stakes are quite high for Ghana as far as the deregulation process is concerned. Ghana has benefited a lot from donor assistance, including debt relief under the HIPC Initiative. Ghana is a beneficiary of the Millennium Challenge Account Initiative. And more recently, Ghana has been announced as a candidate for the G-8 debt cancellation initiative, which will bring a huge relief to the country. Ghana's image has been substantially boosted precisely because of the prudent policies and reforms being implemented, and we cannot afford to relapse. As we know, these financial assistance initiatives are not without conditions. In particular, they demand prudent economic management, good governance, transparency, and accountability. Donors will be unwilling to provide assistance that is used to provide universal petroleum subsidy. And, since money is fungible, it will be difficult to make the argument that it is not their money but our own budgetary resources that pay for the subsidy. What we stand to gain from the array of international assistance is much greater than the small benefit that we may derive from the subsidy. If these facts are put to the people, we are sure they would make the right choice, rather than follow others whose interests may not coincide with theirs. If we deny Ghanaians these huge international benefits because of a lack of political will to make the right policy choices, posterity would not forgive us. Dr. J. K. Kwakye Rockville, Maryland, USA June 28, 2005 Views expressed by the author(s) do not necessarily reflect those of GhanaHomePage.

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