India’s Energy and Fiscal Transition

3.1.1 Oil and Natural Gas

The Goods and Service Tax regime was implemented in India in 2017. The GST is a form of value-added tax on the consumption of goods and services as well as services at the national level. The objective is for it to replace all indirect taxes levied on goods and services by the Indian central and state governments. However, as of 2021, energy (electricity and petroleum products), fresh foods, and alcohol products were among those kept out of its purview. Within petroleum five commodities including crude oil, natural gas, petrol, diesel, and aviation turbine fuel remain excluded from the ambit of GST. However, some are included in the GST regime such as Kerosene (18 %), Greases (18 %), Sulphur (18 %), Benzene (18 %), AV gas (28 %), etc. Coal attracts a 5 percent tax under GST. Though the GST rates have remained the same since inception in 2017, GST collections have risen from 2017–18 to 2018–19 and fell in the following two financial years, presumably due to the Covid-induced slowdown as shown in Table 3.

A cess is a tax with specific purposes and is typically considered to be temporary in nature. It is different from other forms of taxes and is imposed as an additional tax over and above the existing tax (tax on tax). Currently, there are six different types of cesses being imposed in India and two of those apply to the petroleum sector, namely ‘Cess on Crude Petroleum’ and ‘Road Cess’. The cess on crude petroleum is imposed on domestic crude production (not imported crude) at the rate of 20 percent of the value and the Road Cess is Rs 2.5 and Rs 4.00 per litre sold of Petrol and Diesel respectively⁷. There has been some discussion on reducing the crude cess to 10 percent and also imposing a covid cess, but both have not occurred yet. Given India’s federal structure there are many constraints in imposing new taxes many of which need to be shared with state governments, the cess however is typically not,^[5] and therefore this gives the central government some short-term flexibility in both instituting a cess and using its proceeds for a specific function.^[6] However, after the 14th Finance Commission, the States’ share in the tax revenue increased from 32 to 42 percent.

The taxes on imports or customs duty on oil and natural gas varies from product to product. The rates are decided separately for products covered under GST and excluded from GST. The custom duties have two components, basic customs duty, and additional custom duty. For Non-GST petroleum products such as petrol the basicustomsom duty is 2.5 percent of value, and an additional customs duty of Rs 18 per litre, for aviation turbine fuel the basic customs duty is 5 percent and the additional customs duty is 11 percent. For GST products like ke,rosene it’s 5 percent and 18 percent, for furnace oil the combined duty is 29.8 percent. The combination of an ad valorem and specific or unit taxes has traditionally provided flexibility to better manage government revenues while maneuvering through the crude price volatility. The contribution of custom duty increased continuously from Rs 41.25 billion in 2014–15 to Rs 229.27 billion in 2019–20 and is exto pected have dipped significantly thereafter due to the Covid slowdown; but this is likely to be temporary and it is expected to go back up on a high growth path rapidly.

Excise duty is a tax imposed on the production of goods and also includes their licensing and sale and accrues to the central government. All manufactured goods used to be charged an excise duty, but this was subsumed under GST for most products in 2017. Today, excise duty applies only on key petroleum products and liquor; but is a significant revenue earner due to the rates and scales involved. Excise duty components include basic excise duty, a special additional excise duty, and also an infrastructure cess. The duties have steadily been rising: for instance, in 2014 they stood at Rs 3.56 and 9.48 per litre respectively for Diesel and Petrol; by 2021 these had increased to Rs 32.90 and 31.80 per litre for Petrol and Diesel respectively. The contribution of excise duty increased by around 145 percent from 2014–15 to 2016–17 and by a further 53 percent from 2016–17 to 2020–21, as shown in Figure 1. To put in perspective, provisional excise duty figures for key petroleum products stand upwards of Rs 3.7 trillion and about 1.9 percent of India’s nominal GDP for that year.^[7]

Figure 1:

Excise duty collection from crude oil & petroleum products. Note: 2020–21 figures are provisions. Source: Petroleum Planning and Analysis Cell (PPAC), Ministry of Petroleum and Natural Gas, New Delhi. 1 crore = 10 million.

The Value Added Tax (VAT) replaced a complex set of sales taxes and therefore is a form of consumption tax imposed by the state governments and all revenues accrue to the states. VAT was first introduced in 2005 but it was fully implemented across India a decade later by 2014.^[8] It varies widely across states. For instance, as of July 2021, the VAT on petrol was the highest in M.P with Rs 31.3 per litre while it was about half of that, Rs 16.8 per litre, in Andhra Pradesh. Similarly, the VAT on diesel was highest in Arunachal Pradesh with Rs 23.5 per litre and lowest in Andhra Pradesh at Rs 8.3 per litre. Its contribution has increased continuously over the years from 2014–15 to 2020–21, barring a slight fall in 2019–2020. If the petroleum products are included in the GST (there is no consensus on that yet) the VAT will be subsumed under it. Till then the VAT continues to be a significant source of revenue for state governments across India.

The royalty on crude oil is fixed as per the Oilfield (Regulation & Development) Act, 1948 which also provides that the royalty cannot exceed 20 percent of the well-head price. Royalties on output from offshore fields are payable to the central government whereas those from onshore areas are paid to the respective state in which it is located. The royalty rate for offshore areas is currently 10 percent of the well-head value of crude oil and natural gas. For onshore a,reas the rate of royalty is 12.5 percent in the case of crude oil and 10 percent in the case of natural gas. The contribution of royalty to both central and state exchequers has fluctuated over the years (Figure 2).

Figure 2:

Royalty on crude oil and natural gas. Source: Petroleum Planning and Analysis Cell (PPAC), Ministry of Petroleum and Natural Gas, New Delhi.

Dividends are paid out by many companies with significant equity stake by central and state governments. These companies, or Public Sector Enterprises (PSEs), are involved in oil prospecting, extracting, processing and marketing. Though later some equity was divested by the government, a significant stake in petroleum companies continues to be held by the government. Companies such as ONGC, Indian Oil, BPCL, andGAIL are among India’s largest companies and continue to be majority owned by the government. As per the guidelines on capital restructuring of central public sector enterprises (CPSEs), it was prescribed in 2016 that CPSEs would pay a minimum annual dividend of 30 percent of profit after tax or 5 percent of the net worth whichever is higher. And in 2020, an advisory was issued that CPSEs should try to not just the minimum but higher than that and also try to pay on a quarterly basis rather than annual. of 2018–19 out of the total dividend received by the central government from all CPSEs, about 40 percent contribution is from thirteen oil and natural gas-based companies. Though some state governments also have a stake in energy companies that is a relatively small share of the total (Details in the Online Appendix for a list of PSEs and their subsidiaries).

The contribution of dividends differs greatly in terms of absolute numbers in central and state. Concerning contribution to the central exchequer, value increased from Rs 91.97 billion in 2014–15 to Rs 103.93 billion (P) in 2020–21, with the maximum contribution being in the year 2016–17 of Rs 175.01 billion (Table 4).

3.1.2 Coal and Lignite

The taxation structure followed for coal is complex in India. Both central and state governments levy taxes on coal production. There are almost sixteen different taxes combined at both levels like NMET, excise duty, clean energy cess, royalty, direct mineral fund, etc. (see Appendix Table A3).^[9] Coal mining royalties are 14 percent of the basic price, and are paid to the concerned state governments and include royalties from all companies public or private, those involved in mining for internal purposes (such as for iron smelting) or sale to the power sector. In addition, the National Mining Exploration tax (NMET) of 2 percent of the royalty is charged to be paid for funding exploration done by the government. Additionally, a payment to the District Mineral Foundation (DMF) is not more than a third of the royalty amount, and is to be decided by each concerned state. The DMF funds are to be used for the welfare of the mining-affected populations.

Unlike major petroleum products, coal does come under the ambit of GST with a rate of 5 percent that has remained the same since 2017. However, it also has a compensatory GST imposed on it. This ‘Clean Energy Cess’, was first introduced in 2010, as a form of a carbon tax on the production and import of coal, lignite and peat. Initially it was at a unit rate of Rs 50 per ton of coal mined or imported, and as later in 2016 increased to Rs 400. In addition, other levies include Paryavaran and Vikas Upkar (Environment and Development Favour/Levy) of Rs 23 per tonne and terminal tax of Rs. 2 per tonne is for southern coal fields only and also a Forest tax of Rs. 57 per tonne on coal fields located in western India only.

Coal India Limited is the largest of coal and lignite companies predominantly owned by the government. There are eight subsidiaries of Coal India Limited i.e. Bharat Coking Coal Limited (BCCL), Central Coalfields Limited (CCL), Eastern Coalfields Limited (ECL), Western Coalfields Limited (WCL), South Eastern Coalfields Limited (SECL), Northern Coalfields Limited (NCL), Mahanadi Coalfields Limited (MCL) and Central Mine Planning and Design Institute (CMPDI). The CMPDI is an engineering, design, and exploration company set up for preparing prospective plan(s), rendering consultancy services and undertaking exploration and drilling work to establish coal reserves in the country, and collection of detailed data for the preparation of projects for actual mining. The other seven subsidiaries of CIL are coal-producing companies. CIL and its subsidiaries are incorporated under the Companies Act, 1956, and are wholly owned by the Central Government. The coal mines in Assam and its neighboring areas are controlled directly by CIL under the unit North Eastern Coalfields. Other companies include Neyveli Lignite Corporation India Limited, Singareni Collieries Company Limited (SCCL), etc. Neyveli Lignite Corporation India Limited is under the administrative control of the Department of Coal. The company is engaged in the exploitation and excavation of lignite, generation of thermal power, and also the sale of raw lignite. SCCL is a joint undertaking of the Government of Andhra Pradesh and the Government of India. The equity capital is shared in the ratio of roughly 51:49 between Government of Andhra Pradesh and the Central Government respectively. The headquarters of the company is at Kothagudem in Andhra Pradesh SCCL produces about 10 % of the country’s coal production and 76 % of its production is despatched to the coal-based thermal power plants in Maharashtra, Andhra Pradesh, and Karnataka. The remaining part of SCCL’s coal production is supplied to the cement companies and other industries.

Data on dividend receipts from coal companies is not included in Table 5, but they are substantial. For instance, in the period 2015 to 2020 Coal India Limited was the highest dividend payer to the government with a combined amount of Rs 425.92 billion; this is over and above the corporate tax paid by Coal India Limited and other companies.^[10] During this period there has however been a fall in dividends (Details in the Online Appendix) both due to lower dividends and reduced shareholding. The shareholding fell from 79.6 % in 2015–16 to 66.1 in 2020–21, and the total dividend fell from Rs. 173.06 billion in 2015–16 to Rs 77.03 billion crores in 2020–21. The corporate tax for coal companies has also been substantive. In the six-year period, the total corporation or profit tax of the government from coal companies was Rs. 484.06 billion, with the highest of Rs. 9,8.05 billion in 2019–20.

3.3.1 The Base Case – Stated Policy Scenario (STEP)

Using these IEA (2021b) projections we can estimate the energy from each source including renewable energy, coal, oil, and natural gas for the years 2030 and 2040. All the projections of India’s energy use till 2030 and 2040 are made under the assumption of 5.4 percent annual economic growth.^[13] Others have also attempted to estimate India’s future energy use based on growth assumptions. TERI-SHELL (2021) studied India’s energy transition for the period 2020–2050 under assumptions of 4.8 percent real GDP growth^[14] and targeted Net Zero by 2050.^[15] In the same study solar and wind are projected to produce 88 percent of the total electricity by 2050. The BP Energy Outlook for 2020 studies the period 2018–2050 and assumes GDP growth of 6 percent per annum and they project the energy sector to achieve net zero by 2070.^[16] In the same report conditions for 2050 are predicated upon three assumptions. The rapid transition scenario where carbon emission from energy use falls around 70 percent by 2050; the net zero scenario under which carbon emission from energy use falls by 95 percent and business as usual where the carbon emission from energy use falls by 10 percent only. The base for comparison for all the scenarios is emission level in 2018. It is difficult to ascertain which of these projections is more realistic given the fluid conditions, rapidly changing technologies, and possible commitments by the government of India. Therefore, in the interest of comparability, we use the IEA real growth estimates for India as a benchmark for studying how the fiscal might be affected under prevalent energy transition scenarios.

We take as a given that the prices of all fossil fuels and exchange rates are as those ruling currently, we also assume that tax and non-tax revenues also change proportionately with the use of fossil fuels. (Of course, if high levels of carbon taxes are instituted, revenue shares from fossil fuels can be expected to shoot up initially before starting to fall, we however do not investigate that scenario). The forecasted menu of energy sources is converted to fuel quantities using a conversion factor of energy use to the quantity of different fuels (details in the Online Appendix). This enables us to calculate the quantity of coal, oil, and natural gas required in 2019, 2030, and 2040 from the IEA estimates. The revenue received from each of these sources under various tax categories has then been estimated for 2019–20. Using this we obtain a value of ‘revenue per unit’ for coal, oil and natural gas for each revenue category for 2019–20. Assuming that the tax rates and price of these commodities remain the same, we use this revenue per unit to project revenues for the year 2030 and 2040.

We do not include GST paid on inputs, input services, and capital goods (input tax credits foregone) by businesses dealing in the production and distribution of petroleum products which are outside the GST net. These taxes are a small and insignificant percentage of the total revenues from fossil fuels and therefore this absence would not significantly introduce a downward bias. Moreover, some data is available for the financial year (April to March) and some on a calendar year basis, which we treat as the same.

Further, we calculate the total central and state government revenues as a share of GDP in 2019–20. Assuming the revenue to GDP ratio remains constant,^[17] and using the projected GDP for India in 2030 and 2040, we estimate total government revenue for these years separately for central and state, and UT governments. The GDP and overall government revenues for 2030 and 2040 are then used as a denominator to study how the fossil fuel revenues will change over time relative to overall government revenues (Table A1 and A2).

Tables 10A and 10B displays the projections under the base case i.e. Stated Policy Scenario. First, consider Table 10A. While the revenues from fossil fuels are expected to rise (Col 2), the increase is expected to be lower than economic growth. Therefore, as a share of GDP, they are all expected to fall significantly from 3.2 to 1 percent from 2019 to 2040 for the central and state governments combined. Column 4 of the same table shows that for the central government combined tax and non-tax revenues from fossil fuels account for 15 percent of total budgetary expenditures in 2019, and are projected to fall to 10.8 percent and 4.5 percent in 2030 and 2040 respectively. For the state governments, the revenue from fossil fuels as a share of total expenditure was 6.2 percent in 2019 and is projected to fall to 5.4 percent and 2.0 percent in 2030 and 2040 respectively.

We next consider fossil fuel revenues as a share of total government revenues. Column 3 in Table 10B shows fossil fuel revenues as a share of total government revenues assuming nominal GDP growth of 10 percent and constant deficit levels. In other words, the denominator in column 3 assumes that fossil fuel revenue reduction would be covered by some other revenue source. For the central government, 20.8 percent of total revenue came from fossil fuels in 2019: given ceteris paribus assumptions it is projected to fall to 10.7 percent in 2030 and 6.3 percent in 2040. The share is not insignificant even in 2040. For state government, 8.3 percent of total revenue came from fossil fuels in 2019: it is projected to fall to 5.1 percent in 2030 and 2.6 percent in 2040. Note that, although these figures are not directly comparable to Prayas (2021) since these estimates include dividend income and also do not consider renewable and other electricity, for 2019–20 the latter estimated the share of coal, petroleum, gas, and electricity revenues in total revenue receipts for center and state to be 18.8 percent and 9.8 percent respectively. Next, consider Column 4 which uses revenues from all non-fossil sources as the denominator. As is evident not only are the revenue shares higher, their fall would be far steeper if there is no compensation for the revenue loss as implicitly assumed in the previous column, further underscoring the high dependence levels of budgetary revenues on fossil fuels.

Fossil fuel revenues are changing through three underlying forces. First, the composition of energy is changing from those sources that are taxed highly (petroleum) to those that are less so (renewables). Second, aggregate energy efficiency levels are expected to increase and therefore there is a greater increase in output than the energy required. And third, implicitly we have assumed stable prices for energy while we are assuming nominal growth of 10 percent in the GDP. We now look at each of these aspects.

As shown in Tables 8 and 9, in the three IEA scenarios the energy requirement in India changes on two accounts. First, the total energy required changes from 928 in 2019 to 1,235 in 2030 and 1,537 in 2040 in the stated policy scenario. Similarly, the total energy required changes from 928 to 1,152 and 1,521 in India Vison Case and 928 to 994 to 1,147 in the Sustainable development scenario. The energy required in the sustainable development scenario is less than what is required in other the two cases. This difference is driven by the amount of coal required in all three scenarios. The energy loss in the case of coal is much higher than the renewable sources. In the sustainable development scenario, the amount of coal required is less and renewable sources are higher, hence the total energy required is lesser.This highlights the second source of change i.e. the change in the composition of the total energy required in the three scenarios.

Column 5 in Table 10B helps decipher the composition effect. As mentioned, there are two underlying sources of the reduction, (a) the composition of energy sources is expected to change, more towards RE and Natural Gas and less in fossil fuels, and (b) the change in the overall use of energy. Column 5 shows the expected share of revenues due to a change in the distribution of energy sources, keeping total energy use constant at 2019 levels. We calculate how the ratio with revenue changes only taking into account the composition change in Table 10B col. 5. The share reduces from 13.3 percent in 2019 to 5.7 percent in 2030 and 2.3 percent in 2040 (total central and state combined). In this case, the fall is steeper as we are not including the change so account of the total energy requirement. The difference between Columns 3 and 5 is that due to the change in aggregate energy use. Significantly, the bulk of the reduction is accounted for by the changes in composition levels, what we term the composition effect.

It is quite evident that as we move towards greater use of RE, the upward pressure on fossil fuel prices will reduce and there may be a significant reduction in fossil fuel prices. If that were the case ad valorem taxes would yield lower revenues than what we have assumed. Conversely, unforeseeable events including supply shocks could push up fossil fuel prices. We, therefore, look at the base case with a 4.5 percent annual increase, and a 4.5 percent annual reduction in fossil fuel prices (comparable to the 4.5 percent inflation figure assumed in our nominal growth of 10 percent assumption). See Table 10C below.

In the case of 4.5 percent annual change in the price of fossil fuels, the fossil fuel revenue as the share of GDP changes from 3.2 percent in 2019 to 3 percent in 2030 and 1.7 percent in 2040. The fall in revenue as a share of GDP is quite less in the case of 4.5 percent price rise. We also consider a case where the price falls 4.5 percent annually and in this case the share changes from 3.2 percent in 2019 to 1 percent in 2030 and 0.6 percent in 2040 (4 percent scenario in Table A7 and A8 Online Appendix).

To summarize, it is apparent that under the base case and with fairly standard assumptions on prices and growth, we find that revenues from fossil fuels will increase over the next two decades, even if tax rates and the price of fuels do not increase. However, both as a share of GDP and the size of government budgets at both central and state levels, the share of fossil fuel revenues is likely to fall significantly. This is because of the expected growth in fossil-based energy use is significantly lower than expected GDP growth (assumed to be 10 percent nominal and 5.4 percent real annual growth rate). Also, note that compared to current levels, the decline in revenue share from fossil fuels will be far more for the central government than for state governments. And therefore, the impact on fiscal transition will be far more for India’s federal/central government than for sub-national governments. If, however, carbon taxes are imposed, it would be a different story altogether and this is discussed later.

Next consider Table 11, where we compare the base case with other cases. We find that the Sustainable Policy Scenario and the India Vision Case yield similar results with minor differences when compared as a share of total government revenues. The sustainable development case for the year 2030 yields very similar scenarios, this is because by 2030 it is expected in both the scenarios that the consumption of coal will fall significantly but not that of oil and natural gas. As mentioned earlier, per unit of energy, coal accounts for lower revenues than oil and natural gas products. Thus, the base case and sustainable development case have almost similar projections for 2030.

By 2040 however, the differences in outcomes become somewhat better defined as the consumption of oil and natural gas along with coal falls significantly more in the sustainable case in comparison to the base case. The total central and state government revenues from fossil fuels as a share of total government revenues is 4.1 percent in the base case but 3.8 percent in the sustainable development case. In the India Vision Case, however though coal and oil use are significantly lower, the use of natural gas is significantly higher than in the base case. Hence, the calculation shows a higher fossil fuel revenue share due to the high rates of taxation on natural gas.