Low fuel price bad for economics

NAIROBI: The Energy Regulatory Commission (ERC) will yet again most likely cut fuel prices sometime late this week or early next week, the fifth reduction since late last year, on the back of falling international oil prices.

The recent decline in global oil prices is a windfall for domestic consumers but is taking pump prices to as low as possible a good thing for the economy?

While these cuts will be good for the consumers, they are not necessarily in the long-term interests of the country.

The government must decide at some point that it is more important to focus on the macro-economic picture than making the middle class happy.

Given the prevailing market view that crude oil is poised to remain weak for at least a couple of years, now is the time to start raising fuel taxes and levies.

We have to remember that structural shifts in oil prices, especially downward movements, don't come very often and they should not be wasted.

The windfalls should be put to work rather than frittered away. We need to decide a minimum level for fuel prices and impose taxes to ensure that these levels are maintained.

Many countries are now reviewing their energy policies and raising fuel taxes given the current low oil price environment to raise needed government revenues and to also manage petrol and diesel price volatility.

Increasing taxes and levies on fuel would have a number of positive effects; First, it would ensure that fuel demand does not rise too sharply because consumption is encouraged by low prices. Our petrol prices are already lower than most major oil-importing countries like us.

This is because the excise duty and other levies amount to slightly over a third of the current retail price of petrol and diesel; considerably lower than most countries where it accounts for at least more than fifty percent of the retail pump price.

And probably one of the reasons why we have more gas-guzzling mostly imported second hand SUVs in Nairobi than you would see in any other country in the region.

The price of fuel, and petrol in particular, should therefore be driven not just by the global oil price but also by the need to encourage people to use it economically.

We shouldn't encourage wasteful consumption. Which means keeping the prices high at a certain level via taxation

Second, the taxes and levies will provide revenues to fund vital social infrastructure. Our old and creaky transportation infrastructure is a significant drag on the economy.

Massive public infrastructure investment that expands economic capacity is the best hope for shaking the economy out of its current low-growth.

We cannot rely on foreign and domestic debt alone to raise the level of infrastructure funding the economy requires.

Even if half of the gains due to the recent decline in oil prices were to go straight to consumers' wallets, the other fifty percent could be used to rebuild the nation's transportation infrastructure and leverage private financing for infrastructure.

There is, of course, those who would argue that we need the lowest fuel prices possible as this would help growth.

Whereas this is true to a certain extent, only a sustainable price fall rather than a flash in the pan kind of fall is likely to achieve this objective.

Lastly, The tax and/or levy increase may come in handy in the event of a sharp spike in global oil prices.

In such a situation, the government may offset the rise in fuel prices by cutting down taxes and levies and thus cushioning consumers from a price shock.

If fuel prices are allowed to go down too much, it may be politically volatile for a government to remain indifferent when the prices shoot up suddenly.

If the energy regulator has cut prices five times in five months, what will it do when this trend reverses? Increase the pump price every other month?

The National Treasury should be a little more creative. The excess taxation during the low price regime may as well save the day for the government if and when oil prices start to rise.

It could impose trigger points to remove the tax if oil prices rose back to a certain level. That way the government will insulate ordinary wanainchi from the volatility of the oil market.

The ideal way forward is to pass on the benefits of cheaper oil to consumers by a half now and pass on the other half when the prices spike.

With the current low oil price, the political pain of increased fuel tax and levies may not be so great, and if Kenyans can be convinced that the revenue raised is being used to make meaningful improvements in their lives, it ends up being one of those rare win-win situations.

The time to make the gain is when there is no pain. And that time is now. One caveat though - the government should earmark the revenues raised directly to infrastructure and fuel stabilisation accounts rather than letting it go into the Consolidated Fund where the usage is unknown!