Policy should continue for long time to attract good quality FDI
ISLAMABAD: A new oil refinery policy is at advanced stages of consideration. Old refineries are getting uneconomic and redundant. Product mix in the local market has changed and new product specifics such as Euro-V have been introduced. This requires BMRE or new investments with a new policy.
A good feature of the oil industry is that it does not create liabilities for the government such as “take-or-pay”, which is there in the power sector. However, it should provide revenue to the government, which is well deserved and deserves government attention, however, without undue concessions.
20-year tax holiday
The main issues are highly liberal 20-year tax holiday, 10% margins over international prices, elimination of all taxes and levies during the construction phase, relocation of old refineries, etc.
Most development literature argues against providing such long tax holidays on corporate earnings. This is the only benefit which host countries get and if it is waived, what is the net rationale.
Tax holidays deprive social sectors of the much-needed investment. It is said that foreign direct investment (FDI) decisions are primarily based on basic project viability and political circumstances.
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FDI would come in if feasible with or without tax holidays. The oil industry is a major revenue earner in almost all advanced countries. Only one dollar per barrel tax on a 100,000 barrel-per-day (bpd) oil refinery would yield government revenue to the tune of $35 million per year and $700 million over the 20-year period. With four or five refineries, it would be an enormous loss of around $3.5 billion. After that period, demand and revenue may go down due to lower demand possibly.
Other non-tax motivations of FDI could be strategic, forward and backward linkages, employment, self-reliance, technology, etc. On all these counts, oil refineries have very little to offer. There is very little crude oil to be utilised. Comparatively, very little employment is created, neither there are local inputs that are employed nor is there any forward linkage forming raw material inputs for other industries eg textile, agriculture, etc.
There is hardly any self-reliance either, as crude oil would be imported any way.
As to the strategic dictates, all loss-making businesses have one thing in common – these are defended on strategic grounds. This has been misused for justifying loss-making and unviable projects.
Investments in many other sectors and SMEs do have much larger impact on the economy. However, one would not mind oil refinery investments, if there are at least corporate income tax benefits.
A 10% higher price advantage over international prices has been offered, which in itself is a very major concession and to top it all liberal tax holiday, robbing both the government as well as people. If projects are not viable, so be it. All other miscellaneous taxes and duties on construction inputs and services have been waived, which would enable capital expenditure (capex) at international cost. Cheaper labour would be an added advantage.
Falling oil demand
A primary question that comes to one’s mind is that are oil refineries, which last 30 years or so, are really required in view of reducing oil demand and introduction of electric vehicles (EVs)? In advanced countries, at least, there would be significant inroads into EVs and oil demand is expected to go down. In the developing world, however, EVs’ penetration may be modest and oil demand may even increase with development. Some oil refineries in the developed world may become redundant, may be closed down and may try to relocate their operations to the developing parts of the world. Oil producing countries may also try to lock long-term sales opportunities through investments in oil refineries abroad. Currently, there is abundant competitive trade and availability of imported petroleum products.
Who needs investment? It would come on its own, unless we are unnecessarily difficult.
Relocation of refineries
As has been mentioned earlier, due to falling oil demand in the advanced countries, a good opportunity for relocation to developing countries would emerge and is already evolving.
Time and cost would be saved by import of such equipment. Most of Pakistan’s industrial development has taken place on used equipment as is the case elsewhere in many parts of the world. If the investment is foreign and all capital is foreign, what is the risk in allowing old refineries when both product specs and environmental standards criteria are met.
Opportunities in oil terminals
Large-sale petroleum imports, whether in the form of crude oil or finished products, would remain in place and both import and inland terminals would be required. Reportedly, there is shortage of storage capacity and terminals, as more demand would be created.
More and more unviable oil refineries are being converted into oil terminals, both in the developed and developing countries. There are a lot of common facilities of loading and unloading, blending, storage, water treatment, market linkages, etc.
Smaller unviable oil refineries may be allowed to be converted into oil terminals. OMCs should be able to buy such projects. Some policy elements may have to be added in this regard.
Strategic reserves
Existing local rules for reserves requirement are for two weeks of consumption. IEA recommendation is for three months. However, their methodology includes all kinds of purchases and storages even abroad.
Strategic storages are established by big international powers like the US, Russia, China and even India. India has been successful in attracting other countries’ reserves and did not have to buy on its own. The reserves are owned by foreign oil producer countries. However, India has some rights and privileges to buy and use.
For Pakistan, investing in oil storage other than current provisions would not be financially viable. There should be an effort to get existing rules implemented. For large refineries, added requirements may be considered. We always try to buy current requirements on credit and have often to pay a political cost.
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However, the strategic oil storage policy for foreigners may be developed and FDI in such storages may be encouraged.
Concluding, there is a need for a continuing policy on oil refinery investments. Undue advantages are sought by investors (such as tax holidays and others) when government shows more eagerness.
The policy should continue for a long time in order to attract as much good quality FDI as possible. Imports are meeting the requirement, providing high quality products at competitive prices and will continue to do so.
Current petroleum prices in Pakistan despite taxation are quite low as compared to the region and outside of it. The policy should avoid any provision that may not be implemented, eg provision on competition in the retail market.
It is a complicated issue. Uniform pricing issues are involved and have a strong political dimension.
While import and wholesale prices are already internationally based, the issue is of only Rs10 or more of distribution margins. If somebody hopes that competition would result in lower prices, he may be sadly disappointed. Prices would certainly increase. We will discuss it in detail at a later opportunity.
The writer is former member energy of the Planning Commission and author of several books on the subject
Published in The Express Tribune, May 3rd, 2021.
