On the issue of rising retail prices of petroleum products, Union Finance Minister claimed that the current government cannot bring down taxes (and, as a consequence, prices) because it has to pay for the oil bonds issued by the Congress-led UPA government.
What is an ‘oil bond’?
- An oil bond is an IOU, or a promissory note issued by the government to the oil marketing companies (OMCs), in lieu of cash that the government would have given them so that these companies don’t charge the public the full price of fuel.
- An oil bond says the government will pay the oil marketing company the sum of, say, Rs 1,000 crore in 10 years. And to compensate the OMC for not having this money straightaway, the government will pay it, say, 8% (or Rs 80 crore) each year until the bond matures.
- Thus, by issuing such oil bonds, the government of the day is able to protect/ subsidise the consumers without either ruining the profitability of the OMC or running a huge budget deficit itself.
- Between 2005 and 2010, the UPA government issued oil bonds to the companies amounting to Rs 1.4 lakh crore to compensate them for these losses.
Why do the governments issue ‘oil bonds’?
- Compensation to companies through issuance of such bonds is typically used when the government is trying to delay the fiscal burden of such a payout to future years.
- Governments resort to such instruments when they are in danger of breaching the fiscal deficit target due to unforeseen circumstances that lead to a collapse in revenues or a surge in expenditure.
- These types of bonds are considered to be ‘below the line’ expenditure in the Union budget and do not have a bearing on that year’s fiscal deficit, but they do increase the government’s overall debt.
- However, interest payments and repayment of these bonds become a part of the fiscal deficit calculations in future years.