Will Government Intervention In Commodity Markets Be Effective?

Over the weekend, the government has modified import and export duties on iron and steel, amid high inflation. The move was aimed at loosening the tight domestic supply-demand scenario for steel in the country. While India is not facing a supply shortage by any measure, the export of excess steel products would mean that the demand-supply scenario remains tight – resulting in higher prices in the country.

The imposition of export duties would make exports uncompetitive, while cuts in import duties would reduce the input costs of steel companies that are dependent, in part, on imports.

The export duty on iron ore and concentrates were increased from around 30 per cent to 50 per cent, while the export duty on pellets was increased to 45 per cent. Previously, there were no export duties applicable for pellets. Apart from iron ore, other key inputs in the steel-making process such as coking coal, PCI coal, and ferronickel had their import duties cut in order to make imports less costly.

In addition, the government increased the export duty on finished and semi-finished iron and steel products to 15 per cent. These products had no export duties previously. The products include flat-rolled products of stainless steel of width greater than 600mm, bars and rods of stainless steel, angles, shapes and sections of stainless steel, hot-rolled, in irregularly wound coils, of other alloy steel.

The stocks of some Indian steel companies declined more than 10 per cent after news of the government’s move came in - indicating that investors are unimpressed with the government’s decision. While the steel body has welcomed the move to remove import duties, it has opposed the move to impose export duties on goods.

Steel prices had already been cooling down with lower demand from China, and expectations of lower growth as global central banks attempt to rein in inflation. The metals industry, including steel majors, had already announced CapEx plans. But in the current scenario, the future could remain uncertain for players.

The Engineering Export Promotion Council of India has said that the engineering goods sector would benefit from the move. The organisation expects the prices of steel products would fall 10 per cent for primary producers and 15 per cent for secondary producers. The real estate sector is expected to see a decline in expenses as well, with the cost of inputs declining due to the government’s intervention.

According to a report, the prices of steel TMT bars had declined by around 8.77 per cent to trade at Rs 52,000 a tonne on Monday (23 May) while it was trading at Rs 57,000 on the previous day. The decline indicates that the government’s move has been effective in reducing the prices of steel in India.

The government has been taking similar steps to reduce inflation that has surged globally. In order to reduce the upward pressure on prices, the government reduced the excise duty on petrol and diesel by Rs 8 per litre and Rs 6 per litre respectively. Another subsidy of Rs 200 for the beneficiaries of Pradhan Mantri Ujjwala Yojna has been announced as well.

In addition, companies that have been unable to pass on cost increases to consumers will be relieved as well. Some reports have suggested that similar measures would be implemented on rice as well. The rise in the wholesale price index has been running ahead of the rise in the consumer price index, indicating that businesses are reluctant to pass on cost increases to consumers - possibly fearing lower business volumes.

The stocks of sugar companies have fallen as investors feared lower profits for these companies. Given the cyclical nature of the business, these companies usually make large profits during commodity upcycles while making losses, or breaking even during downcycles.

In contrast to much tougher steps taken to keep commodity prices under control previously, the government has remained quite lenient in the current scenario. Possibly, if the situation gets tougher we could see stricter action being taken on both the exports and internal movements of critical commodities.

However, the flip side of reducing duties would be lower revenues for the government leading to a higher deficit for the fiscal. It has been indicated that the decrease in petrol’s excise duty would result in a Rs 1 lakh crore annual revenue in tax revenue for the government.

Similarly, the subsidy for gas cylinders would reduce revenue by Rs 6,100 crores. The duty reduction for steel inputs would also contribute to a revenue loss of around Rs 20,000 crores. The government is expected to borrow to make up for the decline in revenues.

The Reserve Bank of India has already said that it will keep increasing rates to tame inflation that was previously seen as transitory. While the government’s efforts towards reducing cost pressures on ordinary citizens are commendable, the help has a side effect in the form of a higher fiscal deficit.

The government has already planned to increase the spending on infrastructure and other sectors in order to lift the economy - and a loss of revenue at this point can be painful. Raising money at higher interest rates to make up for the higher deficit could drain the government’s finances as well.

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