ANALYSIS - In China, India, higher fuel prices not yet high enough

NEW DELHI/BEIJING Thu Jul 2, 2009 6:05pm IST

Cars queue up at a petrol station in Kolkata July 1, 2009. REUTERS/Parth Sanyal

Cars queue up at a petrol station in Kolkata July 1, 2009.

Credit: Reuters/Parth Sanyal

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NEW DELHI/BEIJING (Reuters) - At some point, the theory goes, Chinese and Indian consumers will begin to feel the pain of rising fuel costs, adjusting their habits to use less gasoline, just as motorists from Japan to America have done.

But even after a pair of surprise prices hikes this week, taking Chinese pump rates to their highest ever and elevating the cost of gasoline well above relatively cheap American petrol, officials and analysts are agreed: we're not there yet.

The economic expansion of the world's two most populous nations underpins the base case for medium-term oil bulls who believe $70 a barrel is only the beginning, but the question of demand "elasticity" -- whether fuel use contracts in the face of higher prices -- could call those forecasts into question.

For the moment, however, that danger appears minimal, even after both countries upped pump prices by as much as 10 percent this week, moves that provoked shrugs rather than anguish even amid the worst global recession in decades.

"Even if oil prices double, it won't affect my driving at all," said 33-year-old Shi Yun, a Beijing local newspaper editor. "Fuel is only a tiny bit of my living expenses and my life wouldn't work without driving."

S. Behuria, chairman of Indian Oil Corp, India's top oil retailer, said any impact wouldn't last more than a day or two.

With car ownership soaring and wealth increasing at a clip that largely overshadows fuel costs, industry watchers see few drivers willing to idle new cars for overcrowded public transit.

"There is little possibility of people avoiding use of petrol- or diesel-driven private transport due to the lack of adequate alternative options in public transport," said Amitendu Palit, an economist at the National University of Singapore.

The 180,000 respondants in an online survey by Chinese website Sina.com are all talk and no action, say experts: 90 percent of them said they would drive less after prices went up.

"The Chinese driving public is not sensitive to oil prices," said Zhou Yibing, a veteran oil trader based in Guangdong in southern China. "Unlike the United States, where the auto market is very developed and cheap second-hand cars are available everywhere, China is not a country on wheels."

DISMANTLED SUBSIDIES, MORE TO COME

Part of the limited response to higher prices may be psychological: consumers have been protected so long by subsidies that many may see little danger of paying ever higher prices.

But that is changing now, as the most recent price hikes show, with both China and India working to turn their heavy-handed state-run price regimes into responsive systems that support economic growth without encouraging wasteful use or opening up yawning price gaps with global markets.

India's Finance Ministry called on Thursday to end to controls on prices of diesel and gasoline, with mitigating measures when oil rises above $80 per barrel, and more details on liberalisation are due in next week's budget.

China introduced its pricing system at the start of the year, aiming to curb fuel wastage by having local fuel prices loosely track global crude oil fluctuations.

Price mismatches have strained the economy, caused smuggling and forced the payment of huge subsidies to state-run refiners.

Both countries need to face up to the problem because the oil price has been rising and their growing economies are increasingly dependent on imported crude oil.

So both governments are likely to be glad at how smoothly the market accepted the transition to higher fuel prices, although they may be daunted by fact that such a big and sudden rise made so little difference to fuel use.

"More price rises could come if the latest one proved to have not hurt consumption too much," said an analyst at China Petroleum and Chemical Industry Association. "I think this price rise mainly shows that the authorities are very determined to put the new oil pricing mechanism in use."

At the same time, both have opted to make the transition gradual: officials in both countries say price rises have not kept pace with the doubling in global prices since February.

And many consumers, such as farmers and public transport, get subsidies to help with fuel costs.

For both countries, the trick this year may be simply to acclimate nearly 2.5 billion people to the idea that the market -- not their government -- will be setting their prices. Only then may motorists begin to see the incentive to conserve.

"I think what the authorities want to do is to keep the ball rolling with the new pricing mechnism, instead of leaving it idle," said Deng Yusong, a senior researcher at DRC, a cabinet think-tank in Beijing.

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