State-run oil firms will raise petrol prices by nearly 5 percent from Friday, a move that eases their subsidy burden but adds near-term pressure to stubbornly high inflation in Asia's third-largest economy.
Hindustan Petroleum Corp Ltd, Bharat Petroleum Corp Ltd and Indian Oil Corp, which dominate fuel retailing in India, said they will increase their petrol prices by 3.14 rupees per litre.
The overall inflationary impact of the price increase is expected to be modest, at between 4 and 15 basis points, economists said. Petrol accounts for just 1.09 percent of the wholesale price index , while diesel, which is much more widely used, has a weight of 4.67 percent.
Oil companies in India have been free since June 2010 to set their own prices for petrol, which is considered a rich person's fuel. Raising the petrol price is politically easier than lifting state-controlled diesel prices, which New Delhi did in June after months of delay.
India has been increasing fuel prices in order to ease its fiscal burden, but doing so is sensitive for Prime Minister Manmohan Singh's ruling Congress party, whose voter base is heavily rural and poor.
Singh's government has been on the back foot over persistent inflation as well as a slew of corruption scandals that have weakened its ability to push through reforms.
It is never a right time in India for a petrol price hike, and what this shows is the government is prepared to take some unpopular decisions, said political columnist Amulya Ganguli.
It has been on the defensive for a long while, and now is realising it cannot sit still and do nothing and must take the economic steps that it must, he said.
Headline inflation in India rose to 9.78 percent for August, data on Wednesday showed, its highest in 13 months, adding to expectations that the Reserve Bank of India (RBI) will raise interest rates on Friday for the 12th time since March 2010.
RBI Governor Duvvuri Subbarao has repeatedly called on New Delhi to improve its fiscal position to help manage inflation over the longer term.
Nitesh Ranjan, an economist with Union Bank of India, said the inflationary impact of the petrol price increase would be minimal and is positive from the central bank's perspective.
In tackling inflation, fiscal policy actions need to be in consonance with the monetary policy, else fiscal deficit will counter the moderating trend in aggregate demand, he said.
Considering the government's rhetoric and today's move, odds for a pause in policy rate has increased, Ranjan said.
The central bank is widely expected to be nearing the end of its tightening cycle.
Indian Oil Corp has lost 11.5 billion rupees ($241.4 million) thus far in the fiscal year that began in April on petrol subsidies, Chairman R.S. Butola told local media.
The recent depreciation of the rupee, which has fallen nearly 8 percent from its 2011 high, adds to the subsidy burden for oil marketing companies.
With this hike, all the under-recovery associated with petrol ends and one can expect no more hikes in petrol in the near future, said D.K Aggarwal, chairman and managing director of SMC Investments and Advisors Ltd.
Brent crude oil traded at over $115 a barrel on Thursday, up over $3 buoyed by a rally in European equities. At $89.4 a barrel, Nymex light crude has risen over 18 percent from a 2011 low reached in early August.
The petrol price increase to about 66.5 rupees per litre comes after a record 5 rupee hike in May.
($1 = 47.640 Indian Rupees)