Economists urge adjustments to excise duty instead of putting caps on fuel prices

RIGA - Instead of putting caps on fuel prices, the government should consider adjusting excise duty, bank economists told LETA.

Karlis Purgailis, chief economist at Citadele Bank, said that caps on fuel prices can ease pressure in the short term, but that a flexible adjustment of excise rates would be a much more effective way for Latvia.

The economist argued that any government intervention in free market factors, including price regulation, usually involves more risks and long-term negative effects than short-term benefits, so such actions are not effective in the long run.

"Fuel traders cannot be expected to compensate for the fuel price hikes," said Purgailis, adding that excise duty makes up 25 percent of the diesel price and 32 percent of the gasoline price. Likewise, value added tax (VAT), also plays a significant role, making up 17 percent of the retail price. These two components are under direct state control, and short-term changes can be made to partly offset the sharp rise in fuel prices.

Peteris Strautins, chief economist at Luminor Bank, also told LETA that the government should not put caps on fuel prices because of a number of complementary reasons.

Strautins believes that the state should not create the impression that it will be able to protect the public from all unpleasant events or surprises in all circumstances. "The splurge of public cash during the time of pandemic should remain an exception. The consequences of the public debt growth during the pandemic must now be dealt with," said Strautins.

The economist pointed out that a temporary rise in fuel prices is "a very good antidote to the inertia of thinking". There is currently a lot of anxiety about whether it is only fuel traders who are earning an extra cent in the confusion caused by commodity price volatility, but consumers themselves have the opportunity to cut transport energy costs manyfold by adopting the latest transport technologies.

Strautins said that fuel prices have risen from levels at the beginning of this year, which were the lowest in several years. However, fuel prices relative to people's incomes remain at one of the lowest levels in history.

"When in 2022 fuel prices exceeded EUR 2 per liter, incomes in Latvia were at about two-thirds of the 2026 level. When fuel prices were around one lats or EUR 1.4 in 2012-2013, incomes were well below 50 percent of what they are today," Strautins said.

As reported, the average price of diesel fuel in Latvia's largest fuel station chains has increased by about 20 percent since the escalation of the conflict in the Middle East, while the price of 95-octane gasoline has increased by 5 to 7 percent, according to data compiled by LETA.

LETA also reported that the US-Iran war has pushed up the price of oil.

Economists warn that consumers and businesses around the world could face weeks or even months of rising fuel prices, even if the war were to end quickly, as oil suppliers would struggle to fully restore operations quickly due to damaged refineries and logistics networks, as well as increased risks to the transport of goods.