A price cap on fuel is better than a tax on windfall profits

Further reducing excise duties on diesel, as the Meloni government is doing, risks throwing money away. But even taxing refiners’ windfall profits, as proposed by PD secretary Elly Schlein – whilst it may be fair from a redistributive perspective – would not in itself serve to reduce prices at the pump. It could also weaken incentives to invest in refining capacity, one of the reasons why margins are so high today. It is now clear that the cut in diesel excise duties has not been passed on in full to consumers. Data from UNEM allows us to break down the price of a litre of diesel into three components: the cost of the raw material, the gross margin and taxes. Following the excise duty cut, a significant portion of the tax reduction was absorbed by increased margins. In the week following the measure, despite a tax reduction of 17 cents, the price at the pump fell by just over 5 cents. In the following week, the cost of the raw material fell, but the gross margin rose again, leaving the final price essentially unchanged. To understand why, we need to look at how fuel prices are formed: the price of crude oil plus the refining margin plus logistics and distribution costs plus taxes.

The key point is that the price of diesel does not depend solely on the price of crude oil. The benchmark for refined products is the Platts market, which measures the wholesale price of petroleum products (petrol and diesel). When refining capacity is insufficient to meet demand, the price of refined products can rise much more sharply than the price of crude oil. The difference between the value of the refined product and the cost of crude oil is known as the ‘crack spread’, a measure of the gross refining margin. In recent months, this spread has risen to exceptional levels. It is therefore possible for the price of crude oil or excise duties to fall whilst the price of diesel at the pump remains high because the refining margin increases. In response to this situation, a tax on so-called windfall profits is often proposed. However, taxing refiners’ windfall profits does not prevent prices from rising. The state can levy a portion of these exceptional gains and use the revenue to reduce excise duties or compensate consumers. Yet the wholesale price continues to be determined by the market for refined products. Rent is redistributed without addressing the mechanism that causes the high price.

Italy has already experimented with a tax of this kind in 2022. The Draghi government introduced a one-off levy on the excess profits of energy companies, including oil operators. The rate, initially set at 10 per cent, was subsequently raised to 25 per cent. The problem was measuring excess profit quickly. Waiting for the following year’s financial statements would have meant collecting the revenue too late. Furthermore, accounting profit can be reduced through costs, depreciation, intra-group transactions and other accounting choices. For this reason, an immediately observable proxy was chosen: the increase in the balance between input and output VAT compared with the same period of the previous year. It was a quick solution, but an imperfect one. An increase in the VAT balance does not necessarily correspond to an increase in profit: it may result from changes in prices, volumes or the structure of the business. For this reason, the levy was strongly contested and challenged by many energy companies, even though the Constitutional Court did not declare it unlawful. That tax could recoup part of the exceptional profits, but it did not intervene in the price-formation process. It did not reduce the Platts price or the crack spread.

For this reason, a different tool would be more appropriate: a market correction mechanism modelled on the 2022 European gas price cap. In the summer of 2022, the price of gas on the TTF exceeded 300 euros per megawatt-hour. However, simply setting a price cap could have driven LNG carriers towards Asia. The European Union therefore adopted a mechanism that would have been triggered if the price on the TTF had exceeded 180 euros per megawatt-hour for three working days and remained at least 35 euros above an international LNG benchmark. Once activated, no orders above the international LNG price plus that differential would have been accepted. It was therefore not an absolute administered price, but a dynamic cap on the European premium, designed to prevent exceptional price deviations without compromising Europe’s ability to attract gas.

The same principle can now be applied to fuels. It would make no sense to set the price of petrol or diesel by law: this would risk further reducing supply. Instead, a dynamic cap could be introduced on the spread between the price of the refined product and the cost of crude oil – that is, the refining margin – triggering only when it consistently exceeds exceptional levels. The price would thus continue to fluctuate in line with Brent crude and the international market, but the passing on of extraordinary margins at the pump would be limited.