FUEL MARKING

There are problems in the OIL INDUSTRY. One is oil smuggling and second, fuel fraud.

  1. OIL SMUGGLING

According to ADB report, the Philippines, due to fuel smuggling, has adulterated fuel products in its supply chain. According to experts, this costs the country as much as $750 million annually in tax revenue.[1]

The report further disclosed that oil smuggling is a global phenomenon and the global financial losses are significant amounting to tens of billions of dollars every year.[2]

How is this oil smuggling done? Countries that subsidize their fuels are susceptible to losses due to their low-priced fuels exiting to other countries with fuel prices aligned with international market prices.[3]

For example:

  1. Countries with fuel subsidies such as Bangladesh, Indonesia, and Malaysia are particularly vulnerable to financial losses due to their relatively low diesel prices. Their low-priced fuels are smuggled to countries that charge international market prices, depriving governments of the intended benefits of providing subsidized fuel.[4]
  2. The Kingdom of Saudi Arabia, where diesel sells for approximately $0.06 per liter, compared to more than 15 times that price in the neighboring United Arab Emirates (UAE). Smugglers cross the Saudi border into the UAE with documents showing they are carrying legal loads of hydraulics and used oil. However, their fuel tankers are often loaded with a mixture of legal oil products and illicit diesel, frequently in proportions of up to 26 tons of illicit diesel mixed with up to 4 tons of legal oil products.[5]
  3. In Venezuela, diesel retails for approximately $0.05 per liter—significantly below the average South American price of $0.85 per liter. As a result, Venezuela also loses significant amounts of fuel that is smuggled into neighboring countries such as Columbia, Ecuador, Guyana, and Honduras.[6]
  4. In 2002, BBC reported that fuel fraud is one of the fastest growing parts of the black market – costing UK taxpayers up to a billion pounds a year. Now it has become one of the major sources of money for the paramilitaries in Northern Ireland. Illegal fuel is all about evading duty, and most of the fraud is on diesel.[7]
  5. In the same report, BBC also revealed that it is in Northern Ireland that the problem of fuel fraud is most acute because there are around two thirds of garages are selling illegal fuel.[8] In another report regarding the largest fuel-laundering plant ever uncovered in County Armagh in Northern Ireland, John Whiting of HMRC in Northern Ireland said the diesel-laundering plant had the potential “to evade almost £3.2m in revenue every year”.[9]
  1. FUEL FRAUD

Another problem faced by the oil industry is what we FUEL FRAUD. What Constitutes Fuel Fraud? There are two: 1) Fuel adulteration, and 2) Fuel dilution.

How is FUEL ADULTERATION DONE? Fuel adulteration is done by adding subsidized or tax-exempt fuel to the same type of unsubsidized fuel or mixing with less expensive smuggled fuel.[10] On the other hand, fuel dilution is done by mixing lower grade fuels or solvents with domestic fuels.[11]

Adulteration[12]—is also a common problem in countries that offer significant arbitrage opportunities due to varying tax rates and/or subsidies for one type of fuel or solvent compared to other oil products. Unfortunately, this subsidization provides the opportunity to use the lower-priced kerosene as an adulterant in more costly, nonsubsidized diesel and gasoline products, creating problems.[13] Criminals have devised methods to remove the dyes and markers and divert the “laundered” fuel back into normal supply chains.[14] In Northern Ireland for example, fuel launderers evade taxes by removing dye from red diesel, which is cheaper than regular diesel and is intended only for off-road agricultural use.[15]Launderers become smugglers also by transporting adulterated fuels across national borders into countries with less favorable subsidization programs.[16]

 Problems caused by fuel adulteration

Governments are deprived of a percentage of tax revenue on the higher-priced fuels in proportion to the adulteration rate.[17]

Estimated Annual Tax Loss by Country from Fuel Laundering

  • Greece[18] €1 billion Euro
  • UK[19] £750 million GBP
  • Poland[20] $1 billion USD equivalent
  • Ireland[21] €150 million Euro

 

  1. The diversion of the subsidized fuel benefits criminals, rather than the targeted beneficiaries, resulting in wasted government spending.[22]
  • Causes harm to the environment by replacing quality fuel with adulterants or waste byproducts, resulting in[23]:
    1. Increased fuel consumption hence increased fuel emissions
    2. Increased greenhouse gas emissions that worsen air pollution.
    3. Illegal fuel-laundering plants often indiscriminately dump waste products in the countryside, causing additional environmental damage.[24]
  1. Diminishing engine performance and lifespan, leading to increased spending on vehicle maintenance.[25] Substandard fuels even have the potential to reduce engine efficiency and cause engine damage.[26] For instance, when launderers filter the fuel through chemicals or acids to remove the government marker, the chemicals and acids remain in the fuel and damage fuel pumps in diesel cars.[27]
  2. Oil and gas companies also feel the effects of fuel fraud and smuggling in the form of reduced profits, increased liability issues and brand erosion.[28]

THE SOLUTION

Given those identified problems that beset the oil industry, what solution/s can be put in order to remedy such challenge.

  1. WHAT: COMPREHENSIVE FUEL-MARKING PROGRAM
    1. To combat fuel fraud, governments use a variety of fuel markers and dyes to differentiate subsidized or tax-exempt fuel. Many countries require the addition of specific dyes to subsidized fuels by law, allowing questionable fuel to be rapidly tested for adulteration or dilution with subsidized fuel. The test often involves extraction with an acidic aqueous solution resulting in a characteristic color change, and is effective down to concentrations of a few percent.

Fluorescent dyes are also used as a more covert method of fuel marking. They are not obvious to the human eye, can be added in even lower concentrations, and often require a specialized spectrophotometric detection system.

While these methods may prevent the amateur from committing fuel fraud, they do not deter the more serious criminal. Fuel dyes can be removed or degraded through chemical processing, heating or the addition of an adsorbent material. The “laundered” fuel is then sold on the black market or via mobile pumps at a significant profit.

Laundered fuel may not show a color change that is obvious to the human eye, but measurement with a spectrometer can often detect residual dyes. The greater sensitivity of spectroscopic detection also enables the use of lower concentrations of markers, reducing the cost to government and increasing the difficulty of effective fuel laundering.[29]

Traditional fuel dyes offer a front-line defense against fuel fraud, but better techniques are needed to assist governments in pinpointing its origin. That’s where fuel markers come in., fuel marking technology has been developed. Once the markers are added to the fuel, the markers are highly resistant to removal by criminals and they can be detected using analyser technology like the gas chromatography–mass spectrometry (GC–MS). By using this advanced technology of molecular markers and sophisticated management systems, it will result in timely, actionable intelligence, allowing governments to mitigate tax evasion and subsidy abuse, minimize financial losses, and raise revenues.[30]

Fuel markers are chemicals that can be added to fuel at its point of origin, each with a unique signature that can be sensed only by proprietary readers capable of detecting multiple markers within the same sample. This allows fuel of different grades, taxation status, or supply origin to each be identified with its own marker. Fuel suppliers often team with governments in establishing fuel marking programs as a method of ensuring brand protection and supply chain security.

 

If added at the refinery and tested at multiple points on its route to the consumer within a comprehensive fuel monitoring system, fuel markers can be used to trace the movement of fuel and pinpoint the location within the supply chain at which fuel fraud occurs. When fuel retailers are held accountable for the authenticity of the fuel they sell through litigation or de-branding, the rate of fraud drops and illegal traders can begin to be identified. When border officials have an effective means of validating the authenticity and integrity of non-subsidized fuels, they can reduce the prevalence of smuggling.

 2. HOW TO PROCEED WITH THE SOLUTION:

    1. Reveal the quality and condition of the downstream fuel supply chain by examining its every stage, beginning with[31]
      1. the country’s refineries or fuel depots
      2. wholesale depots
  • the transport network (including trucking firms and pipelines)
  1. how petroleum products are sold at the retail level.
  1. Provide safeguards into every phase of the process.[32] How?
    1. By putting security measures directly into the different types of fuels. This requires marker[33] and analyzer technologies.
      1. Marker technologies – done by blending an invisible marker with the fuel at very low concentrations—often measured in parts per billion.
        1. Kinds of Fuel Markers
          1. simple colored dyes
          2. unique covert markers
            1. g. putting a second layer of security by adding an additional molecular marker
          3. analyzer technologies
            1. gas chromatography–mass spectrometry (GC–MS) technology[34]
          4. How to secure the fuel marking program’s integrity?[35]
            1. Regular audits for process compliance to ensure the program is being managed transparently thereby keeping program’s integrity[36]
            2. Efficiently and effectively linking these elements into a comprehensive operational program guarantees overall program integrity.[37]
            3. long-term commitment by multiple government agencies, including key executives from the departments of energy, finance, customs, transportation, and law enforcement.[38]
            4. support from both state-owned and independent oil companies[39]
            5. should be administered as a management system by an independent organization[40]
            6. certified to international process integrity standards such as those of the International Organization for Standardization[41]
            7. Provide a national operating infrastructure for a full chain of custody, complete traceability, and quality assurance of the marker from storage in a bonded warehouse, to secure distribution, and on-site storage at each distribution terminal[42]
            8. Proper management of fuel samples to assure the integrity of the chain of custody for all samples taken[43]
            9. deployment of a laboratory information management system assures that all samples are properly and uniquely labeled, tracked, and processed in a consistent and repeatable controlled environment, providing greater confidence in the integrity of the program[44]
  1. HOW MUCH? (COST)
    1. 7-0.9 centavos/liter

According to Joel Fischl, Asia Managing Director for Authentix, one of the global leaders in the fuel marking business, their best estimate for the cost of a program in the Philippines is approximately 7-9 centavos a liter based on the work they did in the past for the Philippine Government, and on their experience in many other countries providing fuel marking programs.[45]

  1. Fuel marking will increase the fuel cost
  2. Plus, the Finance Department recommended in its comprehensive tax reform package an increase in excise tax on fuel from the current P4.35 to P10 per liter of gasoline and P6 for diesel products

 THIS IS A HUGE INCREASE!!! But before you SCREAM.

 What should be done to cushion the impact of this price hike? Offset by targeted subsidy programs especially the poor.

  1. The government is studying a plan to provide fuel subsidies to the poor to reduce the impact of higher excise tax on petroleum products. The Finance Secretary of Finance cited data showing that of the 20 million families in the Philippines, about 2 million families or 10 percent were consuming 60 percent of the oil. He said 200,000 of the top income families in the Philippines were consuming 20 percent of oil supply in the country. Dominguez said the proposed tax reform would involve granting targeted subsidies, similar to the cash allowance given to 4Ps [Pantawid Pamilyang Pilipino Program], to the people who needed support to offset the possible increase in value added tax and excise tax on oil products.[46]

 

  1. THE BENEFITS OF FUEL MARKING
    1. Bring down smuggling and deterring illegal trade in fuel and fuel adulteration with substandard products
    2. Bring up revenue and ensuring that government bodies and regulators are able to collect the appropriate amount of revenue from excise taxes on fuel
    3. Protecting vehicles by ensuring the correct quality of fuel resulting in efficient fuel consumption and optimal engine performance
    4. Mitigate environmental pollution and facilitating environmental protection measures

TAILPIECE

DON’T SUBSIDIZE[47] OIL PRICE: WHY?

Prior to RA 8479[48], the Energy Regulatory Board took into account the dollar cost of imported crude oil and the foreign exchange rate, and fixed prices of petroleum products. A budgetary allocation maintained by the national government called the Oil Price Stabilization Fund (OPSF) automatically absorbed any price change incurred by the oil companies in importing crude oil, which is not reflected in the selling price.[49]

The effects of a regulated oil industry were:[50]

  1. Changes in the world prices of oil and foreign exchange rate were not immediately reflected in the domestic prices. Any large adjustment in oil prices made it difficult for businesses and consumers to adjust quickly, thereby causing disruptions.
  2. Cross product subsidization[51]created imbalances in the demand and supply of petroleum products. Diesel was priced significantly lower, encouraging higher consumption and resulting in a shift in the use from gasoline to diesel.
  3. Oil companies experienced delays in margin recoveries since any price adjustments would still require public hearings.
  4. Entry of new investors was discouraged, thereby minimizing competition

 (Other effects of a regulated oil industry)[52]

  1. OPSF deficit bloated the public sector deficit and public debt
  2. Government provided P17.6B in subsidies to OPSF from 1990 to 1997
  3. Oil subsidy displaced more important government expenditures which could have been spent equivalent to:
  • Free rice for 17.6 months to the poorest 30% of the population below poverty line
  • 62,241 schoolhouses
  • 5,280 kms of rural roads
  • 146,080 deep wells for drinking water or
  • 2 light rail transit lines
  1. Shifted petroleum price increases from direct heavy consumers to ordinary taxpayers
  2. Provided more subsidy to the highest income groups and middle class with cars and air conditioning (92.8%) compared with lowest quintile (7.2%)
  3. Poorest of the poor who walked to work got none
  4. From 1991 to 1995, contributed to:
    • 26% of the 60% rise in traffic volume
    • 33 M liters increase in gasoline consumption annually (Pushed up imports of crude oil by 15% equivalent to an estimated 7M barrels amounting to US$100M. This amount should have been used to purchase capital goods for new factories that would have generated 34,650 new jobs)
    • Additional 78,000 tons of carbon dioxide emissions annually
    • Additional 1,100 tons of nitrogen oxide emissions annually
    • Congestion and slow traffic in Manila streets

HENCE the DOWNSTREAM PETROLEUM INDUSTRY DEREGULATION[53] in 1998 which brought about the abolition of petroleum product subsidies, liberalization of imports and entry of refiners & importers; restructuring of petroleum taxes to tax less products consumed by the low-income groups.[54]

The deregulation of the local oil industry was done in two phases: partial and full deregulation.

In the partial deregulation phase, oil importation was liberalized and the automatic pricing mechanism was implemented. In the full deregulation phase, controls on oil price setting were similarly lifted, the foreign exchange cover was removed, and the OPSF was abolished.

There are four major reasons why the oil industry was deregulated:[55]

  1. To stabilize and provide reasonable prices,
  2. To encourage competition,
  3. To encourage investments, and
  4. To remove cross product subsidies.

The RESULTS OF PETROLEUM INDUSTRY DEREGULATION[56]

  1. More competitive pricing (selling margins dropped)
  2. More players (from 3 to 16)
  3. Petroleum consumption growth (3.1%) dropped below real GDP growth (3.3%) from 1997-2012 (vs 7.9% & 3.4%, respectively, from 1984 to 1997)
  4. Had favorable impact on conservation, development of alternative fuels, and environmental protection

SO WHAT DO WE DO whenever there are steep increases in petroleum prices (50% or so), we adopt:[57]

  • Targeted, temporary subsidies for public utilities & lifeline users of electricity
  • Subsidies funded by “excess” revenue collection

 

ENDNOTES:

[1] ADB, Fuel-Marking Programs: Helping Governments Raise Revenue, Combat Smuggling, and Improve the Environment, Governance Brief, Issue 24, 2015, p. 1.

[2] Ibid.

[3] Ibid.

[4] Ibid.

[5] Id. p. 2.

[6] Ibid.

[7] http://news.bbc.co.uk/2/hi/business/3086941.stm

[8] Ibid.

[9] http://news.bbc.co.uk/2/hi/uk_news/northern_ireland/8389523.stm

[10] http://oceanoptics.com/authentication-fuel/

[11] Ibid.

[12] The process of making impure by adding inferior materials or elements. (http://www.dictionary.com/browse/adulterate)

[13] ADB, Fuel-Marking Programs, p. 2.

[14] http://www.tracerco.com/product-assurance/fuel

[15] http://www.bbc.com/news/uk-northern-ireland-30104476

[16] http://www.tracerco.com/product-assurance/fuel

[17] ADB, Fuel-Marking Programs, p. 2.

[18] 2015 Deputy Finance Minister of Greece Policy Statement

[19] 2013 Bloomberg Report

[20] 2014 Polish Organization of Industry & Trade Report

[21] 2013 Grant Thornton Illicit Trade in Ireland Study

[22] ADB, Fuel-Marking Programs, p. 2.

[23] Ibid.

[24] Fuel laundering not only results in lost revenue for the state, but also damages the environment, as toxic waste is often dumped in rural areas, leaving local authorities to pick up the bill for waste removal. (http://www.bbc.com/news/uk-northern-ireland-30104476). “Indiscriminate dumping of the by-products from the laundering process can cause severe damage to arable land and our water systems, as well as taxpayers and local ratepayers having to pay for the cleanup and disposal costs.” (http://news.bbc.co.uk/2/hi/uk_news/northern_ireland/8389523.stm)

[25] ADB, Fuel-Marking Programs, p. 2.

[26] http://oceanoptics.com/authentication-fuel/

[27] https://www.gov.uk/government/news/new-marker-to-tackle-fuel-fraud

[28] Ibid.

[29] http://oceanoptics.com/authentication-fuel/

[30] ADB, Fuel-Marking Programs

[31] ADB, Fuel-Marking Programs

[32] ADB, Fuel-Marking Programs

[33] NB. every fuel-marking program is different e.g. a country may choose to deploy a “national marker” program, indicating that all taxes have been fully paid on fuels. Fuel marker serves as a “chemical tax stamp.” But how secure is the marker to be resistant launder?

[34] In the event of a failed field screening, this allows for a subsequent sample to be taken to a laboratory for further forensic analysis, which can definitively identify the existence of the fuel marker. This assures full compliance with the higher standards of admissible evidence required by most legal systems.

[35] ADB, Fuel-Marking Programs

[36] ADB, Fuel-Marking Programs

[37] ADB, Fuel-Marking Programs

[38] ADB, Fuel-Marking Programs

[39] ADB, Fuel-Marking Programs

[40] ADB, Fuel-Marking Programs

[41] ADB, Fuel-Marking Programs

[42] ADB, Fuel-Marking Programs

[43] ADB, Fuel-Marking Programs

[44] ADB, Fuel-Marking Programs

[45] Email sent October 10, 2016 by Mr. Fischl.

[46] http://thestandard.com.ph/business/214056/govt-studying-plan-to-give-fuel-subsidy.html

[47] Oil Price Stabilization Fund (OPSF) for the purpose of minimizing frequent price changes brought about by exchange rate adjustments and/or changes in the world market prices of crude oil and imported petroleum products. The Fund herein created shall be used for the following: 1) To reimburse the oil companies for costs increases in crude oil and imported petroleum products resulting from exchange rate adjustment and/or increase in world market prices of crude oil; 2) To reimburse the oil companies for possible cost underrecovery incurred as a result of the reduction of domestic prices of petroleum products. (EXECUTIVE ORDER NO. 137, January 24, 1986)

[48] An Act Deregulating the Downstream Oil Industry and for Other Purposes (February 10, 1998)

[49] Ms. Ma. Teresa D. Caparas, Oil Deregulation, PIDS, Economic Issue of the Day, Feb. 2000, issue no. 2.  http://dirp4.pids.gov.ph/ris/pdf/pidseid0002-feb.pdf

[50] Ibid

[51] Cross product subsidization means that the price of premium gasoline was higher than warranted in order to keep the price of diesel lower. Implicitly, regulation favors diesel product over gasoline

[52]USec. Gil S. Beltran, Petroleum subsidies in the Philippines [PowerPoint Presentation] https://www.iisd.org/gsi/sites/default/files/ffs_gsibali_sess3_beltran.pdf

[53] Republic Act 8479 entitled “Downstream Oil Industry Deregulation Act of 1998” approved on February 10, 1998, the Philippine government effectively reduced its control on oil-related pricing activity and trade restrictions.

[54] http://dirp4.pids.gov.ph/ris/pdf/pidseid0002-feb.pdf

[55] Ibid.

[56] USec. Gil S. Beltran, Petroleum subsidies in the Philippines [PowerPoint Presentation] https://www.iisd.org/gsi/sites/default/files/ffs_gsibali_sess3_beltran.pdf

[57] Ibid.

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