All the cuts will be effective from midnight, as clarified by Dr. Hasmukh Adhia, finance secretary.
They follow in the footsteps of at least five other states which have cut value-added taxes over the last month.
While Rs 1.5 will be reduced in the excise duty, Oil Marketing companies will absorb Rs 1 reduced in price.
The Congress also claimed the move was just a "panic reaction" by the Narendra Modi government against people's anger.
The cut includes a reduction in excise duty of 1.50 rupees per litre, which will reduce government revenue by 105 billion rupees, Jaitley said. What Jaitley did on Thursday was to increase that squeeze and make it formal.
India is the third largest importer of crude oil and rising global oil prices are inflating domestic transport fuel costs in a strong demand environment. In an oblique reference to the opposition parties, Jaitley said it will be a test for those states whose leaders were only tweeting and indulging in lip sympathy.
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The state of Karnataka, who earlier slashed fuel prices by Rs 2, will not be announcing any more cuts.
However, very soon, the prices can be reduced by Rs 5 as well!
"Ever since the Modi government assumed office, it has raised excise duty on diesel by Rs 14 and petrol by Rs 9 per litre".
The fuel prices had been going up every day for last few weeks, burning a hole in people's pockets. Of this, IOC's share would be roughly half and the rest split equally between HPCL and BPCL.
Brent crude oil hit $86 per barrel on Wednesday, recording its highest level in 4 years.
Rupee Thursday dropped to 73.77 against the dollar, resulting in expensive crude imports. The centre now levies a total of Rs 19.48 per litre of excise duty on petrol and Rs 15.33 per litre on diesel.
Maharashtra charges the highest sales tax and VAT on petrol at 39.12 per cent.
After the centre's announcement, Maharashtra Chief Minister Devendra Fadnavis announced a cut in petrol prices by Rs 2.50 per litre. "The government's aim is to give relief to the consumer by increasing their purchasing power without impacting the fiscal deficit", he said. "So the impact will be Rs 10,500 crore in current fiscal which is only 0.05 per cent of fiscal deficit".