What is the impact of increasing oil price on Indian Economy
Created on 18 Sep 2019
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Updated on 12 Oct 2020
Crashing industries, falling markets and increasing commodity prices… Have the skyrocketing oil prices started showing adverse effects already?
The consumer price inflation of India has been well under 4% and was at 3.21% in August 2019.
This was the highest it has been for the last ten months. But, could the gradual increase be a signal of the looming inflationary forces in the Indian economy since it is in the middle of a slowdown with a six-year low GDP growth rate?
Reference from Past Events & Present Status of Oil Supply
We can draw parallels from the past events of the Iranian Revolution of 1979 and Iraq’s invasion of Kuwait in 1990 that can explain the current situation in the best way. In both cases, India suffered. A similar situation that occurred recently is rising oil prices for India.
The drone attacks on Saudi Aramco’s facilities, are the biggest ever disruption in the supply of oil. This will surge oil prices worldwide. However, Saudi Aramco has reassured India that it will keep up with already existing contracts regardless of the production issues.
What impact will it have on the Indian Economy?
A gain in crude oil prices could exacerbate the slowdown in the economy. It would intensify India's fiscal situation and make it difficult for the government to take measures to tackle the downturn in the growth of the economy. The following effects are expected because of the increasing oil prices:
- It will lead to higher import bills with an increase of around Rs 10,700 crore annually.
- Further, India’s current account and fiscal deficits can become worse if oil prices spike further.
- It might lead to an increase in inflation, and that will leave RBI with no other option but to reduce interest rates to combat with slowdown. Every 10% increase in crude oil prices will make the inflation soar by 20 basis points.
- The various applications of petrochemical products will act as a catalyst in increasing inflation. Higher oil prices will affect energy-intensive manufacturing industries and will reduce the profit margins of airlines.
- A rise in crude oil prices can increase the demand for the dollar, which will further affect the rupee-dollar exchange rate.
- The current financial year has witnessed an import of 4.5 million barrels per day (MB/D) of crude oil by India between April 2019 and July 2019. It has already reduced by 0.1 MB/D, as compared to the same period in the financial year 2019. The reason behind the drop was the US sanctions on Iran. Whatever profits come in from the reduced consumption; will also get washed out because of the rising oil prices.
Current Observations from the market
The Brent crude futures soared almost 20% to $71.95 per barrel. Traders are expecting that the oil prices might go beyond $100 mark just like in 2008. The cost of the Indian crude was $47.56 and $56.43 per barrel in FY 2017 and FY 2018, respectively. This year on September 13th, 2019, the cost of the Indian basket of crude was $59.35 per barrel.
On September 17th, 2019, Sensex tanked 642 points due to the increase in oil price. The market is bearish, and the indices fell over 1% as crude oil prices continued to soar after the drone attacks on Saudi Aramco oil establishments.
More than 15% resurgence in oil prices since September 17th, 2019, combined with the significant depreciation in the rupee since the beginning of this year, might be pointing out at inflation trying to make a comeback. Financial markets are hinting at the possibility of further falling of the rupee and higher rise along with both equity and debt markets facing a struggle even though the RBI and the government have been battling the slowdown with multiple policy measures.
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