Lower crude oil led to a cut in CAD, slashed subsidies, narrowed fiscal deficit, lowered inflation
The fall in crude oil prices by over 30 per cent in the last few months has been extremely beneficial for the economy. On an average, we import around 190-200 million tonnes of crude oil which works out to roughly 1,300-1,400 million barrels per annum. Intuitively, on an annualised basis, we will be saving $1.3 billion for every drop in the price of oil by a dollar. A decline of $30 would mean savings of close to $40 billion, which is only the beginning which will get reflected in the trade deficit and current account deficit (CAD).
Our CAD has been under pressure due to high gold imports and crude oil prices. Both have come down, thus leading to a bounty on the external account. Crude oil imports at around $165 billion accounted for a little over 35 per cent of our imports and hence any saving here would prop up the external account. The strengthening of the rupee has been driven mainly by this factor which has also countered the sentiment regarding lower capital flows on account of the possible Fed interest rate hike next year.
The secondary effect comes on the budget in two ways. The first is that the subsidy burden gets tempered automatically as the price comes down with kerosene and LPG subsidy levels declining with unchanged prices of these products. The subsidy was targeted at `64,000 crore for FY15 and given that there was a rollover of subsidy of last year into this year’s budget, the present cooling of prices would provide a lot of support to the subsidy bill and there are few chances of a spillover this year.
The other benefit has been on the overall budget numbers. Lower crude oil prices can be transmitted to lower final product prices of products like diesel and petroleum. However, the government has chosen to retain the price at a predetermined level and has hiked the excise duties to ensure that they do not come down. This way the indirect tax collections have increased which is a major benefit considering that by October, 90 per cent of the fiscal deficit has been exhausted.
The other positive impact for the Modi government has been in inflation. With fuel products having a weightage of around 15 per cent in the Wholesale Price Index, lower prices have directly brought down the inflation rate. The fuel inflation along with food prices were chiefly responsible for high inflation in the last two years or so. With prices coming down the inflation numbers have gotten tempered automatically.
However, the tertiary effect is on monetary policy where the RBI is now more comfortable with the inflationary trends and can really think of lowering interest rates now. In fact an assumption made all through is that crude oil price will continue to remain benign and that after February a rate cut can be seriously considered once the food inflation numbers become clear.
Hence, the decline in crude oil prices has been very fortuitous for the government on all fronts and while there is reason to believe that this trend will be reversed, expectation is that they will remain low at least until the end of our financial year. This makes it easy for the government to do a lot of housekeeping and get the books in order which would not have been the case had prices remained where they are. To the credit of the government, they are not just using this opportunity but also following prudence in other areas to fully leverage this benefit
The fall in crude oil prices by over 30 per cent in the last few months has been extremely beneficial for the economy. On an average, we import around 190-200 million tonnes of crude oil which works out to roughly 1,300-1,400 million barrels per annum. Intuitively, on an annualised basis, we will be saving $1.3 billion for every drop in the price of oil by a dollar. A decline of $30 would mean savings of close to $40 billion, which is only the beginning which will get reflected in the trade deficit and current account deficit (CAD).
Our CAD has been under pressure due to high gold imports and crude oil prices. Both have come down, thus leading to a bounty on the external account. Crude oil imports at around $165 billion accounted for a little over 35 per cent of our imports and hence any saving here would prop up the external account. The strengthening of the rupee has been driven mainly by this factor which has also countered the sentiment regarding lower capital flows on account of the possible Fed interest rate hike next year.
The secondary effect comes on the budget in two ways. The first is that the subsidy burden gets tempered automatically as the price comes down with kerosene and LPG subsidy levels declining with unchanged prices of these products. The subsidy was targeted at `64,000 crore for FY15 and given that there was a rollover of subsidy of last year into this year’s budget, the present cooling of prices would provide a lot of support to the subsidy bill and there are few chances of a spillover this year.
The other benefit has been on the overall budget numbers. Lower crude oil prices can be transmitted to lower final product prices of products like diesel and petroleum. However, the government has chosen to retain the price at a predetermined level and has hiked the excise duties to ensure that they do not come down. This way the indirect tax collections have increased which is a major benefit considering that by October, 90 per cent of the fiscal deficit has been exhausted.
The other positive impact for the Modi government has been in inflation. With fuel products having a weightage of around 15 per cent in the Wholesale Price Index, lower prices have directly brought down the inflation rate. The fuel inflation along with food prices were chiefly responsible for high inflation in the last two years or so. With prices coming down the inflation numbers have gotten tempered automatically.
However, the tertiary effect is on monetary policy where the RBI is now more comfortable with the inflationary trends and can really think of lowering interest rates now. In fact an assumption made all through is that crude oil price will continue to remain benign and that after February a rate cut can be seriously considered once the food inflation numbers become clear.
Hence, the decline in crude oil prices has been very fortuitous for the government on all fronts and while there is reason to believe that this trend will be reversed, expectation is that they will remain low at least until the end of our financial year. This makes it easy for the government to do a lot of housekeeping and get the books in order which would not have been the case had prices remained where they are. To the credit of the government, they are not just using this opportunity but also following prudence in other areas to fully leverage this benefit
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