The reason is that
in the case of the Ukraine war, Russia was a major supplier of oil to the world
and hence tilted the scales on the energy front, as several countries were
dependent on oil and gas from Russia.
Just at the time when
it did seem that the world economy was getting into some sort of nervous
equilibrium against the background of the tariff threat held out by the USA,
the war in West Asia has upset the applecart. Crude oil prices have started
increasing sharply, with Brent going at $75/bbl and poised to go further,
depending on the state of the war. In this context, it is worth examining how
India can be affected, as the impressionist view is that there could be higher
inflation and possible pressure on the budget.
The Israel-Iran war
is more like the Israel-Hamas war and not the Russia-Ukraine war. The reason is
that in the case of the Ukraine war, Russia was a major supplier of oil to the
world and hence tilted the scales on the energy front, as several countries
were dependent on oil and gas from Russia. In the case of Israel-Hamas, neither
had much to do with energy resources, and the only fear was that other nations
producing oil could join the war, which did not happen. However, in the present
situation, Iran is a producer of oil with a share of around 4%. But, there is
an embargo on buying anything formally from Iran, which has been imposed by the
West. Hence, the oil exports from Iran are limited, and that too in a limited
manner to China. Therefore, there is unlikely to be a demand-supply imbalance
on account of this war.
This factor is
critical because when a nation controls a significant supply of a product, any
decline in exports can affect the demand-supply balance, as it is not possible
for others to supply more given the turnaround time involved. With Iran
virtually out of the supply chain, the physical impact would not be there.
However, the prospect of any other country with considerable oil resources
supporting Iran directly can impact these flows. Presently, it does not appear
that the war is likely to spread and will be localised. Hence, the impact as
such will be muted.
Coming to how India
can be affected by this war getting prolonged, the following can be
conjectured: First, the price of oil has gone up for sure but should mean
revert once the war ends. Here it is hard to say when the battle will be done,
as the Ukraine war has been on for almost 30 months. But even in that case,
prices did correct after three months or so, and hence, the effect was not
long-lasting. That said, India has been importing from Russia a little over 2/3
of its requirements at a discounted price. Therefore, the full cost will not
have to be borne, as the imported cost will tend to be lower than the global
price.
Second, even in case
crude oil prices remain higher at the level of $70 or $80 plus per barrel,
consumer inflation may not be affected. The reason is that the fuel prices at
the retail end in the country have remained unchanged through different cycles.
Higher global prices have been absorbed by both the government and oil
marketing companies. At the same time, the lower price benefit has not gone to
the consumer but is shared between the government and OMCs. Hence, this policy
has turned out to be prudent and will buffer against any price rise.
At the wholesale
level, prices will increase, and the WPI index will show an increase but will
not matter from the point of view of monetary policy. The WPI includes products
like motor spirit, high-speed diesel, kerosene, naphtha, and aviation turbine
fuel, among others. These prices would tend to increase and can have secondary
effects on users of these products other than the retail end. The ATF price can
have a bearing on airfares and freight rates, provided it becomes more
permanent in nature.
Third, higher crude
oil prices will affect the import bill, and given that the US tariff regime
will be working against the growth in exports, there will be some pressure on
the trade front. On the positive side, higher prices of crude will also mean
higher realisations on the export of petro products. The net result could still
mean some pressure on the rupee, which will mean more oversight from the RBI to
control volatility. But any impact of a weaker rupee will work in favour of
pushing exports at the margin, as India competes with other Asian countries in
areas such as textiles, chemicals, precious stones, and electronics, among
others.
Fourth, the impact on
the budget will be quite insignificant. This is so because ever since the
prices of petrol and diesel were decontrolled, there is a limited subsidy being
given by the government. Presently, it is largely for LPG where prices are
being revised periodically. Therefore, the pressure on the subsidy bill on
petro products would not be there. The fertiliser subsidy can increase if
global prices go up in the case of natural gas.
Fifth, one area which
would be a concern will be in the logistics space, as shipping and insurance
costs could increase on this score. There are possibilities of the Strait of
Hormuz being closed by Iran to some degree, which will increase the time
involved as well as the cost for moving goods, especially oil. This is
something that can affect the entire world and cannot be ignored.
On the whole, the direct
impact of the war could be limited, though the government and the RBI need to
be watchful on the economic side, as markets can be whimsical. So far, it has
been business as usual, but one can never tell.
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