Oil prices could rise again soon – and bring India's growth engine to a halt

When it comes to oil, India has long had to tread carefully. After all, it imports about 80% of the oil it uses.

This weighs heavily on the economy. In 2012-'13, for instance, the cost of oil imports touched a high of Rs 9.64 lakh crore, prompting the government to scramble to reduce the burden by arresting the rupee’s decline in the exchange markets and encourage consumers to use less fuel.

In 2015-'16, the global slump in oil prices because of oversupply and reduced demand considerably cut India’s payout for oil imports from the previous year. But the fall in prices also drove up consumption, increasing imports.

This could spell trouble for the exchequer as oil prices rise again – the beginnings of which can already been seen.

Market watch

Like most other commodity markets, the global oil market works on speculation about the future, rather than present realities. For instance, oil prices jumped in global exchanges from $46 per barrel to a one-year high of $53 per barrel after Russian President Vladimir Putin on Monday that his country was prepared to join efforts to limit production to manage oversupply in the market and drive prices up.

The Organisation of Petroleum Exporting Countries, an inter-government body that works to regulate the oil market, has been pushing non-member countries such as Russia, a major oil producer, to also cut down on supply.

Earlier in the day, Saudi Arabian Oil Minister Khalid al-Falih, who along with Putin was speaking at the World Energy Conference in Turkey, said that prices could even go up to $60 per barrel “responsible producers” like his country helped balance supply and demand.

Though it is yet to be seen whether Russia, Saudi Arabia and other countries will follow up on these verbal commitments to reduce production, any rise in prices – which is crucial to prevent exporting countries like Libya and Saudi Arabia from going bankrupt – could have serious implications for India.

Though India posted a headline-grabbing 7.6% Gross Domestic Product growth in 2015-'16, growing bad loans, poor job creation and slow industrial growth continue to weaken the economy.

Furthermore, according to the International Monetary Fund, cheaper oil prices contributed significantly to pushing up the country’s GDP in the last fiscal year.

In its annual World Economic Outlook report published in April, the IMF pegged the windfall gain that India received from crashing oil prices in the last two years at a whopping 1.47% of GDP.

In coming months, oil prices is likely to keep rising – even though it will take longer for the market to stabilise – as OPEC meets on November 30 to discuss the need to reduce oil supply.

OPEC is trying to cut production by about 700,000 barrels per day in the next month or two, in the first output reduction in eight years, two years after the prices started crashing from the highs of over $100 per barrel.

Feeling the pinch

India could, in fact, feel the pinch of rising oil prices sooner. The import cost of India’s oil basket, which comprises 73% of sour-grade Dubai and Oman crude oil and 27% sweet grade UK Brent, crossed the psychological barrier of $50 per barrel on Friday.

The effects will first be seen on petrol and diesel prices, which are influenced by global prices and could soon rise steeply.

The country-wide effect on increasing cost of oil imports will have an even bigger impact on businesses and economy as a whole, while also reducing disposable incomes as citizens will spend more for the same quantity of fuel on their daily use and commute.

Need to plan ahead

Among large economies, India gained the most from falling crude prices after Thailand.

The IMF report, however, said that falling oil prices will contribute just 0.44% to India's GDP in the current fiscal year, down from 1.47% last year. Moreover, these estimates do not factor in the possibility of rebound in crude prices, which have now become stronger with the developments since October 9.

“In short, the Indian economy will no longer have the benefit of plunging commodity prices that provided such an impetus to growth last year,” wrote Manas Chakravarty in Mint. “It will therefore have to rely more on domestic sources of growth.”

But this is a scenario for which the country seems ill-prepared, with the Narendra Modi government maintaining that last fiscal’s GDP growth was a result of strong policy and not falling oil prices.

The trade deficit "would start ballooning again, causing the current account deficit, too, to widen”, wrote AK Bhattacharya on rediff.com, calling on the government to plan in advance for the rise in oil prices.