Oil prices continue to surge over fears of supply disruption as Russia faced collective sanctions from the US and allies following its invasions of Ukraine.
On March 2, Brent crude futures rose by as much as $8 and touched $113.02 a barrel, the highest since June 2014, before easing to $111.75, news agency Reuters reported. Such elevated prices have wide ramifications for India, given that about 85 percent of the crude processed by domestic refiners is imported.
High prices can put upward pressure on inflation, increase the cost of inputs for various industries, make transportation expensive, raise the import bill and lead to deterioration of the current account.
The Economic Survey of 2021-22 had flagged the risk of imported inflation, arising from elevated global energy prices but the Budget for 2022-23 and the Reserve Bank of India’s monetary policy committee have taken a relatively benign view on crude oil prices—they have estimated that it would average $70-75 a barrel this year.
The free-on-board (FOB) price of the Indian basket of crude on February 16 was $94.68 a barrel. The Indian basket is a blend of the average of Oman and Dubai, or the sour grade, and Brent dated, or sweet grade.
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Petrol and diesel prices have not been revised since the Centre reduced excise duty on the two fuels on November 3, 2021 and state governments slashed the value-added tax soon after, though crude fell in December from November levels and rose sharply in January.
The FOB price of the Indian basket of crude imports fell to $73.30 a barrel in December from $80.64 in November and climbed to $84.87 in January.
Retail prices of petrol and diesel look set for a sharp upward revision in early March when polling for five state assemblies ends.
Higher prices will increase transportation costs for passengers as well as freight. A rise in freight cost has second-order effects— it will increase prices of everything from vegetables to manufactured goods and thus put upward pressure on the consumer price index.
A higher cost of freight will increase costs for manufacturers. Several inputs used in a range of industries are derived from crude and they will also rise. These include inputs for manufacturers of paints, tyres, engineering plastics, packaging, cables and hoses.
Additionally, the cost of generating power for units that use crude derivatives such as naphtha, petroleum coke and furnace oil as feedstock will surge.
As costs rise and margins are squeezed, companies will continue to pass the increased input costs to consumers. The rise in costs experienced by manufacturers will reflect in the wholesale price index.
The transportation sector will see its operating costs rise. The airline companies have already experienced four fortnightly rises in aviation turbine fuel prices in the current calendar year. The railways will also see its operating costs climb on sectors where trains are hauled by diesel power locomotives.
For households, liquefied petroleum gas (LPG), prices could rise. The price of non-subsidised cylinders was last revised in September in Delhi and retails at about Rs 900.
Fatter import bill
Given that about 85 percent of the crude processed in the country is imported, India’s import bill is set to climb.
The country imported crude worth $85.54 billion in the first nine months of the current fiscal, up 121.1 percent from the same period of the last financial year.
The import bill rose mostly due to the rise in prices of crude. Global crude prices were depressed for a large part of the calendar year 2020 owing to a sharp fall in demand after countries around the world locked down their economies during the first wave of the pandemic.
Crude oil accounted for a little under 20 percent of the import bill till the end of December. Volume growth of crude oil imports at 156.51 million metric tonnes was small – about 9 percent.
Compared to the pre-pandemic year of 2019-20, the import bill was about 12 percent higher but the volume of imports was about 7 percent lower. For the full financial year, the value of imports may rise to the levels of 2018-19 when crude oil worth $114 billion came into the country.
On the positive side, high global oil prices will benefit India’s petroleum product exports. India exported petroleum products, chiefly diesel, worth $46.3 billion in the first nine months of the current financial year, recording a 163 percent growth.
Petroleum products are the top export items from India, accounting for 15 percent of the earnings in April-December 2021.
Rising crude imports have already contributed to the widening of the trade balance. The commerce ministry has provisionally estimated the merchandise trade deficit in April-January at $159.87 billion compared to $75.87 billion for the same period of last year and $141.21 billion of 2019-20. Thus, the trade deficit is already 13.2 percent higher compared to the corresponding period of 2019-20.
The crude oil import averaged $44.82 in 2020-21 compared to $60.47 in the pre-pandemic year. Import prices have stayed above the 2019-20 levels almost all through in the current year.
If crude prices continue to stay elevated and imports continue to rise, the trade deficit would widen further and impact the current account balance.
In the first half of the current fiscal year, India reported a current account deficit of 0.2 percent of GDP or $3 billion after recording a deficit of $9.6 billion.
Rating agency ICRA’s chief economist Aditi Nayar in a commentary on trade data wrote that the current account deficit was expected to widen to $26-29 billion in October-December 2021 before easing back to $15-17 billion in January-March 2022.
India reported a small current account surplus of about 0.9 percent of GDP in 2020-21 against a current account deficit of 0.9 percent in 2019-20.
Fiscal deficit worries
Elevated prices of crude oil can also impact the Centre’s fiscal deficit in the current year as also the calculations for the next year if the finance ministry decides to lower excise duty on petrol and diesel to soften the blow of high prices for consumers.
It can also be impacted if the government decides to subsidise cooking fuels once again for poor households. The government has not been bearing subsidies on LPG cylinders since May 2020.
State governments may also be forced to lower the value-added tax on the two fuels, particularly if the Centre moves to lower excise duty. Any reduction in duties by the Centre and states may lower their tax revenues.