The monetary policy committee of the Reserve Bank of India revised its projections of consumer price inflation for the current financial year to 6.7 percent, a full percentage point higher than its April estimates, as inflation became more widespread and posed a risk of climbing higher. This was the second revision in its projection for the current year after it had estimated the inflation at 4.5 percent in the post-budget February policy.
Elevated commodity prices, revisions in electricity tariffs, continuing trade and supply chain bottlenecks and rising pass-through of input costs to retail prices of manufactured goods and services were seen to pose upside risks to inflation. The committee has assumed that the Indian basket of petroleum crude will average $105 a barrel during the year and monsoons will be normal. Here’s a close look at three key risks to inflation from imports.
Soaring petro prices
The RBI’s assumptions on oil price movement appear rather conservative compared to the projections of analysts at investment bank Goldman Sachs. Certain members of the Organisation of the Petroleum Exporting Countries (OPEC) such as the United Arab Emirates (UAE) have also warned that crude oil prices are likely to trend higher in the months ahead as demand grows.
The Indian basket has averaged more than $105 so far this financial year. It was nearly $110 in May, rising from $103 in April. It was about $118 a barrel for the first ten days of June, as Brent crude climbed to $120. The Indian basket is a blend of Oman and Dubai average and Brent dated, with the latter contributing about 25 percent. The Omani and Dubai crude were trading at $111-119 a barrel during June.
Goldman Sachs has projected that Brent will rise to $140 a barrel in July-September and stay elevated as rising demand outstrips supply. It expects crude to average $135 a barrel between July 2022 and June 2023. Prices climbed this week even after the OPEC and its partners committed to boosting supplies in July and August.
Analysts are not the only ones to project higher prices for crude. The Energy Minister of the UAE Suhail Al-Mazrouei recently warned of further increases in oil prices when demand from China returns. He also said that OPEC and its partners might not be able to match supply with the rising demand and that the lag was already 2.6 million barrels a day.
If international crude oil prices climb as projected, the Indian basket is also bound to climb close to those levels, requiring the RBI to revise its estimates. Every $10 increase in crude oil price increases CPI inflation by about 50 basis points. Consumers may get relief only if there is more reduction in taxes on petrol and diesel. The RBI has suggested a reduction in states’ value-added tax on the two fuels to soften inflationary pressures.
Power from imported coal
Faced with the prospect of electricity blackout due to a shortfall in supplies of coal from Coal India and other domestic sources, the Union government directed power generating companies to blend imported and domestically procured coal. A deadline of June 15 was set for beginning the blending process.
The global prices of coal – thermal and coking – shot up as demand soared when nations lifted lockdowns imposed around April 2020 to slow the spread of the virus. In the current calendar year, thermal coal prices climbed from under $140 a tonne to $440 when Russia attacked Ukraine. Prices have cooled from the peak to about $330-395 a tonne.
Imported coal is way more expensive than domestically sourced coal and so its increased usage can force power prices upwards. The All India Power Engineers Federation has said that the rise in the use of imported coal would increase electricity tariff by Rs 0.70-1 per unit for the current financial year.
News reports suggest that NTPC, which is importing about 6.25 million tonnes of coal, may raise tariffs by 50-70 paise. The state-owned and private generating companies can raise tariffs only with regulatory approval. However, they have been allowed to charge a compensation tariff. These may be passed on as quarterly fuel surcharges.
Edible oil supply shortfall
India is the largest importer of edible oils in the world – about 55-60 percent of the country’s demand is met from imports. Palm oil, soyabean oil and sunflower oil are the key edible oils imported by India.
The output and availability of edible oils are subject to the vagaries of nature, availability of labour and national policies. The war in Ukraine had sent the already elevated oil prices higher forcing countries such as Indonesia, the largest producer of palm oil, to adopt protectionist measures. The availability of sunflower oil plunged with the onset of the war, as Ukraine and Russia are the chief producers and exporters.
The output of soyabean in Brazil in the recently concluded harvest was about 10 percent lower than last year and yields were about 11 percent below trend, as southern Brazil faced a drought due to the second consecutive year of the La Nina phenomenon. Brazil is the largest producer of soyabean, with Argentina and the US the other leading producers. Overall, the global output of soyabean was estimated to have increased from the last year’s levels and that had a cooling effect on prices.
However, there are indications that the La Nina might appear again this year, although three consecutive appearances are rare. That might affect the crop in the next season and put pressure on prices to climb higher. Soyabean oil prices had climbed to about $0.91 a pound by the end of April and have cooled to about $0.82, which is still above the pre-war price of about $0.69.
Palm oil prices have also cooled from the 52-week high of about $8,760 a tonne to about $6,600, which is quite close to the pre-war prices. They were about $4,000 a tonne a year ago and around $5,000 at the beginning of the calendar year. Loosening of export restrictions by Indonesia might allow the prices to drift lower from the current level.
However, a shortage of labour could affect palm oil output in Malaysia, the second-largest producer. Foreign workers, mostly from Indonesia, make up about 80 percent of the workforce in Malaysia palm plantations, but Jakarta cancelled plans to send migrant workers to its neighbouring nation earlier this month. While measures are being taken to bring workers from other countries, there could be a short-term disruption in supplies.
Any diversion of edible oils for blending to produce biofuels will also put pressure on prices to rise higher, given that the global edible oil supply continues to remain tight. The new mandate on blending by the US Environmental Protection Agency, for instance, may increase the demand for soyabean oil for blending.
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