Graphic by Naveen KUmar Saini/Mint
Graphic by Naveen KUmar Saini/Mint

Why higher crude oil prices are more problematic for India now

  • India is vulnerable to sharp crude price increases as it imports most of its oil requirements
  • Every $10 per barrel increase in crude price leads to a $12-14 billion rise in current account deficit annually

The rebound in oil prices was swift last week. However, it must be said that Brent crude prices at about $65 per barrel are still 7% higher than on 13 September, the day before Saudi Arabia’s oil infrastructure facilities were attacked.

Analysts say that an increased geopolitical risk premium is built into the price now.

It’s important to note that these disruptions have happened at an inopportune moment. Considering that the current increase in prices is driven by supply side issues, the pain could be more this time around.

“For a demand-driven rise in oil prices, the macroeconomic cost to net oil importers—especially in small, open economies—can be cushioned by stronger exports," said analysts from Nomura Global Markets Research in a report on 16 September.

The broker added: “However, when the rise in oil prices is driven more by supply-side factors —as is the case currently—it tends to be more damaging to large net oil importers because, in the absence of a strong pickup in exports, the higher import cost of oil could sharply worsen current account positions, compress profit margins and, to the extent that firms pass on higher production costs, raise CPI inflation."

As a massive crude oil importer, India has always remained vulnerable to sharp increases in crude prices.

According to Anubhuti Sahay, head of economic research, South Asia, Standard Chartered Bank: “For a net crude oil importing country like India there is a very clear impact on the current account deficit (CAD). Every $10 per barrel increase in crude price leads to $12-14 billion increase in CAD on an annual basis. Plus, there are other problems. Portfolio inflows get discouraged to come to countries that are vulnerable to oil prices." Additionally, higher crude prices tend to adversely affect inflation.

The unprecedented gains in crude oil prices have come at a time when the global economy is already grappling with the adverse impact of a trade spat between the US and China, and manufacturing activity is sluggish, points out Sugandha Sachdeva, vice-president, Religare Commodities Ltd.

Given the recent jump in oil prices, plus the increase in geopolitical risk in the region, growth may be hit further, say analysts.

Of course, it’s still not clear where oil prices will settle. While Saudi Aramco has said supplies will be restored soon, analysts say they will be closely tracking the measure.

“For prices to increase to beyond $70 per barrel now, you need evidence that Aramco is not able to restore supplies as quickly," says Somshankar Sinha, head, India equity research, Jefferies India Pvt. Ltd. “While official output figures will only come with a lag, the markets should be able to gauge that progress sooner than that from the grades that Aramco would offer for October loadings and beyond," he adds.

Saudi Arabia’s promptness in reassuring the markets helped a great deal in comforting anxious investors. After all, the drone attacks impacted 5-6% of global oil supplies. On Tuesday, the oil giant assured that it will restore the entire output it had to suspend due to the attacks at Abqaiq and Khurais by the end of September. Not surprisingly, oil prices have rebounded.

As such, it goes without saying that the outlook for prices will depend on how soon supplies are restored. “The key is the amount of time it takes for Saudi Arabia to normalize or credibly demonstrate that it can normalize production," said analysts from JPMorgan in a report on 16 September. “How geopolitics gets affected by the reaction to this attack will also play a significant role. In particular, if it takes three months for production to normalize then the price increase could be as high as $27 per barrel," JPMorgan added.

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