Crude Oil Prices and its Impact on Indian Economy

By Dr. Sachin Mittal, Associate Professor of WSB

Oil is not only using for energy and transport purpose, but also used for many other purpose. It is a kind of a product which is consumed by almost every person in the world directly or indirectly. Therefore, all the market and economical experts always concerned about the crude oil price movements in international market. Once again all the experts are worried because international benchmark for global oil prices crossed the $65/barrel in May 2019. In May 2018 it was around the $80/barrel as compare to the $29/barrel price during early 2016. India is an oil importing country, therefore, price fluctuation in crude oil has a great impact on various segments of the Indian economy. This article highlight the five major segments that are affected by the changes in crude oil prices:

Impact on Fiscal Deficit: India approximately import 1.5 billion barrels of crude oil each year. This is approximately 85% of our annual requirements. Hence, increasing in the crude oil prices always increase the India’s expenditure and therefore, increase the fiscal deficit. Fiscal deficit is the difference between government’s total revenue and total expenditure. Fiscal deficit indicates the amount of money the government has to borrow to meet its expenses. A rise in fiscal deficit could negatively affect the economy as well as markets. According to a report of Kotak Securities the fall in crude oil prices was a major contributing factor in the reduction of India’s fiscal deficit between 2014 and 2016.

Impact on Current Account Deficit (CAD):  The rise in crude oil price has a major impact on the Indian Current Account Deficit (CAD). CAD can be measured as total value of imports minus total value of exports. CAD essentially indicates how much India owes the world in foreign currency. India is highly dependent on import of crude oil. As per the statistical data of govt. of India, net imports of crude oil have increased from 132.78 MTs during 2008-09 to 220.43 MTs during 2017-18. There has been an increase of 3.04% in the net imports of crude oil during 2017-18 over 2016-17 and this is expected that this trend would be continued.

Impact on Rupee Exchange Rate: The value of Rupee depends on its demand in the currency market and demand of the Rupee depends to a great extent on the current account deficit. A high deficit means the country has to sell rupees and buy dollars to pay its bills. This reduces the value of the rupee. Hence, a rises in oil prices has a negative impact on rupee value. On 29th May 2019, RBI reference rate for USD-INR is 69.43 and according to a report by Bloomsburg rupee is further to extend to depreciate by the year end due to continuous increasing in oil prices.

Impact on Stock Market: Many researcher have studied the relationship between crude oil prices and stock prices. Some of the researcher have found that there is a reverse correlation between oil prices and stock prices whereas, some studies concluded that there is no relationship between crude oil prices and stock prices. Traditionally some studies concluded that an increase in oil prices will raise input costs for most businesses and force consumers to pay higher prices which affect negatively their savings and also reduce the profitability of corporates. The opposite should be true when oil prices fall. Therefore, there is a negative correlation between crude oil prices and stock prices. Recently it has been observed that when crude oil prices touched $80/barrel, BSE mid cap and small cap indices have drop by nearly 8%.

Impact on Inflation: Oil is a very important commodity and it is required to meet domestic fuel needs for passenger vehicles as well as for goods carrier vehicles. In addition to that, it is a necessary raw material used in a number of industries. This includes tyres, lubricants, footwear, refining and airline companies. The profitability of these companies is adversely affected due to higher input costs. This price rise would finally be passed on to consumers resulting in inflation. According to a report of Kotak Securities an increase of $10/barrel in crude oil prices could raise inflation by 10 basis points (0.1%). On the other side, oil marketing and exploration companies in the country could benefit from a rise in oil prices.