Global Economics

FORTUNE INSTITUTE OF INTERNATIONAL BUSINESS

BATCH-(2019-21)
INDIVIDUAL ASSIGNMENT

Impact of Crude Oil Prices on the Indian Economy!

SUBMITTED TO- SUBMITTED BY-

Dr. Amiya Mahapatra Akash C Mathews
Roll no. 19PGDM006
 Abstract

The requirement of crude oil has been increasing at a rapid pace which has made
India dependent on crude oil imports. The basic price of crude oil is always lesser
the import taxes make it more costly for a common man. The price of petrol or
other related products increases accordingly which results in increase in
expenditure of a common man. This paper given an insight into the present state
of crude oil imports and an attempt has been made to explain the importance of
reducing the crude oil imports in order to improve the living standards of a
common man.

INTRODUCTION

Crude oil is a naturally occurring, unrefined petroleum product composed of

hydrocarbon deposits and other organic materials. A type of fossil fuel, crude
oil can be refined to produce usable products such as gasoline, diesel and
various forms of petrochemicals. It is a non-renewable resource, which means
that it can't be replaced naturally at the rate we consume it and is, therefore, a
limited resource.
Although it is often called "black gold," crude oil has ranging viscosity and can
vary in color from black to yellow depending on its hydrocarbon composition.
Distillation, the process by which oil is heated and separated in different
components, is the first stage in refining.

Crude oil is the base for lots of products. These include transportation fuels such
as gasoline, diesel, and jet fuel. They also include fuel oils used for heating and
electricity generation. In 2017, the United States consumed 7.3 billion barrels of
crude oil. Of that, 47% went to motor gasoline, 20% went to heating oil and
diesel fuel, and 8% to jet fuel. When the hydrocarbons burn, they release the
heat that formed them. They also release carbon dioxide.

Crude oil also creates petroleum products, according to the U.S. Energy
Information Administration. When combined with other chemicals, oil is the
base for over 6,000 items. Petroleum by-products make tar, asphalt, paraffin
wax, and lubricating oils. It is also used in chemicals, such as fertilizer,
perfume, insecticides, soap, and vitamin capsules.
Why is everyone so concerned about crude oil prices all of a sudden?

That’s because the global crude oil prices have been steadily rising over the past
few months. For the first time since 2014, the international benchmark for
global oil prices crossed the $80/barrel mark in May 2018. Compare this to the
$29/barrel price during early 2016! This sudden surge in prices has a great
impact on various segments of the Indian economy.

India is the world’s third largest Oil importing nation and world’s seventh
largest economy. It is a major looser in the case of rising Crude price and a
beneficiary in the event of falling Crude prices. The pace at which the economy
is growing, increases the need of the country to import more and more of crude
oil to meet the country’s industrial as well as domestic requirements.
Every $10 per barrel rise in the price will worsen India's fiscal balance by 0.1%
and current account balance by 0.4% of GDP, according to estimates of global
financial services major Nomura. The average oil prices forecast by the IMF to
be about 12 percent higher in 2018-19, which will crimp real incomes and
spending—assuming the increase is passed on into higher prices, rather than
absorbed by the budget through excise tax reductions or by the oil marketing
companies,” the Economic Survey 2018 said. And if higher oil prices require
tighter monetary policy to meet the inflation target, real interest rates could
exert a drag on consumption.

A surge in crude oil prices threatens to stoke inflation, derail earnings growth of
companies, and hurt India’s economy in the year ahead. With Brent crude at a
six-month high, it poses a clear risk to India’s fiscal health. Inflationary
pressures may also prompt the Reserve Bank of India (RBI) to rethink the pace
of interest cuts.

Prime Minister Narendra Modi may have set a target to cut India's oil import
dependence by 10 per cent but the country's reliance on foreign oil for meeting
its energy needs has jumped to a multi-year high of nearly 84 per cent, latest
government data showed. Speaking at the 'Urja Sangam' conference in March
2015, the Prime Minister had said that India needs to b
ring down its oil import dependence from 77 per cent in 2013-14 to 67 per cent
by 2022 when India will celebrate its 75th year.

The country's oil consumption grew from 184.7 million tonnes in 2015-16 to
194.6 million tonnes in the following year and 206.2 million tonnes in the year
thereafter. In 2018-19, demand grew by 2.6 per cent to 211.6 million tonnes.

State-owned Oil and Natural Gas Corp's (ONGC) output fell to 19.6 million
tonnes in 2018-19 from 20.8 million tonnes in the previous year.

According to PPAC, India spent USD 111.9 billion on oil imports in 2018-19,
up from USD 87.8 billion in the previous fiscal year. The import bill was USD
64 billion in 2015-16.

For the current fiscal, it projected crude oil imports to rise to 233 million tonnes
and foreign exchange spending on it to marginally increase to USD 112.7
billion.

India’s crude oil imports rose to a 4-month peak in August, while fuel oil
imports climbed to the highest in more than eight years, data from the oil
ministry’s Petroleum Planning and Analysis Cell (PPAC) Imports of oil
products jumped by about 23.2% from a year earlier, while those of naphtha,
generally used as a solvent to dilute heavy crude oil, rose to their its highest
since April 2018.
 Top Factors That Affect the Price of Oil
Crude oil prices are also incredibly sensitive, changing quickly in response to
news cycles, policy changes and fluctuations in the world's markets, and price
drops and spikes can send global exchanges into a tizzy. Oil prices took a
downward journey beginning in the middle of 2014 when it was trading around
$105 per barrel. Since that peak, prices have dipped under $30 per barrel, but
have since traded around the $70 level for much of 2018.

These overall shifts in pricing depend on many of the factors outlined below:

Supply
For several decades, the Organization of Petroleum Exporting Countries
(OPEC) has been the elephant on the world's trading floors, with its oil-
producing member nations working together to determine prices by boosting or
reducing crude oil production. While OPEC's grip on the market has loosened
some in past years, its decisions continue to play a dominant role. OPEC's every
move is watched closely by governments, oil companies, speculators, hedgers,
investors, traders, policymakers and consumers.
OPEC's policies are affected, in turn, by geopolitical developments. Some of the
world's top oil producers are politically unstable or at odds with the West
(issues pertaining to terrorism or compliance with international laws, in
particular, have been problematic). Some have faced sanctions by the US
and UN. In the past, supply disruptions triggered by political events have
caused oil price to shift drastically; the Iranian revolution, Iran-Iraq war, Arab
oil embargo, and Persian Gulf wars have been especially notable. The Asian
financial crisis and the global economic crisis of 2008-09 have also caused deep
fluctuations.

Demand
Strong economic growth and industrial production tend to boost the demand for
oil — as reflected in changing demand patterns by non-OECD nations, which
have grown rapidly in recent years. China, India and Saudi Arabia had the
largest growth in oil consumption among the countries.”

Derivatives
More and more market participants are buying and selling crude oil, not in its
physical form, but in the form of contracts. Airlines and oil producers
use derivatives, like futures and options, to a hedge against swings in the price
of oil, while speculators drive those prices upwards or downwards.

The Bottom Line

Oil has long been the engine of the world's economy, and even today – as the
search for alternative energy sources gains ground – life without crude oil is
hard to imagine. Carbon-based fuels are used in heavy and light manufacturing,
in the production of chemicals, textiles, detergents, and medicines and in every
sector of our transportation industries. For now, at least, oil companies and oil-
rich nations will surely weather dips, or deeper plunges, in oil prices.

SUBSIDY

As oil prices rise, Moody's Investors Service said state-owned oil producers and
Oil India Ltd face increasing risk of the government once again requiring them
to share the fuel subsidy burden.
Oil and Natural Gas Corp (ONGC) and Oil India Ltd (OIL) had for more than
13 years paid as much as 40 per cent of the under-recoveries arising from fuel
retailers selling petrol, diesel, cooking gas (LPG) and kerosene at a government-
mandated price, which was way below the cost. This subsidy sharing ended in
June 2015 with global oil prices plummeting.
Moody's said the government could intervene to address record high prices of
petrol and diesel by reducing the excise duty on these products, especially if oil
prices stay high. These taxes makeup over 20 per cent of the retail selling prices
and were increased in 2016 when oil prices fell.

ONGC and OIL, it said, have not contributed to fuel subsidies since June 2015,
but have in previous years paid for over 40 per cent of the country's annual
subsidy bill.
 Impact of rising crude oil prices on the Indian economy

Higher prices: adverse impact on fiscal deficit:

India imports 1.5 billion barrels of crude oil each year. This comes up to around
86% of its annual crude oil requirement. So, the surge in crude oil prices could
increase India’s expenditure, thus adversely affecting India’s fiscal deficit - the
difference between the 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. The fall in crude oil prices was a major contributing factor in the
reduction of India’s fiscal deficit between 2014 and 2016, according to a report
by Livemint . A few years back, we explained the impact of a falling crude oil
price on fiscal deficit. To know more, click here.
Impact on the rupee:
The rise in crude oil prices has a clear impact on the Indian rupee. On 24 May
2018, the rupee closed at 68.34 against the US dollar. This is a near 18-month
low for the rupee, and only 0.6% away from its all-time low of 68.825,
according to a Livemint report. In addition, if crude oil prices remain at these
high levels, the rupee is further expected to depreciate by the year end. Rupee
depreciation has a reverberating effect on the Indian economy and even the
stock market. To arrest the rupee’s fall, the RBI often takes a few steps. Here’s
a look at how the RBI defends the falling rupee.
Impact on Current Account Deficit (CAD):
India’s dependency on crude oil imports has only been increasing over the past
few years. The dependency rose from 77.3% in FY2014 to 83.7% in FY2018.
The rise in crude oil price has a big impact on the Indian Current Account
Deficit (CAD). CAD is a measure of India’s trade where the value of goods and
services imported exceeds the value of goods and services exported. CAD
essentially indicates how much India owes the world in foreign currency. An
SBI report suggests that Indian’s CAD could cross 2.5% of GDP for FY2019
(providing oil price continues at $80 per barrel). Currently CAD is estimated at
1.9% for 2017-18. Widening CAD further puts pressure on the rupee’s value as
well as the rest of the economy.
Impact on Sensex, midcaps:
The Indian stock markets have faced a lot of pressure due to the rise in crude oil
prices. Between 1 and 24 May, 2018 alone, the Sensex fell by 2.3%.In
comparison, the BSE small cap and mid cap indices have had it worse with a
drop of nearly 8%. With crude oil prices touching $80 per barrel, there has been
a sell-off in small cap and mid cap stocks. Analysts warn that this could
continue if the crude oil price continues to rise. Here’s what you can do.
Impact on stocks:
A lot of Indian companies depend on healthy crude oil prices. This includes
tyre, lubricants, footwear, refining and airline companies. The profitability of
these companies is adversely affected due to higher input costs. This could
negatively impact stock prices in the near term. On the other hand, oil
exploration companies in the country could benefit from a rise in oil prices.
Impact on inflation:
Oil is a very important commodity and it is required to meet domestic fuel
needs. And in addition to that, it is a necessary raw material used in a number of
industries. An increase in the price of crude oil means that would increase the
cost of producing goods. This price rise would finally be passed on to
consumers resulting in inflation. Experts believe that an increase of $10/barrel
in crude oil prices could raise inflation by 10 basis points (0.1%).
FUN FACT
3,000,000
India imports 3 million barrels of crude oil per day. This is a huge quantity of
crude oil import. A rise in crude oil prices by $10 per barrel could lead to an
increase of $2.5 billion (or Rs 17,000 crore) in fuel subsidies,

Conclusion
To summarize the study
When Oil prices Moves UP:
1.Inflation increases
2.Govt. spending on subsidy increases
3.Foreign currency reserves reduce
4.Our export becomes weaker
5.GDP is affected negatively6.Share market crumbles
7.Investment decreases