What Crude At $90 A Barrel Means For The Indian Economy

The current spike in oil prices does not pose a significant risk to India's macro fundamentals at this juncture but a sustained increase may have implications on India's external indicators and economic growth.

Brent crude rose past $90 a barrel on Sept. 5, the highest since November last year, after the OPEC+ bloc extended production cuts by three more months. It is still hovering close to that level.

India is the world’s third largest buyer of crude and costlier imports could widen the current account deficit and slow down the economy. But there are mitigating factors that cushion the economy.

As India imports more than 80% of its total oil requirement, there will be an impact on the current account deficit and the rupee, said Dipanwita Mazumdar, economist at the Bank of Baroda. In the ongoing fiscal till July, the inbound oil shipments stood at $55 billion, and with a domestic recovery underway, this dependency would continue, she said.

"We estimate that for every 10% increase in oil prices on a permanent basis from a baseline of $80-85 per barrel, oil imports are likely to inch up by $15 billion or 0.4% of the GDP," Mazumdar said. This will get reflected in higher current account deficit, and pressure might be building up on the rupee, she said.

In case crude oil prices average $90 a barrel in the remainder of FY24, then CAD could rise to 1.9% of the GDP against the estimated 1.8%, assuming the Indian crude basket averages $85 a barrel in the remainder of FY24, said Gaura Sen Gupta, India economist at the IDFC First Bank.

"We see limited upside risk to our estimate if crude oil prices sustain at $90 per barrel," Sen Gupta said. However, a further upside risk persists from the possibility of a large stimulus announced by China, which would support commodity prices, she said.

In the near term, dollar strength is expected to persist, supported by U.S. growth resilience, aiding higher Treasury yields, Sen Gupta said. The surge in crude will also add depreciation pressures on net oil-importing currencies such as the rupee, said Sen Gupta.

A lot depends on the RBI's forex intervention which is aimed at limiting volatility on both sides (appreciation and depreciation). The dollar-rupee pair is expected to remain range-bound between 82-84 till December, she said.

When food prices are elevated, domestic retail pump prices are unlikely to change much if the oil price shock is not persistent, said Mazumdar. The remaining gap can be mended by the government by altering the duties, which may have some fiscal implication, she said.

Sen Gupta, too, said that risks to inflation from rising oil are unlikely as domestic petrol and diesel prices have not increased since May 2022 despite the volatility in crude. "We expect the headline CPI inflation to average at 5.8% in FY24, assuming domestic retail petrol and diesel prices remain unchanged till March 2024."

Petrol and related products in the CPI basket have a weight of 2.4%.

The direct impact of a 10% increase in crude is 15 basis points on CPI, Mazumdar said. "The indirect impact of this pass-through might pose 25-35 basis points upside risk to our baseline forecast of 5.5% for CPI in the current financial year."

The recently announced price of Rs 200 per LPG cylinder is expected to marginally reduce inflation pressures in September by 20 to 30 basis points, Sen Gupta estimated.

However, on the WPI basket, the impact is more pronounced as crude-related products carry a weight of 7.3%. Thus, a 10% increase from the current level might pose around 100 basis points upside risk, according to Mazumdar.

Higher crude oil prices slow down GDP growth by increasing the drag from net imports. A sustained increase in oil prices of about $10 a barrel tends to pull down GDP growth by around 20 basis points, Teresa John, economist at Nirmal Bang Institutional Equities, said.

However, given that the current rise in crude oil prices is driven by supply cuts rather than higher demand, it is unlikely to sustain for long, she said. John does not anticipate a major risk for India’s macro fundamentals from costlier crude unless it sustains for an extended period.