Crude Price Poses Limited Fiscal Risks To India For Now—Monetary Policy On Pause?

The continuing rise in oil prices is unlikely to dent India's macroeconomic fundamentals, despite rising risks to outlook. The impact on growth and inflation is expected to remain limited so far, though monetary policy could remain on pause amidst an evolving geopolitical scenario.

Brent crude was at striking distance of $80 a barrel in recent sessions, amidst the Iran-Israel conflict. This is the highest since January this year.

"We do not anticipate any major macro-financial impact on India as long as crude oil prices stay under $80 per barrel levels on an average basis in FY26," said Vivek Kumar, economist at QuantEco Research.

Fiscal impact would come into play if LPG prices rise, said Gaura Sengupta, chief economist at IDFC First Bank.

Current Account Deficit 

A working paper by the Reserve Bank of India on the impact of crude shock on India's current account deficit, inflation and fiscal deficit, estimates that with oil prices at $85 a barrel, the deficit on account of oil balloons to about 3.6% of India's GDP.

As a rule of thumb, every $10/barrel increase in crude price will shoot up the CAD/GDP ratio by 43 basis points, according to the paper published in 2019.

India will see the current account deficits rise above 2% if oil prices increase unabated towards $90 per barrel, according to a research note by MUFG.

"Putting it all together, our analysis shows that PHP, KRW and THB are more vulnerable in Asia from an FX perspective to further sharp spikes in oil prices. INR is also relatively more vulnerable with a current account deficit closer to 2% of GDP together with relatively higher economic linkages to the Middle East."

"We will likely adjust our FX forecasts for the likes of INR and PHP weaker given this external shock. Nonetheless, given how FX levels in both currencies have already moved weaker, the risks for both currencies could be more two-sided now even as we continue to acknowledge the significant uncertainty in the next steps of the Israel-Iran war. Beyond oil prices, we continue to point to domestic positives such as improving growth prospects and the possibility of a trade deal in India's case," it said.

Retail Inflation

Costlier global oil increases the domestic price of crude products and increases inflation. To be sure, a change in international price does not lead to an equal percentage change in pump prices. According to the RBI's rule of thumb, every 100 basis point increase in petrol price leads to 2.6 basis point increase in core CPI index.

"The risk to retail inflation is low as we don't expect retail petrol and diesel prices to increase", said Sengupta, who continues to forecast inflation at 3% in FY26. The higher crude oil prices will be absorbed by oil marketing companies, she explained.

Monetary policy is currently on a neutral turf, and is expected to remain so in the near term. "We were expecting a status quo from the MPC in the remainder of FY26," said Kumar. "However, there was a slim possibility of a backloaded rate cut if food disinflation trajectory turned out to be deeper than anticipated," he said. The hardening of crude oil prices this month could suppress that possibility, he added. "Hence, our conviction on the baseline call of a status quo becomes stronger."

Further increases in oil prices could start to impact the policy space of India's central bank to some extent, from cutting policy rates, said the note by MUFG. As we stand, however, the rise in oil prices so far should not prevent Asian central banks from cutting rates further to support growth, even if it could delay the timing, the note stated. For one, the starting levels of inflation and also oil prices across Asia are manageable, it added.