‘A volatile oil price trajectory would add pressure on govt in pre-election year’

The Israel-Hamas war has resulted in the crude oil prices going up in the international markets by about five per cent and if the war continues, then the oil dynamics would change affecting India’s current account deficit (CAD), rupee depreciation and others, said senior economists.

They also wondered whether the government would allow an increase in price in a pre-election year.

According to Madhavi Arora, Lead Economist at Emkay Global Financial Services, oil prices are up by five per cent with Brent at $89/bbl due to the recent severe escalation of the Israel-Palestine conflict and the high number of fatalities implies attacks and retaliation could continue for a while.

“For now our average Brent price estimate of $85/bbl for FY24 remains unchanged (current FYTD Brent is around $81.5/bbl) . A volatile oil price trajectory would affect our current CAD (current account deficit), inflation and growth estimate,” Arora said.

As per her, actual oil supply from Gulf is unlikely to be affected due to the Israel – Hamas war as of now but if there is a broader extension of this conflict affecting major producers like Saudi, Iraq and others with rebels targeting oil installations there and worsening of relations between them and the West and trade flows then oil prices could spike.

“We note at $90/bbl average from the estimated $85/bbl, our CAD estimate will rise to 1.6 per cent from current 1.4 per cent and our retail inflation forecast by 18-22 bps from 5.2 per cent to 5.4 per cent, while GDP growth could be hit by 10 basis points (bps), ‘ceteris paribus’ (all other variables remain constant,” Arora said.

Emkay Global’s energy sector analysts are of the view that this would hit the Indian oil marketing companies while the upstream remains a good play under such a situation, Arora remarked.

“India can get affected if the price remains high due to further supply disruptions. Iran joining the fray can affect the sea routes and push up transport and insurance costs. Higher crude will distort our balance of trade and CAD thus putting pressure on the rupee,” said Madan Sabnavis, Chief Economist, Bank of Baroda.

“One of our major trade partners on the export side is Israel which buys around $ 5.5-6 billion of refined petroleum products from us. Therefore the rupee depreciation is a distinct possibility which will require RBI action. The currency range will shift upwards to the Rs 83-84 bracket in such a case,” Sabnavis said.

According to him, the Reserve Bank of India’s (RBI) action of selling dollars will remove liquidity and keep bond yields at a higher level. “The 10-year yield is already at 7.35 per cent and the range can shift to 7.30-7.40 per cent if the war persists and crude remains at above $ 90/barrel. RBI has already signalled the policy on transmission not being complete as well as open market operations which spooked the bond market,” Sabnavis said.

The increase in oil prices will shift the pressure on the government with the general elections slated next year. “In a pre-elections year, raising prices looks unlikely which can mean higher subsidisation. This needs to be seen. CPI inflation can still be controlled by the government if it chooses to keep fuel prices unchanged. But WPI inflation will increase for sure,” he remarked.

According to Sabnavis, country’s policy makers have to be watchful and monitor developments. The issue is as ticklish as the Ukraine war but can get trickier depending on how West Asia reacts to this situation.