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LATEST NEWS UPDATES | Running on fumes -Paranjoy Guha Thakurta

Running on fumes -Paranjoy Guha Thakurta

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published Published on Jan 13, 2015   modified Modified on Jan 13, 2015
-The Asian Age

The sharp and sudden collapse of international prices of crude oil brings significant short-term gains for the Indian economy. However, in the medium and long run, the fall in oil prices has ramifications that are far from positive for this country. The windfall gains that have accrued will provide temporary relief for finance minister Arun Jaitley and will enable him to meet the fiscal deficit target in the forthcoming Union Budget for 2015-16 that will be presented in late February. However, the overall world economic situation is far from conducive for Indian exporters. Consequently, there will be continuing pressure on the country's external balance of payments and the value of the rupee vis-a-vis the US dollar. The fall in the prices of petroleum products also forebodes ill for mitigating climate change.

In other words, we will be foolish if we become exuberant. The unexpected fall in oil prices at a time when they tend to rise (because cold countries use more oil for heating in winter) has brought in its wake the spectre of recession continuing in western Europe and in Japan, the considerable weakening of the Russian economy and a slowdown in China. What is worse, the low oil prices will dissuade investments in renewable sources of energy with funding for solar and wind energy projects likely to slow down.

Why have world crude prices come crashing down from $115 a barrel in June to below $60 a barrel in the first week of January? Is it simply a consequence of what the Economist weekly colourfully called a tussle between Saudi sheikhs and small shale oil extractors in America? Not really.

It is important to note that the West is certainly delighted that after the Russian intervention in Ukraine and the imposition of sanctions, Vladimir Putin is overseeing a crippled economy and a plummeting rouble. The economy of Venezuela, ruled by a leftist government, too is in pretty bad shape.

But as far as Mr Jaitley is concerned, he has every reason to feel happy. He had assumed that crude oil prices would be in the region of $110 a barrel, whereas the prices are less than half that level at present. What many had thought would be a difficult target to achieve, that is, a fiscal deficit which is 4.1 per cent of the country's gross domestic product, now seems almost like child's play.

Importantly, the fall in crude oil prices as well as the prices of other commodities has resulted in the inflation rate coming down to its lowest level in a decade. Whereas BJP president Amit Shah has been falsely claiming at public meetings that the Narendra Modi government should be given credit for the fall in inflation, the fact simply is that the government has been incredibly lucky.

India currently imports around 80 per cent of the country's total requirements of crude oil. Oil imports comprise over a third of India's total imports. Petroleum products account for nearly a fifth of the country's total exports. That's not all. Public sector oil companies, led by Indian Oil Corporation (IOC), have passed on barely a third of the decrease in international crude oil prices to the consumer in the form of lower prices of diesel and petrol. The Union government has more than protected its revenues by repeatedly hiking excise duties and customs duties, the two biggest contributors to the exchequer. Tax revenues from the petroleum industry are not just relatively easy to collect, such taxes account for between one-third and 40 per cent of the total revenues of the Central government. For instance, in 2013-14, out of the government's total collections of excise duty of about Rs 1,79,000 crore, as much as Rs 77,000 crore, or over a third, came from the petroleum sector.

Now, the negative side of the fall in world oil prices. Remember 2008, the year the Great Recession set in? During 2008, crude oil prices jumped from $40 a barrel to $147 a barrel before collapsing again to $40 a barrel. Over the last few years, the short-term demand-supply imbalances were sought to be bridged and oil prices stabilised by Saudi Arabia, America's closest ally in the Arab world and a producer of one-third of the supplies of the Organisation of Petroleum Exporting Countries (OPEC). Although OPEC accounts for only around 40 per cent of world trade in oil and lacks the clout the cartel had in the 1980s, Saudi Arabia's refusal to curtail output to cool prices is significant.

West Asia remains in a state of turmoil. Iraq is on the verge of implosion. After more than three years, the civil war in Syria shows no signs of abating. The political crisis in Libya is unlikely to be resolved soon. After Ukraine, many analysts argue that the face-off between the West and Russia is the "worst crisis" of globalisation since the Cold War concluded in the late-1980s and early-1990s with the fall of the Berlin Wall and the disintegration of the Soviet Union. Oil remains the most politicised of all commodities and its price is most influenced by geo-politics.

Given the recession in Europe and Japan and the slowdown in China, exports from India are expected to be sluggish, placing pressures on India's current account deficit and the external value of the rupee. The fall in oil prices has played havoc with the finances of public sector companies that carried high-cost inventories. IOC recorded a net loss of Rs 898 crore in the July-September quarter against a net profit of Rs 1,683 crore in the same period last year, resulting in an inventory loss of Rs 4,272 crore. Other companies, including those in petrochemicals, are stuck with stocks that were purchased when prices were high.

Few had predicted that world crude oil prices would crash by 50-60 per cent in barely six months. An estimated $2 trillion in bank funding for oil and gas exploration projects are stuck. An important factor that is preventing the Reserve Bank of India governor, Raghuram Rajan, from softening interest rates is the prospects of inflation rising again his view is staunchly opposed by

Mr Jaitley, who wants to make industry happy by lowering interest rates.

Finally, because of relatively low prices of diesel and petrol, there is no incentive in India at present to move towards less-polluting modes of transport. The kind of air pollution witnessed in the national capital this winter has placed Delhi firmly in the ranks of the most-polluted cities in the world. Take the bad with the good.

The writer is an educator and commentator

The Asian Age, 13 January, 2015, http://www.asianage.com/columnists/running-fumes-288


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