Crude Oil Price has a direct and indirect correlation with India’s economy (Oil Price & India’s Economy)

In recent times we saw how crude prices, that is Brent and Nymex prices went up. And this had an impact on the Indian economy. So, what exactly is the relation between Crude oil price hikes and the Indian economy?

80% of the demand of crude oil in India is fulfilled through imports of crude oil. For example, if we are consuming 100 barrels of crude oil, then we are importing 80 of those barrels from outside. This means that there is only 20% production of crude oil done through our domestic facilities. So, we have a huge demand from the foreign markets. And that is why it is impacting our import bill on such a large scale. And because of high import bill, we can see its effect on higher prices, What is Fiscal Deficit, current account deficit and other things.

Crude Oil Impacts on: –

• Current Account Deficit (CAD) –
  • CAD = Imports – Exports
  • If imports are more than exports, then we can see a Current Account Deficit.
  • For calculation of this, the average price taken by the Finance Ministry was $65 per barrel.
  • After May-June, the Brent oil price went up to $80 per barrel. So, this $20 per barrel had a impact for a few months.
  • So, on average basis, we were incurring $10 per dollar of extra cost, which had an effect on the CAD of 43 bps. That is our CAD was increasing by 0.43%. This amounted to an extra bill of $12.5 billion.
  • Thus, as our CAD was increasing, INR was depreciating in comparison with other foreign currencies.

Government Response – To tackle this and control the increasing CAD, the government passed on the price hike in crude to the consumers. When consumers are getting the impact of increased price, then the result of that is higher inflation.

• Inflation
  • When inflation is high, automatically interest rates are also on the higher side. When the interest rates go up, profitability of companies comes down. Thus, it will have an negative impact on the corporate profitability.
  • One can see how all this is a vicious circle.

And for the next 10-15 years, we are completely going to be dependent on the crude oil prices. The reason is that we still do not alternative energy resources on which the vehicles be able to run. Though there are many R&D done for this, electric cars coming in to picture, new policies been made; but still it will need more 10-15 years to replace crude oil.

• What is Fiscal Deficit
  • What is Fiscal Deficit is nothing but the earnings government is earning through taxes (direct & indirect) and the expenditure government is going to incur.
  • So, when earnings are less than the expenditure budgets, then we have a Fiscal Deficit situation.
  • If the government decides to not pass on the crude oil price hikes to the consumer, then they will not increase the petrol or diesel prices. In a way, the government is taking the hit on its own balance sheet. And that’s how the fiscal deficit grows.
  • Growing What is Fiscal Deficit is also not good for the economy. When the fiscal deficit goes up, then chances are that the rating of Indian economy may go down and because of that the corporates (companies) will not be able to borrow from the outside world at a lesser cost. This in turn will again have a negative impact on the Indian economy.

Summary

• Thus, Current Account Deficit (CAD), Inflation and Fiscal Deficit are very important factors.
• The crude oil prices will always have its impact on these three factors.
• Balancing out all the above-mentioned factors is a tough job the government will always have to do to manage the economy.
• This will not be the case if we are not dependent on crude oil.
• Until then, Indian economy will keep getting impacted whenever the crude oil prices rise.

Other Useful Resources:

Economic Growth can be defined as a positive change in the level of goods and services produced by a country over a certain period of time.Economic growth is an increase in real GDP; it means an increase in the value of goods and services produced in an economy.

Following are some of the factors which can promote economic growth:-

1] Recovery in Domestic Consumption & Exports –

Improvement in consumption activity as well as a recovery in exports could lead to a progress in economic activity. Exports play an important role in the economy, influencing the level of economic growth, employment and the balance of payments.Domestic household consumption is still a more important part of GDP.

Earnings and volumes grew for the third straight quarter for most fast-moving consumer goods firms in the three months through March, according to their exchange filings. Consumer-focused companies had struggled after demonetisation, and GST—in less than a year. The recovery that began in the three months to September has only strengthened, with GDP growing at its fastest pace since the note ban in the March quarter.

2] Recovery in Rural Demand –

A renewal in rural demand is good for broader growth recovery. Raising the prices on crops and spending more on irrigation and infrastructure in rural areas will increase rural image increasing its demand. Farm loan waivers by some state governments are also helping which in the end leads to recovery in rural demand.

Rural growth at 13.5 percent outpaced urban demand which rose at 10 percent, according to a May 29 report by Nielsen India. The FMCG sector grew 11.3 percent during the quarter and 13.5 percent in the year through March, it said.

3] Revival in Private Capex –

As private capex recovers, it will revive job creation, which will ensure that the economy will be heading towards the productive growth phase.

The combination of balance-sheet fundamentalsandimproving business return expectations, along with animproving financial system, should be able to meet investment credit demand and lead to a private capex recovery. Araise in private capex would provide support to a sustained growth cycle in the coming years.

In December 2017, India’s factory activity expanded at the fastest pace in five years on the back of rising output and new orders. Meanwhile, industrial output for the month rose 7.1 percent on-year, beating a market forecast of 6.2 percent.

 4] Affordable Housing, Rural Roads & Electrification –

Infrastructure is the backbone of any economy for growth and development. For development and growth of any economy, infrastructure needs to be strengthened in a proper and adequate manner.

Various measures to promote growth of the economy which, include push to infrastructure development through affordable housing, higher allocation to rural road construction, focus on electrification all over and in every corner.Affordable housing will generate demand for construction, steel, cement and boost economic growth. There should be a strong energy in the expansion of roadways, and the power generation capacity should also increase at a healthy speed.

Recently, government has given green light to a Rs 7 trillion infrastructure program in late 2017, with the aim to pave more than 80,000 km of road by March 2022.

Above mentioned are just some of the factors among many that will boost economic growth going forward.

Retail Sales – Retail sales are particularly important measure and function hand in hand with inventory levels and manufacturing activity. Most importantly, strong retail sales directly increase GDP, which also strengthens the home currency. When sales improve, companies can hire more employees to sell and manufacture more products, which in turn puts more money back in the pockets of consumers.

In general, an increase in retail sales indicates an improving economy.

Inflation – If the RBI thinks inflation is rising, it’ll put on the economic brakes by raising interest rates.

Inflation can be both beneficial to economic recovery and, in some cases, negative. If inflation becomes too high the economy can suffer; conversely, if inflation is controlled the economy may prosper. With controlled, lower inflation, employment increases, consumers have more money to buy goods and services, and the economy benefits and grows. A low and stable inflation rate is a perquisite for sustained high economic growth.

Repo rates – Repo rates are one of the most important drivers of the economy. From affecting the inflation (decrease in repo rate leads to increase in inflation) directly to influencing the foreign exchange rate (increase in repo rate leads to fall in exchange rate due to strengthening of domestic currency), repo rate plays a central role in the money supply of an economy. Also if repo rate decreases then the GDP of a country increases (increase in money supply leads to increase in demand of goods). Repo rate has a multiplying effect on the economy.

It is used by a central bank as a tool to manage the economy – either by raising the interest rate to curb inflation, or lowering the interest rate to promote growth.

If the central bank increases the repo rate, then borrowers have to pay more for the money they borrowed. This reduces the amount of money they have for spending on other things and thus impacts the economy.

Foreign Direct Investment – Foreign Direct Investment (FDI) is a leading economic indicator which greatly influences the general economy as whole.

FDI which is a direct investment into the country from an entity in another country, either by setting up a new company or by way of a merger or acquisition etc., also indicates the positive perspective or approach of the overseas investors.

FDI has had a positive impact on an economy. FDI inflow supplements domestic capital, as well as technology and skills of existing companies. It also helps to establish new companies. All of these contribute to economic growth of an economy.

Total New Vehicle Sales – New car sales are a reliable economic indicator which tells us whether the economy is starting to pick up. People buy a car only when they feel certain about their job prospects and hence, feel financially secure. Further, once car sales pick up, sale of steel, tires, auto-components, glass etc., also starts to pick up as well. New car sales are a good indicator of economic growth.