News Detail

Oil prices are surging again.

• They threaten to derail the economic recovery that several experts are betting will start by the middle of this year. After a traumatic 2011, hopes have been growing of a turnaround on the back of cooling inflation and expectations of policy rate cuts by the Reserve Bank of India by April.Currently, Brent crude, a global benchmark, is inching above $120 a barrel, while West Texas Intermediate, another benchmark, has tipped above the $100-a-barrel-mark, thanks in part to growing tensions in the Middle East.Currently, Brent crude, a global benchmark, is inching above $120 a barrel, while West Texas Intermediate, another benchmark, has tipped above the $100-a-barrel-mark. AFP
• Surprisingly, no one seems to be worried about the jump in prices just yet, especially not investors, who seem to be more preoccupied with trying to figure out how long the flood of liquidity that has washed over the stock and debt markets will last. Since the start of this year, foreign investors have pumped in more than $6.5 billion in India’s capital markets on hopes of an economic recovery.High oil prices, however, have to potential to check India’s recovery just as it starts to gain momentum. Here’s how:One, high oil prices inflate India’s import bill. Crude oil is India’s biggest import. Since the country imports more than 80 percent of its requirement, it is particularly vulnerable to a hike in oil prices.
• Two, a higher import bill will further widen the current account deficit (the gap between a country’s total imports of goods, services and  forex payments and exports of goods, services and forex remittances), which is already set to hit 3.5 percent of GDP in the year ending March 2012, the worst in at least eight years.Three, a widening current account deficit will put pressure on the rupee. Since imports outpace exports, we earn less in foreign currency that we receive, which leads to higher demand compared with supply of foreign currency. The value of foreign currency gets stronger, the rupee gets weaker. That increases our reliance on other foreign inflows, such as those into capital markets and remittances.
• Four, higher global oil prices (and a possibly weaker rupee) can also lead to higher inflation. Higher prices for crude oil imports will inevitably lead oil marketing companies to raise fuel prices. Indeed, petrol prices are already set to jump by Rs 3 per litre next month; diesel price hikes may also become unavoidable. Fuel accounts for about 15 percent of the wholesale price index, and the inflationary impact of high oil prices will make RBI governor D Subbarao more cautious about cutting policy rates aggressively.
• Five, high oil prices also threaten to keep corporate earnings under pressure. Once fuel prices (especially diesel) are raised, they affect prices throughout the economy. When input and transport costs increase, they usually lead to a hike in retail prices. Consumers react by cutting back on discretionary spending. Companies, therefore, get hit both on input costs and consumer demand, which crimps profitability.In the past quarter, profit margins of 27 Sensex companies for which data is available declined sharply to 13.6 percent, according to a report in Mint. Rising raw material costs and elevated interest costs compressed margins, it noted. With oil prices remaining high, that situation could very well continue over the next few quarters — and snuff out any hopes of an early corporate recovery.

Source