Rising Oil Prices A New Worry For Economy After Demonetisation

Since Prime Minister Narendra Modi's government came to power in 2014, it hasn't had to worry much about global crude oil prices. But now rising oil prices have caused some unease within the government.

D K Joshi, chief economist with Crisil, said the government's fiscal condition will remain comfortable as long as oil prices remain below $60 per barrel. "However, the government may have to lose the cushion of higher excise duties on petroleum products to control the price of petroleum products," he said.

Since OPEC or Organization of the Petroleum Exporting Countries' November 30 decision to cut output, Brent crude oil prices have been on a tear, rising around 17 per cent to above $54 a barrel.  Oil Minister Dharmendra Pradhan has already expressed worry over rising oil prices, saying that higher rates pose a risk to the country's growth. OPEC countries produce a third of the global oil output. 

As India imports nearly 80 per cent of its energy needs, higher global prices means consumers have to pay more for petrol and diesel, prices of which are deregulated in the country. Higher domestic fuel prices could raise inflation and crimp economic growth that is already struggling with the aftermath of demonetisation. It also means higher subsidy burden for the government on LPG and kerosene. 

On the back of lower crude prices, Finance Minister Arun Jaitley had slashed petroleum subsidies in 2015-16 by 50 per cent to Rs 30,000 crore, helping the government meet its fiscal deficit target. For 2016-17, the petroleum subsidy was further cut down to around Rs 27,000 crore. 

Higher global oil prices could also hurt government revenues if it decides to lower excise duty on petrol and diesel to protect consumers from higher fuel prices. 

Pronab Sen, former Chief Statistician of India, said that "if the government tries to control inflation due to higher oil prices by cutting down excise duties of petroleum products, it will have to deal with reduction in revenue, which will reduce its fiscal space".

Despite the OPEC's agreement to lower output from January 1, analysts remain sceptical on how far global oil prices could rise from current levels. This could provide some comfort to the government.

Gaurang Shah, vice president at Geojit BNP Paribas, said global oil prices may not rise much beyond $55 a barrel. US shale oil producers will quickly come back into the market as it becomes profitable for them if oil prices rise to $55-60/barrel, thus putting downward pressure on prices, he added. 

Goldman Sachs said in a note after the OPEC agreement that it expects oil prices to average $55 per barrel in the first half of next year.