Here's why India's oil import bill may shoot up

The government's projection of 8 to 8.5 per cent growth in 2022-23 is predicated on a few assumptions of the future global and domestic scenario. On the domestic front, it is presumed that there would be no more economic disruptions due to revival of the pandemic and that there would be a normal monsoon this year. As for the external environment, it is expected the withdrawal of global liquidity would be in an orderly fashion while international supply chain disruptions would ease in the near term. These assumptions may be proved correct and could rightly be used as the backdrop for projecting next year's growth outcomes.

The fifth assumption, however, is that oil prices would remain at about 70 to 75 dollars per barrel in the next fiscal. This is an expectation over which there is considerable doubt, at least in the near term. Oil prices have already shot up to 89 dollars per barrel and experts are predicting that these could rise as high as 125 dollars in coming months.

The current scenario of soaring prices has emerged as a result of the oil exporting cartel, OPEC having joined hands with Russia and its allies in the last few years. This collaboration known as OPEC plus took place to curb softening in prices owing to sudden rise in oil production in the US from shale oil fields. Alarmed by this trend, OPEC and Russia jointly decided to curtail output in a bid to push up prices. The strategy proved successful but the onset of the Covid pandemic led to a steep decline in oil demand in 2020.

Prices began hardening once again in January 2021 as world economies began to return to normalcy bringing about a revival in demand for oil. OPEC plus then decided on a gradual ramping up of production from September onwards at the rate of 4,00,000 barrels per day. It must be recalled this was to gradually reverse the huge cut of roughly 10 million barrels per day that was effected in April 2020 by the cartel in a bid to push up prices. Over the last few months, however, demand has been rising rapidly as the pandemic has ebbed in many parts of the world. This has led to the recent spurt in prices.

The high oil prices have been of concern not only for India which imports over 80 per cent of its consumption but for the US and the European Union which are large fuel consumers. US President Joe Biden initially appealed to OPEC plus to increase output to meet demand and cool down prices. There was little positive response to the appeal. He then embarked on a strategy last month in cooperation with other major oil importers to release oil stocks from strategic reserves. The US released some stocks last month, followed by India and Japan. China and South Korea also agreed to release some of their reserve stocks.

The strategy has so far not had much of an impact on the cartel which is relentlessly adhering to the earlier policy of raising output by only 4,00,000 barrels per day. The situation has been aggravated by recent geopolitical tensions. Russia has massed its troops on the border of Ukraine prompting the US to warn of serious consequences in case it decides on an invasion. Since Russia supplies about 30 per cent of Europe's oil and gas needs, the situation has become even more complex.

The net result has been further hardening of oil prices, leading to prices touching seven year highs of 91 dollars per barrel just a few days ago. A study done by Dutch financial services agency, Rabobank has estimated that in case of a conflict between Russia and Ukraine, oil prices could shoot up to 125 dollars per barrel.

In other words, oil markets are in a volatile situation right now. For this country, the import bill has already shot up during 2021-22 and is expected to cross 112 billion dollars as compared to only about 100 billion dollars in the pandemic year 2020-21. The worry is that if world prices shoot up, the import bill will rise steeply and lead to a widening of the current account deficit. Fortunately, the country has sizable foreign exchange reserves estimated at 634 billion dollars. But it would not be desirable to have a drawdown of these simply to meet the cost of oil imports.

Thus the major assumption being made while formulating the budget, that world oil prices would be contained at the level of 70 to 75 dollars per barrel may not be realised in the near term. The geopolitical scenario is actually worsening with the US having decided to send about 3000 troops to Eastern Europe in preparation for any conflict in the region. In addition, a winter storm is predicted for central US over the next few days, which will push up gas demand.

One factor that could conceivably cool markets over the next few months is a positive outcome to talks about Iran's nuclear program with the US This would lead to more Iranian crude coming into the market.

In any case, the global scenario currently is rife with uncertainties, not just on the oil front but also regarding the progress of the Covid pandemic. A new variant may still be on the horizon though experts maintain mutations are likely to be more benign than otherwise. In this backdrop, one cannot fault those finalising the 2022-23 budget for having to make certain assumptions. The only caveat is that the country should be prepared for some hiccups in the path of higher growth owing to a volatile external environment.