Sarat Chandra IAS Academy

UPSC Civils Daily Mains Question 25th March-2021

Q) “Indian economy is extremely susceptible to the global oil price and has always been uncomfortable with its predicament. Discuss.”

Answer :

India imports nearly 84% of its domestic demand and it is one of the largest importers of oil in the world. Indian Oil imports account for nearly 27% of its total imports. India mainly export oils like groundnut oil, rice bran oil and also small quantities of sesame oil, sunflower oil and mustard oil to different countries including China, US, Japan, Malaysia. But Indian exports are very low compared to its imports so any Indian influence on oil demand will not have much impact globally.

Impact of fluctuation in global oil prices on India

Current Account Balance

  • A rise in the prices of oil will increase the cost of importing oil from other countries. And this in turn has a direct impact on the current account deficit.
  • In general, a 5 % increase in oil prices will impact the trade deficit by nearly $4 billion.
  • In the current crisis time (COVID-19 pandemic and economic slowdown), reduced crude oil prices have been a blessing in disguise to the Indian economy.

Fiscal Deficit

  • The price of the oil is fixed by the government and it is at a subsidized rate. And then the government compensates the companies for selling the oil at lower prices. These losses are also called under-recoveries.
  • Therefore, the losses incurred because of compensating the companies losses, adds to the Fiscal deficit of India.
  • But with the reduced oil prices in these crisis times, the compensation to be paid to these companies also reduces and which in turn helps in narrowing the fiscal deficit.

Impact of Inflation

  • India, being a vast country, the goods needs to be transported from one place to another. And oil is a very important catalyst in the movement of vehicles from one place to another.
  • A rise in oil prices leads to a direct increase in the price of goods and services. And it has a direct bearing on the prices of petrol and diesel.
  • And hence it contributes to the rise in inflation in the country.

Impact on Exchange rate

  • Rupee, being a free currency (value of rupee depends on the demand in the currency market), its value depends on the current account deficit.
  • Therefore, if the oil prices are high, then the country will have to sell rupees and buy dollars to pay for oil bills.
  • Similarly, if the price of the oil is low, then the current account deficit is low and the amount of dollars required paying for oil bills are also low.

Impact on stock market

  • There is an inverse relationship between the oil price and the Indian equity market. This is because the Indian oil industry is majorly an importer of oil.
  • Therefore, industries like tyre, lubricants, logistics, refinery, airlines, paints, etc are directly affected by a change in oil prices.

India being an importer of crude oil, so higher oil prices implies, more payment needs to be made in foreign currency. And oil prices have a major say in the financial markets of our country. A weak oil price usually signals strength in the performance of the stock market. And a strong oil price has a negative impact on the performance of the stock market.

And similarly, if we were to take the example of oil-exporting nations, strong oil prices have a very positive effect on their incomes, balance of payments, and their financial markets.

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