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Why Crude Oil Prices Has Crashed and How It Affects Indian Economy? Research Team | Posted On Friday, March 13,2020, 01:20 PM

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Why Crude Oil Prices Has Crashed and How It Affects Indian Economy?



We wake up to some kind of shocking news each day. Amidst the tragic coronavirus epidemic and Yes Bank crisis, oil prices have crashed. The crude oil prices had fallen by 30% on March 9th 2019, which is the largest fall in oil prices after the 1991 Gulf War.

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Why Crude Oil Prices Has Crashed and How It Affects Indian Economy?

Why Did This Happen?

Russia and Saudi Arabia signed a deal in December 2016 to prevent the fall in crude oil prices amidst decreasing crude oil prices called OPEC+. The aim was to stabilize crude prices and ensure profits for all oil producing nations.

Saudi Arabia, the second largest producer of crude oil in the World has now declared a price war against Russia. State owned Saudi Aramco was asked to raise oil production to a record 13 Million Barrels a day.

Why did Saudi declare a price war against Russia? Russia believes that by 2021-2023 its oil output would reduce. There has been lack of investment in the oil development and exploration sector. Russian oil production is expected to fall from 11.4 million barrels per day to 6.3 million barrels per day by 2036. In all this Saudi Arabia proposed to impose an additional 1.5 million barrel per day cut on top of the existing ones. This didn’t go down well with Russia.

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Saudi Arabia flooded the markets with cheap crude oil. Saudi Arabia ordered Aramco to maintain maximum sustainable oil output. Moscow is also planning to increase crude oil supply by 3,00,000 barrels per day. All this excess oil means cheap crude oil in the markets.

Russia is targeting the US shale industry as US has emerged as the Number 1 Oil Producing Nation. Russia wants to destroy the US shale industry and hopes the lower Crude Oil prices will do the job.

Will the US shale industry collapse? If crude oil prices go to $40 per barrel it will slow down the shale production. If prices go to $30 per barrel it will fall to levels of December 2019. For US Shale industry to collapse crude oil prices must fall to $20 a barrel. US President Donald Trump will definitely come to the aid of the US shale industry. The question is among Russia, Saudi and possibly the US, who will blink first.     

Coronavirus Crude Oil and the Indian Economy

The Italy coronavirus death toll has gone past 1,000. WHO (World Health Organization) has declared the outbreak a pandemic. The death toll in Iran is rising and has gone past 429. US have imposed a travel ban on Europe which has hit 26 European countries.

So how does all this affect the Indian Economy? The Indian tourist industry is in a crisis with the visa ban. India with 1.3 Billion people and just 76 cases has fared better than Asia. However, India’s overstretched health system would struggle if there is a rise in cases.

  • Delhi Schools and Colleges are shut till March 31st along with the Cinema Halls. A definite loss in revenue.
  • Tourism in Rajasthan has suffered a severe hit. All hotels and airlines in India are seeing low volumes as people are curbing all non-essential travel. Railway traffic has also slowed. Air tickets are being sold at a massive discount.
  • IPL is on for now, but there are no spectators.

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Indian Economy Hit by Coronavirus

  • The Indian services industry has been hit as key sectors like travel and tourism, hospitality and aviation has been badly hit. Is this much of a problem? Well, travel and tourism contributed 9.2% to India’s GDP in 2018. You do the Math.
  • There would be a fall in the demand for retail and entertainment services as social distancing becomes the norm if the virus isn’t contained.
  • There would soon be an emergency monetary policy action by the RBI.
  • Cut in religious tourism and wedding will definitely have an impact.
  • Kerala has been in partial shutdown mode as the Kerala Government takes prompt action to control the spread of the coronavirus.

Indian Economy and Crude Oil

The Indian economy could enjoy major benefits from the slump in International Crude Oil Prices. This is in the form of lower CAD (Current Account Deficit), reduced inflation and higher GDP.

  • Falling crude could lower CAD by 25 bps to 0.7% in FY 21. CAD had eased to 0.2% of GDP in the December Quarter.
  • CPI Inflation has eased to 6.58% in February. Markets are expecting RBI to go for a 50 bps cut in repo rates.
  • A $10 fall in crude oil prices increases fiscal headroom by around Rs 14,000 Crores. This is because of lower petrol and diesel subsidies. The Government could enjoy potential revenues of Rs 62,000 Crores if excise duty is raised by Rs 4.5 a liter on auto fuels. Whether the Government opts for this is another matter.

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Lower crude oil prices benefits automobiles, aviation, cement, consumer companies, paints and oil marketing companies.

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There are definite pluses and minuses as crude oil prices crash. Coronavirus is a major spoiling factor in these times. Follow a policy of wait and watch.

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