Strait of Hormuz Tension to Impact India’s Oil Imports, Rupee, Markets
Again, the issue in the strait has cast a shadow on India’s oil security and inflation, rupee and markets.
On Tuesday, crude prices were climbing towards $88 a barrel or near a one-week high while the rupee was nearing a one-week low of Rs 95.38 against the dollar in early trade.
Any disruption to the shortest trade route could have ramifications on fuel prices, the rupee, freight and the stock markets.
Why is the Strait of Hormuz so important?
Strait of Hormuz is one of the most important oil transportation routes in the world and any disruption to the traffic could see surge in oil prices as it controls the narrow channel through which most of the world’s oil trade passes through.
Markets have already priced in the risk premium in the Brent crude which is why prices have jumped.
Moreover, higher oil prices could also lead to inflation in the major economies as speculators bid up prices of Brent crude and add to their exposure as most countries are net importers of crude oil. Rising global oil prices not only add to the carrying costs but also inflation in the major economies.
India is highly dependent on oil imports
India imports over 85% of its total demand for oil, according to the Reserve Bank of India (RBI). Any rise in the international crude oil prices will have ramifications on the Indian economy and the value of the Rupee.
According to the RBI, a 10 percent rise in global crude oil prices could raise headline inflation by around 20 basis points.
Besides adding to the transportation costs and retail prices of petrol products, higher oil prices will also have an impact on the fiscal accounts of the government.
Higher prices of fuels could have impact on the Rupee
Since most of India’s oil imports are made in US Dollars, higher crude oil prices will require India to buy more Dollars to pay for the oil imports, which will have an impact on the value of the Rupee.
On Tuesday, as the opening value of the Rupee was fixed at Rs 95.38 against the Dollar, down 8 paisa from the close on the previous Monday.
In fact, the public sector banks were seen in the market selling Dollars to buy Rupees to prop up its value against the American currency.
A weak Rupee will have other adverse effects, such as higher import costs of goods and services and higher servicing costs of the country’s external debt obligations.
Higher freight rates are also a possibility
Higher crude prices will also have an impact on other aspects of the domestic economy.
Since fuel is a significant component of the cost of shipping, higher oil prices will lead to higher freight rates.
India’s dependence on maritime trade is huge for its imports and exports and higher freight rates will have an impact on various sectors and add to inflation in India.
Higher freight rates will also have indirect impact on inflation as the higher transportation costs will be added to the prices of various goods and services.
Moreover, since the higher freight rates will also raise the input costs of transporters, who will eventually pass on the burden to the consumers.
Impact on Stock Markets is also crucial
Higher prices of crude oil will have adverse effects on the Indian equity markets in the larger perspective.
The two significant reasons why higher oil prices affect the Indian stock markets are discussed below:
- Higher transportation costs: The companies that are highly dependent on freight will be at the receiving end as their operating costs will increase.
- Impact on monetary policy: The higher inflation due to higher fuel prices will prompt the RBI to review its monetary policy stance. Higher interest rates will also hurt the borrowing costs of individuals and firms.
In addition to higher transportation costs, higher oil prices will also raise inflation in the economy.
If the inflation persists for a long time and crosses the tolerable limits of the RBI, higher interest rates will be the norm, which will have adverse impact on the overall sentiment of the stock markets.
Moreover, there is also a possibility that the investors might get spooked due to higher geopolitical risk and move towards the safer bonds, which will also have adverse affects on the stock markets.
Impact Summary – What is at stake for India?
India’s economy will be adversely affected due to the issue in the strait.
Higher oil prices will mean higher import bills for India, which will weaken the Rupee and also raise inflation in the country.
Higher fuel prices will also have impact on various businesses operating in the country apart from higher freight rates.
Higher inflation will also affect the monetary policy decisions of the RBI.
Moreover, the increased geopolitical risk will hurt the exporters and firms with huge international exposure.
Outlook – What next for India?
It will be important to wait and watch if any restrictions to oil supplies continue in the strait as shorter the disruption, lesser will be the impact on the Indian economy.
However, if the volatility persists for a longer duration, it will affect the markets as various investors and traders will add to their short positions due to higher risk premiums.
Moreover, if the oil supply constraints continue, the overall inflation in India will be higher than expected which will also weaken the Rupee, freight rates and interest rates in the country.
India will have to remain highly cautious as the situation in the strait will be crucial to its economy and stock markets in the near term.
