As Iran mounted an attack on Israel, launching over 300 drones and missiles against Israel following an Israeli strike on its embassy in Syria, India is bracing for vulnerabilities and possible impact it may face amid these escalating geopolitical tensions. However in the midst of this situation, the US and other allies of Israel have called for restraint. US President Joe Biden has cautioned Israel Prime Minister Benjamin Netanyahu that the US would not participate in a retaliatory action against Iran, Reuters reported.
Risk of oil price escalation
Economists said that the escalating tensions in the Middle East will have a key potential economic impact in India if there is a sustained increase in oil prices. Hanna Luchnikava-schorsch, Principal Economist at S&P Global Market Intelligence, said, “Although India has diversified its sources of oil imports since the Russia-Ukraine conflict, India is still heavily dependent on countries in the Gulf for oil imports. In a scenario where there is a sustained increase in international oil prices, the impact will very likely manifest in the Indian economy through three key channels – higher inflation, wider trade and current account deficits and weaker rupee, as well as deteriorating public finances.” India imports over 80 per cent of its crude oil needs which makes it vulnerable to global price changes. In such a scenario, if the conflict continues and oil supplies from the Middle East are affected, it will lead to the hardening of crude oil prices. Also, 20 per cent of the world’s crude oil supply passes through the Hormuz Strait (60 per cent of Indian crude supply is accounted for from the Hormuz Strait).
Meanwhile, the Ministry of Finance yesterday said that it is taking stock of the situation to understand the impact of Israel-Iran tensions on the Indian economy. “There are concerns over an increase in global oil prices,” said an official.
Meanwhile, Shreya Sodhani, Regional Economist, Barclays, said that any escalation in the Middle East, through oil prices, is unlikely to impact India for now, while maintaining that India should have access to Russian oil which it can resort to with oil prices shooting up again. “Typically, a USD10/bbl increase in crude oil prices raises India’s inflation by 0.3pp and increases the current account deficit by 0.3pp. However, notwithstanding a recent small Rs 2/l cut, the government’s fiscal measures have left retail prices for petrol and diesel constant for two years – even when actual costs began to decline – which likely allowed oil-marketing companies to enjoy significant profits over the past year. We doubt the government would now be looking to pass on higher energy costs to consumers, especially with elections on the horizon,” she added.
According to economists, while the war could push crude above $100 per barrel, managing within that price range is feasible. Suman Chowdhury, Chief Economist and Head – Research, Acuité Ratings & Research, said, “Although crude oil prices are yet to rise sharply beyond $90 per barrel, there is a significant likelihood that it will breach the $100 levels if the conflict intensifies further over West Asia.”
Sectors to be most affected
In terms of sectors, Infomerics Ratings said that oil-based sectors like automobiles, transportation, aviation, paints, tyres, cement, and chemicals could take the greatest hit. Further, it added that the Indian stocks with an Israeli connection include Adani Ports, Sun Pharmaceutical, Dr Reddy’s and Lupin, NMDC, Kalyan Jewellers, and Titan, may be affected. Further, oil marketing companies could be adversely impacted. “The war could slacken India’s plan of building an India-Middle East-Europe Economic Corridor as reflected in the prices of railway stocks like IRCON, Jupiter Wagons, and RVNL,” Dr Manoranjan Sharma, Chief Economist- Infomerics Ratings, said.
According to Suman Chowdhury from Acuité Ratings & Research, areas that could have potential impact include oil PSUs which might see higher under-recoveries till the crude price increases are passed through to petrol, diesel, and LPG prices. Further, he said that prices for oil derivatives are likely to rise, impacting the operating margins for sectors like petrochemicals, speciality chemicals, and paints.
Intensifying geo-political risk quotient
With the drone and missile attacks on Israel by Iran, there is a perceptible increase in the geo-political risk quotient, imparting higher uncertainty to the global economic outlook and India might look at higher inflation, higher current account deficit, fiscal deficit, and lower profitability since the manufacturer does not have pricing power due to low demand. Hanna Luchnikava-schorsch from S&P Global, said, “Despite persistent volatility in food prices, India’s consumer price inflation has been on a downward trend since the start of 2024, aided by the deepening deflation in fuel and light category. In a scenario where India’s oil imports and fuel subsidies bill rise, there is also likely to be upward pressure on the current account and fiscal deficits. Along with rising global prices of gold, this could place significant pressure on the Indian rupee exchange rate, triggering another round of depreciation. This would further drive up inflation, and likely undermine the nascent recovery in private consumption and investment.”
Dr Manoranjan Sharma, Chief Economist, Infomerics Ratings, added, “In the case of the Indian economy, this surge in oil prices would negatively impact the triple deficits of the trade deficit, current account, and fiscal deficit. Since apart from macroeconomic fundamentals and the growth prospects of the firm and the industry, the capital market is also sentiment-driven, this war could negatively impact the BSE and NIFTY levels. But contrary to popular perception, extensive pessimism is unwarranted. It would be inappropriate not to factor in the strength and resilience of the Indian economy for a comprehensive assessment and perspective.”
While Acuité Ratings & Research have a forecast of 6.7 per cent and 5.0 per cent for GDP growth and retail inflation in FY25, these, it added, can become vulnerable to revisions if the Iran-Israel conflict escalates further.
Risk to RBI’s rate cut decision
S&P Global Market Intelligence baseline forecast envisions India’s consumer price inflation to moderate from 5.7 per cent in 2023 to 5.1 per cent in 2024. “But if global oil prices rise considerably, the disinflation trajectory would be reversed, with average CPI inflation likely exceeding 6 per cent in 2024. This would also encourage the RBI to raise interest rates further, leading to tighter financial conditions for longer, with a likely negative impact on growth,” said Hanna Luchnikava-schorsch.
Dr Manoranjan Sharma concluded, “India’s strategically time-tested relationship with both Iran and Israel is fraught with difficulties on the policy and operational front. Israel has long been a trusted defense and security partner. Iran is a major crude oil supplier and has shared concerns about terrorism, the Afghanistan landscape, and the geo-strategically significant Chabahar port. Gathering storms, uncertain times, difficult days ahead.”