Spike In Crude Prices

Spike In Crude Prices

Subject – Economy

Context – The recent spike in global crude oil prices above the $80-per-barrel mark led to a dip in key indices in the stock market as concerns rose over the impact on inflation, currency and input cost for companies across sectors.

Concept –

Reasons for rise in oil prices –

• Crude prices have risen sharply in 2021 on the back of a recovery in global demand as the world economy recovers from the pandemic.
• Supply restrictions maintained by the OPEC+ grouping , too, have kept international oil prices high. So far, these oil-producing economies have signalled only slow production increases, which is leading to a rise in gas prices as well.
• A shortage of gas in Europe and Asia has boosted demand for oil for power generation.
• The rise in crude prices has contributed to petrol and diesel prices hitting all-time highs in India.
  • Prices of petrol and diesel in India are pegged to a 15-day rolling average of the international prices of these fuels.
  • High taxes by the central and state governments too have contributed to retail prices being far higher.

How will this impact stocks and bonds?

• While a sharp surge in oil prices can create short-term panic in the equity markets, historical precedents show that equity markets often bottom out alongside a bottoming out of oil prices.
• Analysts point out that increasing oil prices reflect growing demand in the economy, and equities often deliver more than the expected inflation that the oil surge may lead to.
• In line with oil, prices of other commodities including coal has been rising sharply.
• Any hint of sustained high inflation can result in rising yields and falling bond prices.
• For bonds, central bank policies will play a far greater role than the direct impact of rising oil prices.

How does it impact currency and the economy?

• Rising crude prices tend to depress the rupee, as India being a major importer of oil needs more dollars to buy the same amount of crude.

How can it hurt inflation, government finances, and the markets?

• Crude import accounts for nearly 20% of India’s import bill.
• A rise in prices could lead to a surge in inflation, forcing the RBI to go for liquidity tightening measures followed by rate hikes.
• An increase in crude prices means an increase in the cost of producing and transporting goods. It thus adds to inflation;
• A surge in crude prices tends to increase India’s expenditure and adversely affects the fiscal deficit.