Oil Prices, Inflation, Investment Among Worries As Iran-Israel Jousting Continues

Israel’s military chief of staff Harzi Halevi has promised that Iran’s launch of more than 300 missiles and drones against Israeli territory on Saturday will be “met with a response.”

Any impact on oil supplies and shipping can be expected to cloud the unfolding India growth story.

Even though policymakers in the South and North Bloc are maintaining a stiff upper lip on this unfolding drama involving two nations with which India has close diplomatic and economic relations, stock-taking meetings are on to factor in possible oil price and shipping cost shocks and their after-effects on inflation.

Oil Price Shock

“The Americans are talking of broadening the embargo on Iran. The oil markets are sure to be volatile and we will have to factor in costlier crude into our scheme of things,” said Pinak Ranjan Chakravarty, former Secretary (Economic Relations), Ministry of External Affairs.

Crude oil prices have been rising ever since tension in the Middle East started and peaked after news spread of an impending Iranian revenge missile attack on Israel after the later struck Teheran’s diplomatic post in Damascus.

Brent prices which had stood at US$ 77.04 a barrel at the beginning of the year rose to US$ 83.33  by March 1 and peaked at US$ 91.17 on April 5. Since then the market, which had factored in the Iranian response, started declining marginally and stood at US$ 84.53 a barrel on Wednesday at 4 pm IST.

Analysts and bullish crude future punters believe that oil prices could cross US$ 100 a barrel if tensions in the Middle East escalate. JP Morgan Chase & Co have come up with a forecast scenario that sees Brent crude pushing triple digits by September, which would be a first in two years.

Citigroup, in a note quoted by agencies, said if a direct conflict between Iran and Israel begins, then it “could see oil prices trade up to US$100/bbl (or more), depending on the nature of the events.”

However, uncertainty over a potential Israeli retaliation and over how this will play out in the wider Middle East will continue to keep crude and gas markets on the boil.

The Middle East, or West Asia as Indian diplomats prefer calling the region, is a key oil-producing region besides boasting of one of two of the world’s most crucial transport choke-points – the straits of Hormuz and the Suez Canal. Hormuz alone accounts for ships plying with about 21 million barrels per day, or a fifth of the world’s daily consumption.     

While two-thirds of India’s crude oil imports come via Suez or Hormuz and more than half of India’s merchandise trades with Europe and North Africa.

Exports and Imports Costlier

India’s trade with the world has been suffering for the last few years – first because of a global pandemic and then as recessionary trends in its key markets hit exports out of India. India’s merchandise exports for 2023-24 stood at US$ 677.24 billion, 5.4 per cent below last year’s export effort.

With shipping and insurance rates going up since the Houthis started attacking shipping in the Red Sea straits that lead to the Suez Canal, Indian trade has been suffering more with exports to its key markets in the Gulf and Europe becoming costlier by nearly 40 per cent.

“Shipping costs are already up because of the Houthi attacks and this could worsen the pinch felt by exporters and importers,” said Chakravarty, who is also a co-founder of DeepStrat, a strategic think tank.

The recent tit-for-tat attacks by Israel and Iran are expected to raise an already elevated shipping costs by another 20-25 per cent over the next few weeks, according to shipping analysts.

Air cargo rates between India and Europe have risen by 160 per cent in the first week of April year-on-year according to World ACD Air Cargo Market data. The tracking agency said, “India-Europe spot rates rose to more than U$4 a kilo" by mid-April.

Inflationary Expectations

India imports about 80 per cent of its crude oil requirements – from a variety of sources ranging from Russia and South America to Nigeria, and the Gulf countries – with Iraq, Saudi Arabia, and UAE being – major players. Its cost per barrel which includes shipping cost has already increased from US$ 83.76 in April last year to US$ 90.46 this year and this is expected to go up as tension in the oil-rich Middle East drives up prices and shipping.

“Inflationary expectations are already showing up in oil and gold prices ... this may have a cascading effect on other commodities. We are already seeing the exchange rates going up. We have no option but to absorb these price increases," said N.R Bhanumurthy, Vice Chancellor of Dr. B.R. Ambedkar School of Economics University, Bengaluru.

During the course of the elections up to June when the results are announced, prices of petroleum products are not expected to be raised in the retail market as the government-run petroleum refiners are unlikely to take any measures which could affect public sentiments. However, price increases, if any, will have to be passed on to consumers.

The country’s annual retail inflation rate slowed in March to 4.85 per cent from 5.09 per cent on the back of lower fuel prices. However, with the possibility of crude oil prices going up, inflationary expectations are up.

Jittery Investors

Wars tend to spook investors and many long-term investors -- global and domestic -- planning to set shop or expand in emerging markets like India. They may well delay their investments, both in the real world and the world of stocks as a result of any prolonged conflict in the Gulf region.  

“Investment climate will remain clouded by the possible chain of reactions and counter-reactions in the volatile Gulf region,” said Arun Kumar, former Professor of Economics at Jawaharlal Nehru University, adding that such uncertainty could also impact not just foreign direct investment, but also foreign institutional investors who bet heavily on Indian bourses. Remittances sent by Indians working in the Gulf will also be affected, he said.  

Rate cuts by central bankers ranging from the US Federal Reserve to India’s RBI may also be delayed if Inflation flares up, keeping the cost of borrowing higher than was expected for the year -- an outcome that investors who have blueprints for fresh investments in India and other parts of Asia have been fearing for some time.