Friday, October 10, 2014

Opinion: When oil loses, India wins

Crude oil prices have softened from a high of $125/barrel to $90/barrel and India is looking at a cut in Diesel prices after a gap of five years. This possibility was discussed in an earlier post on this blog. (Link: http://booksmarketsandplaces.blogspot.in/2013/11/diesel-prices-and-inflation-correlation.html)

Source: http://www.investing.com/commodities/brent-oil
While crude in a bear market is good news for India, it is likely find support around $80-85 per barrel. And a bounce from those levels may not be sustainable for following reasons.

Consumer turning into a producer: The biggest oil guzzler (USA) is focusing on domestic production and reducing its dependency on imported oil. A Bloomberg report says the oil production in the US has surpassed that of Saudi Arabia this year (Link: http://www.bloomberg.com/news/2014-07-04/u-s-seen-as-biggest-oil-producer-after-overtaking-saudi.html)

Source: DOE
Overcapacity: As US reduced its import of oil and the rest of the world’s increase in oil demand does not offset this shortfall, oil producing countries are left with surplus production capacity. They cannot command the prices like before and the competition among oil producing countries led to sharp correction of prices over the last few weeks.

Reducing influence of geopolitics: With the changed scenario of the oil capacity glut, geopolitics has lost its edge on oil pricing. Most of the oil producing countries in the Middle-east, Africa and South America earn their major income by selling oil. While they were happy earning a living selling the precious natural resource – oil, the balance in the market slowly shifted from a seller's market towards the buyer. If those countries don’t sell the oil, they will go hungry. So war or no war, care is taken not to disturb the oil supply chain. As oil exploration is spreading to previously unexplored areas, it is becoming certain that oil sources are not limited to few regions on this globe, it is found at the bottom the oceans, below the glaciers, and new methods are being developed and deployed to extract the trapped oil. New oil routes are being set-up to take them to consumers. So using geopolitics as a tool to take oil prices to a new high will become a thing of the past. And a thing to forget in the days to come.

Benefits to India: 

The lower crude will help India to lower its import bills, so it reduces the trade deficit. Since the subsidy costs on diesel reduce or disappear, there is no need to finance it for the Govt. so the fiscal deficit will reduce. Narrowing deficits help Rupee to appreciate. Lower diesel prices help reduce the cost of transportation and will bring a small relief in inflation. When oil loses, India surely wins.