Lower crude prices, a positive for India

Wed, 17 Apr Pre-Open

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Oil is a crucial global commodity. In the race to become global super power, gaining energy security is a topmost concern. No wonder the crude prices are so widely tracked across the globe. Crude prices, after a long duration, seem to be softening. For India which is dependent on imports for around 80% of the crude oil requirement, this is a positive development. When crude prices go up, the country needs to shell out more and more money on oil imports. Not just that, since fuel product prices are not market determined, the Government needs to compensate state run oil marketing companies for the under recoveries. The rising fuel subsidy bill has been a significant drag on the country's financial health. It is one of the key culprits of rising fiscal deficit, something that brought country on the verge of a rating downgrade. Hence, the softening of crude prices is a positive for the country's financial health.

Currently, the country is facing challenges on multiple fronts - high fiscal deficit, current account deficit and decline in GDP growth rate to mention a few. As crude prices come down, it will keep inflationary pressure under check. This will give more room to Reserve Bank of India (RBI) to cut interest rates which is crucial to promote investments and capital formation which ultimately will promote growth.

However, as far as impact on upstream and downstream segment is concerned, as suggested by an article in Livemint, it will depend on the extent of crude price decline and subsidy sharing formula which is not fixed.

Impact on upstream segment

The decline in crude prices will lower gross realizations for upstream companies. However, the state run upstream oil companies like Oil and Natural Gas Corporation are made to compensate oil refining companies for the under recoveries incurred on selling regulated fuel at prices below market rates. This effectively lowers their net realizations and erodes bottomline. Hence, while losses on subsidies will come down for upstream segment as crude prices soften, the final impact on net realizations will depend upon extent of crude price decline and share in the subsidies which are not fixed.

Impact on downstream segment

The state run oil refining companies like Bharat Petroleum Corporation Ltd and Hindustan Petroleum Corporation Ltd have to sell certain fuels at fixed prices. In the case of rising oil price scenario, input costs for these companies go up and cannot be recovered from end customers. While these companies do receive compensation from the Government, it comes after a long delay. In the meantime, the companies have to borrow money to fund their working capital needs that leads to huge interest expenses. As fuel prices come down, we expect relief on the borrowings and interest costs front. That said, the impact on bottomline will again depend on extent of crude price decline and subsidy sharing formula which is not fixed.

To conclude, a decline in crude oil prices will be a positive for the country. That said, crude prices are known for being volatile and whether the trend stays or not is something that time will tell.