India less vulnerable to oil shock

NEW DELHI: In his Independence Day address, Prime Minister Manmohan Singh hinted at the possibility of raising the prices of subsidised petroleum goods due to the rise in international prices of crude.

The good news is that Indians can feel luckier than Americans. Reason: the government taxes fuel so highly that changes in crude prices can substantially be neutralised by just adjusting the taxes, leaving consumers unaffected. It is high taxation of fuels that enables the government to subsidise cooking gas and kerosene prices so much.

The US charges a 17% tax on gasoline (petrol) and 19% on diesel while in India it is as high as 55% on petrol and 34% on diesel.

“The government has the cushion to absorb the increase though this depends on how high and for how long the prices rise,” says Leena Srivastava, executive director of The Energy Research Institute (TERI). So when oil soars, more than India it is the United States that is vulnerable.

Experts, however, feel that the best way to deal with energy security issues is to use energy more efficiently. This means, cheap energy isn’t necessarily a good thing.
As things stand now, the government, along with oil companies, is absorbing 87.5% of the impact of crude price increases - valued at Rs 73,500 crore in terms of underrecoveries by oil companies in 2006-07.

As prices have risen further since that calculation was made in June, the subsidy numbers will be higher now. Hence don’t count on the government carrying the burden indefinitely.

Kirit Parikh, member, Planning Commission, and chairman of the committee that has drafted the new Energy Policy, advocates a policy of higher prices, higher efficiency and lesser dependence on imported oil.

The country’s dependence on West Asian crude increased to 73% during 2005-06 from 67% in 2003-04.

While agreeing that the impact of high oil prices on inflation will be significantly large, Parikh says that Indian industry is not too dependent on crude oil. It is only the domestic transport sector that is a large consumer of petroleum products and here efficiencies can be brought about.

“Alternative scenarios and response measures are absent in India. We need to urgently prepare for this. At least a strategy can be designed,” says Leena Srivastava of TERI.

Parikh feels that unlike the oil shock of the 1970s, the country is in a better position to tackle the situation today. The oil shock of the 1970s saw a cut in imports of essential commodities. “We were much more vulnerable to imports then than we are now,” says Parikh. He says imports other than energy may not suffer.

A Standard & Poors study of various oil price scenarios says that even Europe is not very vulnerable to an oil price spike, because GDP growth there is less correlated to energy consumption.

Having survived higher energy prices unscathed so far, the US economy is more sensitive to costlier oil now that it was year ago, says the report. About 8% of US crude oil supply is already under a shutdown due to corrosion in BP’s Alaska pipeline.

This has happened at a time when the economy’s growth rate has slowed down to 2.5%.

S&P has worked out four scenarios for the US and the consequent impact on oil prices.

In the best case scenario, the West Asia conflict is contained and oil falls below $70 a barrel by year-end and to $60 by the end of 2008.

The second scenario is of Iran taking off the market its export output of 2.7 million barrels  a day. In this case, world oil prices could soar to $100 a barrel and settle at $95.
“The scenario 2 impact on the US is substantial with a near recession starting in the fourth quarter and continuing through mid-2007,” says S&P. Though Iran has ruled out any such possibility, it could do so if it is attacked.

The third scenario is one where Iran bottles up the entire supply from the Gulf by closing the Straits of Hormuz. According to TV Shanbhag, advisor, Mercator Lines, India’s second largest private shipping company, this will hit oil supplies to all parts of the world, including India. The strait is the narrow space in the Arabian Gulf that allows shipments to move between the UAE and Iran.

The fourth scenario is one where only the US faces an oil embargo. Ruling out this possibility, S&P says that once oil is in the ocean, it will go wherever there is money.
Shipping experts also rule this out. US forces are already present in the region, points out Shanbhag.