Warren Buffett has always been unambiguous about opportunities. For, he believes, they “come infrequently.”
Thousands of miles away from Buffett’s Farnam Street office in Omaha, United States, a bunch of policy makers and bureaucrats in New Delhi is busy sizing up what could potentially open a new chapter in India’s energy security.
Due to the Covid-19 pandemic, Brent has crashed to 20-year lows and WTI crude is trading below USD20 a barrel. For a country like India, which imports 85% of its oil requirement, this could be an opportune moment to buy more for less.
Can the government, already under pressure for the current economic situation, put out the bucket? Or will it be a missed opportunity?
While buying oil cheap will ease India’s current account deficit, a weak fiscal situation, timid economic activity due to the lockdown, and a prolonged slowdown thereafter could make the task difficult. The problem here is multi-dimensional, as you will see.
Factor #1: Short on money
Since January 2020, WTI crude has plummeted from USD66 per barrel to below USD20 on Tuesday. Leading producers in the OPEC (Organization of the Petroleum Exporting Countries) block such as Saudi Arabia and United Arab Emirates have said they would increase output and slash prices, giving big consumers such as India a chance to fill up reserves at discounted prices. Saudi Aramco has cut prices for the Asia region by more than USD10 per barrel for April to push more of its produce into the market.
To take advantage of the situation, public-sector oil companies as well as private majors are trying to wrap up short-term contracts and source large crude containers.
A senior oil ministry official tells ET Prime, “India plans to take advantage of the low oil prices from Saudi Arabia and the United Arab Emirates to top up its strategic petroleum reserves.”
This official says his ministry has sought around INR5,000 crore from the finance ministry to procure atleast eight-nine very large crude carriers.
But money is not so easy to come by these days, considering the tight ship the government is running at present.
Ditto is the story for Indian Strategic Petroleum Reserves (ISPR), a government body responsible for maintaining the country’s strategic petroleum reserves. ISPR is exploring ways to fill in the crude-oil reserves. But it doesn’t have enough funds.
HPS Ahuja, chief executive officer and managing director of ISPR says, “We don’t have any funds and hence the petroleum ministry has asked the government for funds to increase storage.”
As of now, India is unable to take full advantage of the situation.
“We have procured one very large crude oil carrier and have filled 56% of our total reserves. So far, we can maintain 9.5 days of reserve,” Ahuja adds.
That’s tiny, considering the reserves many large economies maintain.
Strategic crude-oil reserves, which are typically state-funded and meant to tackle emergency situations, allow a country to tide over short-term supply disruptions. International Energy Agency (IEA) members maintain emergency oil reserves equivalent to at least 90 days of net imports. India’s oil marketing companies (OMCs) have 64 days of storage as of now.
Currently, India has 5.33 million tonne (mt) of underground strategic-reserve facilities in Visakhapatnam, Mangaluru, and Padur (Karnataka), while another 6.5mt facility is coming up at Padur and Chandikhole (Odisha). India has also filled its 1.03 million tonne Visakhapatnam facility with Basra oil from Iraq, another OPEC producer.
Work is on at two more facilities — at Bikaner in Rajasthan and Rajkot in Gujarat.
Reliance Industries, operator of the world’s biggest refining complex, is also trying to take advantage of the situation. It has bought two million barrels of additional Saudi oil in a very large crude carrier due for loading in April. It is expected to add similar quantities for next month as well.
If India could step up oil imports now, it will be a shot in the arm for state-owned refiners Indian Oil Corporation (IOC), Hindustan Petroleum (HPCL), and Bharat Petroleum (BPCL), as lower procurement costs will boost their refining margins. But remember, the gains will be offset by inventory losses. The overall demand slowdown will restrict gains.
Analysts believe that low prices may benefit India in the short run, but if the situation doesn’t change, the long-term low prices will hurt the economy more.
There is another factor that could come in the way.
Shipping rates have jumped three times due to the coronavirus pandemic. A senior official with an OMC says, “The high freight and shipping charges are still making it harder and the delivered rate for crude will still be very expensive. Freight costs account for almost a third of the crude overall costs.”
Oil producers such as ONGC and Oil India will take a hit on their price realisations, which will impact profits. ONGC shares are now trading at a 16-year low of INR60 a share.
The OMCs and the government are cautious about procuring more oil, as some of the benefits from lower prices may get negated due to a downturn in the economy and the nationwide lockdown.
Factor #2: A slowing economy
Despite the right intentions, the finance ministry is having a hard time allocating funds for higher crude oil procurement. It is already under pressure with slowing growth and a looming fiscal deficit. The financial sector is bleeding with huge non-performing assets, GDP has hit a historic low, and unemployment rate is at a 45-year high. The fiscal deficit settled at 3.8% for 2019-20, against a target of 3.3%.
There is one more factor that could shave off the benefits of low crude oil prices. A weakening rupee. The Indian currency has depreciated from INR71 against the dollar to an all-time high of INR76.25.
Y V Reddy, former Reserve Bank of India governor, at a book launch of former planning commission vice-chairman Montek Singh Ahluwalia in New Delhi in February, said, “The continued decline in the GDP growth rate for six quarters, the trouble in the financial sector and the issue of employment generation tells something that is structurally wrong.”
Moody’s Investors Service has recently slashed its estimate for India’s growth during the 2020 calendar year to 2.5%, from an earlier estimate of 5.3%.
India spends more than USD100 billion every year for importing crude oil. A reduction in prices helps the country save big on import bills.
As per the Economic Survey, every USD10 per barrel decrease in the price of oil increases GDP growth by 0.2-0.3 percentage points, decreases wholesale inflation by 1.7 percentage points, and leads to savings of the current account deficit by about USD9 billion-USD10 billion.
Going by the current trend, it is estimated that for FY21, the import bill could decline by almost half at USD64 billion if crude oil stays at a USD20-USD30 a barrel range for the entire fiscal. A one-dollar dip in crude oil price reduces the country’s import bill by almost INR3,000 crore while a rupee fall in value of the currency against dollar results in increased spending by up to INR2,700 crore.
Factor #3: Low excise mop-up due to lockdown
Given the tight fiscal headroom, the government is trying other means to arrange for money to fund crude oil purchases.
A senior finance ministry official tells ET Prime, “This is the opportune time for us. The government has taken this step of increasing duty to raise some revenue in view of a tight fiscal situation. This will be used to fund our projects and we will see if we can fund our strategic reserve projects.”
On March 14 ,the government raised excise duty on petrol and diesel by INR3 per litre, the steepest hike since 2012. Since 2014, duties on petrol and diesel have been increased 14 times. During 2014, excise duty on petrol and diesel was INR9.2 and INR 3.46 per litre, respectively. This has now increased to INR22.98 and INR 18.83 per litre.
This could have helped the government to fill its coffers. But the lockdown to contain Covid-19 spread has hit oil demand in the economy. There is almost no demand for oil in the economy. The manufacturing sector has come to a standstill and vehicle movements are limited only to trucks ferrying essential commodities.
While the strategy of raising resources through excise duty did not work, it gave Congress, the main opposition party, some ammunition against the government.“For the last six years, the government and oil marketing companies have been making huge windfall gains amounting to lakhs of crores per year. The BJP government has looted more than INR16lakh crore in the last five years by charging exorbitant taxes on petrol-diesel,” the party said in a statement earlier.
The bottom line
The coronavirus pandemic has led to a crash in global oil prices. But it has created a peculiar situation for India’s policy makers. While it makes economic sense to take advantage of the low prices and strengthen reserves, the question is will India need so much oil in the near future given the growth pangs the economy will face after the pandemic is over?
Mahesh Vyas, managing director and chief executive officer, Centre for Monitoring Indian Economy, says, “New risks have emerged in the form of the Covid-19 virus. This threatens to shutdown economic activity in many pockets of the world. This could disrupt some supply chains in India, and it has started to impact tourism and hospitality industries which are significant providers of employment. The unemployment rate has been rising steadily for over two years now.”
If the supply chain slows down further, the imported oil will only add to inventory costs.
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