Where are crude oil prices headed?

There are two schools of thought on where the prices of crude oil are headed over the longer term. In the immediate past, Brent crude prices shot up to $59/b after the President of Turkey Recep Tayyip Erdogan threatened to cut off a pipeline which runs through Kurdistan and supplies 50,000 barrels/day to the world. This was because the Kurds voted for independence in a referendum. Disruptions in supply from bankrupt Venezuela also contributed to the price rise.

According to a recent article in The Financial Times , one school of thought is that the prices of crude oil will remain lower for longer. For two reasons. One, demand is reducing because of rising fuel efficiency, and the drive towards electrification of cars. Two, because supply is rising, especially from shale oil fields in the US, and the improved efficiencies in the shale industry, which has helped it to lower break-even costs. The shale industry is also aided by the well-developed financial markets because it is enabled to lock in future supply contracts when prices spike, as they did, last week. Brent prices later fell to around $55.

Lower crude prices have provided a fiscal bonanza to countries such as India, which import about 80 per cent of its crude oil requirements. This bonanza has enabled it to spend on other things, e.g. it has speeded up its pace of road construction and defence preparedness.

Why is this important? The bonanza has also resulted in profligacy for political reasons, such as in a blanket, instead of targeted, waiver of loans of distressed farmers.

The RBI has stated that farm loan waivers may increase fiscal deficit by 1 per cent, as a reason not to lower interest rates now. The RBI may also, perhaps, be worried about rising crude prices and its impact on India’s current account deficit, the value of the rupee and on inflation. Late rains have harmed the kharif crop (though it has benefitted the rabi crop) and this can result in higher food inflation.

This also explains why the government is pushing the auto industry towards greater use of electric vehicles. Government-owned Energy Efficiency Services Ltd opened a tender for supply of electric cars for government departments, and Tata Motors won 60 per cent of the order. M&M bagged the remaining 40 per cent. Electric vehicles are virtually maintenance-free, as they have far fewer maintenance costs, but unless people are assured of being able to charge at regular intervals, demand will take time to establish.

All countries , including China and India, are pushing for electrification of the auto industry. In the US, the largest auto market, a Congressman from California is to introduce a Bill to ban ICE cars by 2040. This will result in a huge change in demand for commodities, with the demand for things such as lithium, cobalt and nickel shooting up and for platinum group of metals used in catalytic converters, slumping.

The RBI has lowered its forecast for GDP growth for the year to March 2018 to 6.7 per cent from 7.3 per cent. This is a good growth rate. Planning for the future and legacy issues are the two important problems that our country faces currently. We urgently need to remedy these.

(The writer is India Head, Finance Asia/Haymarket. The views are personal.)

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