No tipping point yet PDF Print E-mail
Thursday, 27 April 2006 00:00
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Though oil prices continue to soar to record levels, they are not about to overturn the global economy, or even India’s. Last year’s trade deficit of $40 billion was accounted for wholly by oil imports, but since that was easily financed by surpluses on the trade in invisibles, by remittance and investment inflow, the Indian economy faces no external problem. Nor is inflation a threat, indeed the wholesale price situation now is better than before oil prices began their rapid climb.
This is something of a surprise, since oil now accounts for over 6 per cent of India’s GDP—the level that existed in the US when the 1973 oil price hike sent it into recession. But a Crisil simulation indicates that the difference in economic growth between oil at $60 a barrel and $80 could be as little as 0.2 percentage points, and another 0.3 percentage points between $80 and $100. The reason for this is simple. The industrial sector, which consumes roughly half the commercial energy in the country, has been a decline in energy intensity, thanks partly to industry using more energy-efficient means of production and partly due to restructuring that has seen a faster growth in industries that are less energy-intensive. As a result, the ratio of energy to cost of production has fallen from 7 per cent in 1990-91 to 5.7 per cent in 2004-05. While Crisil has done no analysis of what the tipping point would be (since interest rates are also on an upswing now, industry’s head room for higher oil prices has to be lower), its global parent S&P’s chief economist reckons prices would have to touch $100 a barrel before they had any serious impact on the global economy. The fear, of course, is that this may not be a remote scenario.
Hiding behind the price turbulence is the issue of availability. The key factor to be kept in mind is that the price surge this time round has resulted from growing demand, unlike past episodes when it was shortfalls in production/supply that provoked a price spike. And with countries like China and India growing rapidly, it is no one’s case that global energy demand is likely to drop. Current estimates of growth in world demand would imply that oil-producing capacity will have to be increased by 50-60 per cent by 2025, or by around 2.5 per cent annually. That compares with a 1 per cent annual increase since 1980. Iraq’s failure to increase oil production has not helped matters. Throw in the uncertainties over Iran and the relative infrequency of new oil finds, and the medium-term scenario is not an optimistic one. Ignoring for a moment the eternal fickleness of the oil market, oil prices seem likely to rise further from today’s already high levels.
While India has witnessed no shortage in oil supplies so far, gas availability has already become a serious issue, and most gas-based power plants are running well below capacity for this reason. At a time when gas prices are firming up, in keeping with the higher oil prices, it is obvious that electricity prices have to increase as well. That brings up the broader issue of government pricing policy, and the refusal to allow consumer prices to reflect real costs. One result is that the oil companies are being bled—and this has implications for long-run energy security, as it affects the oil firms’ ability to invest for the future. The issue is not just oil product prices, it extends to energy sectors like electricity, and to energy-consuming industrial sectors like fertiliser—all areas where prices are controlled. As fuel costs climb, it will become impossible to maintain today’s price regime. Some flexibility has to be introduced in all the concerned sectors, and the sooner the better.



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