Recently, crude oil prices have touched a record high of $88 a barrel, the prices not seen since 2014. The prices are further expected to reach as high as $100 per barrel in the coming days. This is sparking fear among the emerging markets worldwide. In this post, we will see how the prices of crude oil have cascading effect on the economy of a country and in turn on the stock markets.
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What’s The Fuss About Crude Oil?
For starters, crude oil is the raw material used to produce petroleum/gasoline. Depending upon where you live, it is either called gasoline (the US and Latin Countries) or Petrol (Europe and Asia). Crude oil is a fossil fuel and is a non-renewable energy source. Most of the crude oil reserves are located in a few select countries in the world. The prices of crude oil though determined by market forces, in reality, are actually under the control of OPEC. The Organization of the Petroleum Exporting Countries (OPEC) is a cartel of 13 oil-producing countries. They alter the production (supply) taking view of the demand to control prices. So, OPEC decides the prices you pay for your petrol/diesel? No, not just OPEC! The lot of portion you pay for your petrol goes towards the State (VAT) and Central taxes (Excise duty).
Crude Oil Prices Are Up, So What?
India like many other countries doesn’t have major oil reserves in the country. Hence India imports 85% of its oil needs from other countries. You see, these oil bills have to be paid in foreign currency. It means India needs to have enough foreign reserves to pay for its oil bill. Also, more import bill means more India needs to shell out more money. This widens what is known as the fiscal deficit of the country. A fiscal deficit is basically the difference between the revenue and expenditure of a nation. The more expenditure you have, the wider is your fiscal deficit. This is problem number one.
An increase in crude oil prices rises the prices of various goods produced in the country. This is because, for many goods, the crude oil is either directly (as a raw material) or indirectly (as diesel or aviation turbine fuel (ATF) for transport, etc.) consumed during the production. This means there will be a general rise in prices along with the rise in crude oil prices. This is basically inflation, beating your bum. This is problem number two.
Crude Oil Prices Are Up, But Petrol Prices Aren’t?
It seems that you are not following the news, political news in fact. It’s election season! With impending assembly elections in various states, the oil marketing companies (OMCs) have stopped revising the petrol/diesel prices upwards. For instance, Petrol prices have almost remained static from December 2nd even though the crude oil prices have gone up from $70.5 a barrel to $88.5 a barrel. That’s a 25% increase! They say every $1 increase in crude oil prices will drive the petrol and diesel prices by 50p per litre. This means we will certainly face the music once the elections get over. I don’t think we are not far from seeing prices of say ₹150. Unless the state and central governments reduce their taxes, there is no way OMCs will keep the petrol and diesel prices at present levels.
Crude Oil Effects on Stock Market?
The rising crude oil prices are a bane for any economy. The 1991 Gulf war saw India facing what is famously known as the balance of payments crisis. India did not have enough foreign exchange money to pay for its oil imports. This resulted in a cascade effect, affecting the Indian economy. The stock markets never like the uncertainty in the economy. A lot of times, when the economy blooms, the stock market blooms as well. Though a rise in crude oil prices is good for the listed companies dealing in petrochemicals, it is not good for all sectors. Since the stock markets are a reflection of the whole economy, they do like the growth of the whole economy rather than a particular sector.