DH Deciphers | Why have oil prices crashed? Why are we still paying the same price?

International crude oil prices crashed dramatically on Monday to around $30 per barrel, falling over 50%. This is a sharp decline from around $66 per barrel average last year, and the steepest fall since the Gulf War of the 1990s. What led to this fall? What will its impact be on India and across the world?

What determines the price of crude oil in global markets?

There are three main types of benchmarks in crude oil –- Western Texas Intermediate (WTI), Brent Crude and Dubai Crude. These benchmarks serve as reference prices for buyers and sellers of crude oil. Mainly used in the US, WTI is light and sweet (low-sulfur), thus making it ideal for producing products like low-sulfur gasoline and low-sulfur diesel. Dubai Crude, or Fateh, is a heavy, sour crude oil extracted in the Emirate of Dubai, part of the UAE. But the most popular international benchmark has been Brent Crude -- a mix of crude oil from 15 different oil fields in the North Sea. Though it is not as light or sweet as WTI, it is still high-grade crude. The prices of all types of crude depend on global demand and supply –- which is directly proportional to the economic activity across the globe. Growing economies increase the demand for energy in general and especially for transporting goods and materials from producers to consumers.

Why are crude oil prices tanking right now?

Just as a growing economic activity demands more oil, slowing economic activity reduces the demand for it. China accounts for 28% of the world’s total manufacturing, compared to America’s 18%. Within China, a large part of economic activity happens within the Hubei province, the epicentre of the Coronavirus outbreak. With the lockdown in Hubei province, a quarter of the world’s production has been wiped off in one go, even if temporarily. With Covid-19 spreading fast across the globe, the lockdowns, partial or full, are spreading to cities across the world. This has hit economic activity, with many fearing that we are headed for a global depression. This ultimately has led to a crash in crude oil prices. What expedited Monday's crash was expedited by the fact that Saudi and Russia -- two members of OPEC+ -- were dragged into a crude price war.

Why are crude oil prices important for India?

India is the world’s third-biggest importer of oil, with almost 80% of its oil demand being met through imports. So, a fall in crude oil prices would result in a lower fiscal deficit (a shortfall in a government's income compared with its spending), and a lower current account deficit (CAD-excess of exports over imports) for the government.

For every $10 a barrel rise in crude oil prices, India's CAD expands by 0.4% of GDP. Every 10% increase in crude oil prices can push up inflation rate by 20 basis points. Besides, a rise in crude oil prices can increase the dollar demand, hurting the rupee-dollar exchange rate.

Why aren’t the pump station prices falling?

Despite the crude oil prices crashing by almost 50%, petrol prices at pump stations have eased by only 4%. The reason: when the prices of the crude oil fall, the government sees it as an opportunity to shore up its revenues. The cost of making crude oil is just one-third of the rate you buy petrol at. The taxes on petrol and diesel hike it up. In such times, the government has resorted to increasing the taxes to keep the pump prices at existing levels. Also, as foreign funds have been pulling out of the Indian market, demand for the US dollar has increased and the rupee has crashed to sub-74 mark for the first time in about 18 months. This negates a bit of gain India would have seen due to the crash in global crude oil prices.