How Iran’s oil matters to India

The US decision to end sanctions waiver given to India on crude oil import from Iran is bad news and comes at a bad time, when the Organisation of Petroleum Exporting Countries (OPEC) countries have agreed to cut production and the supply of oil from Venezuela and Libya are disrupted. India, which sources 30% of its energy from oil and imports more than 80% of its oil requirement (87% in 2018) is going to be affected.

The withdrawal of the sanctions waiver on Iranian oil will have many implications, starting from India’s fiscal finance to exports to growth. Iran was the third largest exporter of oil to India in 2018-19. Energy is one of the most important inputs for the growing Indian economy and, therefore, any disturbance in its supply, leading to increase in prices, will affect growth acceleration and general prices.

Energy consumption in developing countries has been rising quickly and significantly faster than in developed countries. Today, India is one of the largest producers and consumers of energy in the world, being the third largest producer of power in the world. India is passing through the most energy-intensive phase of its economic growth. The world’s per capita energy use is 1919.4 kg of oil equivalent (kgoe) while the per capita energy use in India is 637.4 kgoe, which is only 33% of the world average.

However, India is expected to increase threefold its energy consumption by 2035 to 1,516 million tonnes of oil. India’s consumption of petroleum products stood at 193.53 MMT during April 2018- February 2019. In fact, India’s fossil fuel consumption will also increase at a rapid rate. According to IEA 2015, India will be among the largest crude oil consumers and importers by 2040.

Iran’s crude oil exports to India are available on favourable terms of pricing and credit. India gets credit period of 90 days from Iran, compared to 30 days in general, thereby giving more space to domestic Indian refiners in terms of more floating money, lower working capital and lower borrowings. India also gets the option to import crude oil on cost, insurance and freight (CIF) basis from Iran, as opposed to a free-on-board (FOB) model, thereby saving the freight and insurance charges. Without the waiver, securing insurance for crude oil and refineries, and finding alternative oil sources, would be challenges for India. India will have to increase imports from countries like Saudi Arabia, Iraq and Qatar, if at all these countries agree to augment production and export oil to India in the very short term.

The US sanctions have made Iran apprehensive of losing its market share to other OPEC countries. In fact, Iran has been continuously warning OPEC members against increasing production unilaterally. Once Iran’s oil exports are brought down to zero, there would be a temporary spike in the world’s oil prices, unless the shortfall is immediately made up by other major oil exporters, which is unlikely given the present scenario. There could also be disturbance to the world oil supply chain as Iran has been threatening to block the Strait of Hormuz, through which two-thirds of the world’s maritime oil trade takes place.

India-Iran economic relations

The withdrawal of the waiver has created uncertainty in India-Iran economic relations, particularly bilateral trade. For example, Indian exports of commodities such as Basmati rice to Iran. Basmati rice exports to Iran is substantial, and any moderation in sales to Iran could have a depressing impact on Basmati rice prices globally. Basmati exporters are worried about their recovery of outstanding dues for the shipments already made.

The stopping of sanctions waiver not only disrupts India-Iran economic relations but also India’s strategic plan. India connects with Iran solely through Afghanistan, and Iran also provides India a shorter route to Central Asia and Eastern Russia via the Chabahar Port.

Central Asian countries Kazakhstan and Uzbekistan desire to connect with India to strengthen their economic partnerships with India using connectivity via Iran. India wants to provide an alternative to China’s Belt and Road Initiative, for which Iran is an important element in India’s Indo-Pacific construct to connect Eurasia with the Indian Ocean and the
Pacific. To strengthen its economic ties with Russia, the International North-South Transport Corridor (INSTC), currently under negotiations, will connect India with Russia via Iran. Iran is also critical for India to counter-balance Pakistan and securing Afghan interests in the long term.

If the gap in oil supply due to sanctions doesn’t get filled up soon, world oil prices may shoot up, which has major implications for the Indian economy. As India imports about 75-85% of crude oil annually, the surge in crude oil prices could adversely affect India’s fiscal situation unless the price rise is passed on to customers. In any case, whether increase in fiscal deficit or increase in oil prices, may affect inflation. At present, any tight monetary policy is best avoided. Of course, it will have impact on India’s growth acceleration, especially manufacturing, as oil is a major input. Further, the rise in crude oil prices will have a negative effect on the rupee, inflating the import bill and affecting the stock market. The current account balance, which had been improving over the last few years, may get worse.

Unless the gap in oil supplies is filled up with exports from other countries, the sanctions will have far-reaching implications not only on India but also on the world economy. There is a huge economic cost to India and India should bargain hard with the US, leveraging the two countries’ economic and strategic ties, to minimise the impact of the US decision on Iran on India.

(The writers are Professor and Research Analyst, respectively, Institute of Economic Growth (IEG), Delhi)