The geopolitical tension due to the Russian-Ukraine crisis is having a profound impact not only on the region but also across the world. The heat of the war is felt by the world economy with the crude oil prices flaring up to a 14-year high of US$139/bbl( on 7-Mar-22). The soaring crude oil prices have in turn made the stock market volatile and the rupee hit a low. The crude oil prices may remain volatile depending on how the Russian-Ukraine crisis unfolds in the coming days.
But how do rising crude oil prices impact the economy, currency, and stock market?
Read along to know-how.
Before proceeding further, let us take a look into India’s crude oil landscape:
- India is the third-largest consumer of crude oil at 5.35 million barrels/day.
- Almost 85% of India’s crude oil demand is fulfilled by imports.
- India is also the third-largest importer of crude oil in the world.
- India has imported crude oil of over US$100 billion in the fiscal year 2021-22
How rising crude oil prices affect the economy?
- Rise in cost of production: The higher price of crude oil and its derivatives may affect the production cost for companies across sectors such as airline, paints, tyres, footwear, lubricants, logistics, construction materials, and chemicals for whom crude oil is the major input.
- Rise in transportation cost: The transport sector is driven by crude oil. Thus, the rise in crude oil prices will have a direct impact on transportation costs. Transportation of goods, people, services become costlier with rising crude oil prices.
- Inflation: A rise in production and transportation costs will increase the prices of goods and services creating a ripple effect in the economy. Common men feel the pinch of the price hike as they will have to compensate for the rise in inflation with their wages.
According to a report by the Bank of Baroda, every 10% increase in crude oil prices, the wholesale price index (WPI)* increases around 0.9%, and consumer price index (CPI)* may increase by 40-60bps (1bps=0.01%)
*source: BoB Economics
How rising crude oil prices affect currency?
As mentioned earlier, India is heavily dependent on crude oil imports. Thus, a surge in global crude oil prices tends to push up import bills and widen the country’s trade & current account deficits. The rupee comes under stress causing its depreciation.
According to ICRA* (Investment Information and Credit Rating Agency of India Limited),
- The current account deficit (CAD) is likely to widen by approximately US$14-15billion (0.4%ofGDP) for every US$10/bbl rise in the average price of the Indian crude basket.
- If the price averages US$130/bbl in FY2023, then the CAD will widen to 3.2% of GDP, crossing 3% for the first time in a decade.
*source: ICRA report
How rising crude oil prices affect the stock market?
As we mentioned before, the rise in oil prices has a major impact on the economy and imports which influences the investors’ sentiments. The ripple effect caused by the spike in crude oil prices usually pushes the panic button in the stock market. The concern around the crisis makes investors pull their money back or stop them from investing in the markets causing the market to plunge.
For instance, the crisis due to the Russia-Ukraine war made crude oil hit a high of US$139/bbl, Sensex crashed around 1500 points and the NIFTY index crashed around 500 points.
Let us see how NIFTY reacted in the past for rallying crude oil prices in the table below:
|Period||Increase in Crude oil (%)||NIFTY(%)|
|01-Mar-2006 to 17-July-2006||28.28||– 3.70|
|01-Jan-2008 to 04-July-2008||51.34||– 34.64|
|17-Mar-2015 to 12-May-2015||39.78||– 6.84|
source: IJEEP Report
Note: The general correlation between crude oil prices and the stock market is observed to be true most of the time. However, it need not be the case every time.
The companies that get affected by the volatility in the crude oil prices:
Indigo Airlines, SpiceJet, Asian Paints, Berger Paints, CEAT, MRF, Pidilite, 3M India, VRL Logistics are to name a few.
We hope that now you can connect the dots on how the Russia-Ukraine war is creating a domino effect on the economy, currency and stock market. Given the uncertainty of the situation, the long-term effect of the war on the economy and stock markets is still unpredictable. Historical trends have shown that stock markets enter into a panic mode and fall as crude oil prices surge showing a negative correlation between the crude oil price and the stock market. However, there are also exceptions to the trend as seen in the past. We can conclude that the economy’s reaction to the crude oil prices strongly influences the stock market movements than the change in crude prices alone.
Disclaimer: This blog is exclusively for educational purposes and does not provide any advice/tips on Investment or recommend buying and selling any stock.