Emerging Economic Environment Project

Balance of Payment

The Balance of Payments or BoP is a statement or record of all monetary and economic

transactions made between a country and the rest of the world within a defined period (every
quarter or year). These records include transactions made by individuals, companies and
the government. Keeping a record of these transactions helps the country to monitor the flow
of money and develop policies that would help in building a strong economy.
In a perfect scenario, the Balance of Payments (BoP) should be zero. That is, the money
coming in and the money going out should balance out. But that doesn’t happen in most
cases. A country’s BoP statement correctly indicates whether the country has a surplus or
a deficit of funds. A BoP surplus indicates that a country’s exports are more than its imports.
A BoP deficit, on the other hand, indicates that a country’s imports are more than exports.
Both scenarios have short-term and long-term effects on the country’s economy.
o A credit transaction is one that results in a receipt of payment from foreigners.
Examples include:
 Merchandise (goods) exports
 Transportation and travel receipts
 Income received from investment abroad
 Aid received from foreign governments
 Investments by overseas residents
o A debit transaction is one that leads to a payment to foreigners. Examples include:
 Merchandise (goods) imports
 Transportation and travel expenditure
 Income paid on the investment of foreigners
 Gifts to foreign residents
 Aid given to foreign governments
 Overseas investments by residents
Formula of Balance of Payment

The Balance of Payment is calculated using the following method: -

(X-M) + (CI-CO) + FOREX = BOP
Here, X stands for Exports, M stands for Imports, CI stand for Capital Inflows, CO stands for
Capital Outflows and FOREX stands for Foreign Exchange Reserve Balance.

Components of BOP

The BOP comprises two accounts: Current and Capital.

Current Account
The four major components of the Current account are as follows:
1. Visible trade – This is the net of export and imports of goods (visible items). The
balance of this visible trade is known as the trade balance. There is a trade
deficit when imports are higher than exports and a trade surplus when exports are
higher than imports.
2. Invisible trade – This is the net of exports and imports of services (invisible items).
Transactions mainly consist of shipping, IT, banking, and insurance services.
3. Unilateral transfers to and from abroad – These refer to payments that are not
factor payments – for example, gifts or donations sent to the resident of a country by a
non-resident relative.
4. Income receipts and payments – These include factor payments and receipts. These
are generally rent on property, interest on capital, and profits on investments.
 
Capital Account
The capital account is used to finance the deficit in the current account or absorb the surplus
in the current account. The three major components of the capital account:
1. Loans to and borrowings from abroad – These consist of all loans and borrowings
given to or received from abroad. It includes both private sector loans, as well as
public sector loans.
2. Investments to/from abroad – These are investments made by nonresidents in shares
in the home country or investment in real estate in any other country.
3. Changes in foreign exchange reserves – Foreign exchange reserves are maintained
by the central bank to control the exchange rate and ultimately balance the BOP.
A Current account deficit is financed by a surplus in the Capital account and vice versa. This
can be done by borrowing more money from abroad or lending more money to non-residents.
 

Impact of Crude Oil Prices on the Indian Economy

India is the world’s third largest Oil importing nation and world’s seventh largest economy. It
is a major looser in the case of rising Crude price and a beneficiary in the event of falling
Crude prices. The pace at which the economy is growing, increases the need of the country to
import more and more of crude oil to meet the country’s industrial as well as domestic
requirements.

With U.S imposing sanctions with regard to purchase of crude from Iran, India stands to face
the double whammy of rising Crude prices as well as weaker rupee. India’s crude oil import
bill for 2018-2019 rose sharply in March 2018 as country is dependent for 80% of its
consumption needs on its Crude Imports. The CAD and Fiscal deficit are ballooning in the
event of Trade Imbalance.

The Oil ministry pointed out to Bloomberg that India is more comfortable if Crude prices
stay near to $50, thus $70 is way too high and would pinch India’s economy in a big way
going forward if Saudi’s propel crude prices further to $80. To offset higher Crude prices the
government either has to reduce Excise duty thus impacting state finances or reintroduce fuel
price caps to control Inflation thus dent margins of Oil refiners.

Crude Oil and its Effects on Indian Economy

The Oil Ministry has been advocating bringing fuel price under the GST ambit which would
reduce oil prices and provide immediate relief to vast majority of people thus reducing
heightened Inflation as currently taxes make up 50% of the crude oil price pack.

The drop in crude prices helped the government to raise excise duty by Rs. 12 on petrol per
litre and Rs. 13.77 on diesel per litre since April 2014 and also helped prune Current Account
Deficit thus raising GDP expectations. Off late, Brent Crude prices have risen by $18 per
barrel while petrol and Diesel prices have gone up by over Rs.3 per litre.

Morgan Stanley has said that the Fiscal Deficit is likely to rise to 3.5% of India’s GDP in the
fiscal year 2018-2019 due to Trade imbalance. According to Nomura every $10 increase in
Oil prices to affect India’s CAD by 0.4%.

Being an Election year Nomura has decreased India’s GDP growth to 6.9% from 7.8%.
Dutsche Bank lowered its GDP forecast for India in lieu of widening CAD to 7.3% from
7.5%.

Going to Elections India is fighting with the negative impact of highest fuel prices in the
country in recent years. India is reeling under toughest test to fight economic growth and
Inflation under ever rising Oil prices.

Economic Impact of Crude price Rise

Let’s discuss on the economic impact of hike in crude prices;

Impact on Current Account deficit (CAD)

Current account deficit widens when value of imported goods exceeds the value of exported
goods, indicating how much India owes to the world in foreign currency. With India’s ever
increasing need for Crude to meet its consumption needs, which has grown from 77.3% in
2014 to 87.3% in 2018, the current account deficit also is widening at a faster pace thereby
inflating its Import Bill.

Widening CAD also puts pressure on the value of the Rupee and weakens it against major
basket of currencies. An SBI report suggests that Indian’s CAD could cross 2.5% of GDP for
FY 2019 (providing oil price continues at $80 per barrel). Currently CAD is estimated at
1.9% for 2017-18.

Impact on Fiscal deficit

Rising crude prices adversely affects India’s Fiscal deficit which is the difference between
government’s total Income and total expenses. India imports around 80% of its annual crude
oil requirement which is approx 1.5 billion barrels a year from the world markets. Rising
crude prices increases government’s total expenditure thus impacting fiscal deficit negatively.
Fiscal deficit gives insight into the amount of money the government has to borrow to meet
its expenditure. Higher fiscal deficit to negatively impact India’s economy.

Impact on Rupee

Rising crude prices affects rupee also adversely, as more money flows out of the system to
buy dollars for making crude payment. Thus sometimes RBI moves in to stem rupee fall.
Depreciating rupee has a weakening effect on the country’s economy. Rupee is at its life time
low leaving India in a vulnerable spot in the event of any further weakening of macros.
Weakening rupee benefits the exporters and is a big drag on the importers.

Inflation

Oil is a very essential commodity with daily necessity for domestic as well as industrial
needs. Oil is an essential raw material for many segments of the industry. Thus any increase
in oil to fuel Inflation in all segments like cost of producing goods to transport which would
finally be passed on to end users thus making goods very costly.

Impact on Economy
Rising crude prices adversely affects the economy and dents its growth prospects taking into
account all the above factors. Most of the Indian Industries need crude for its Industrial need
for the production of its end product thus rise in crude increases their input costs and
decreases margins. Thus some of the sector getting negatively impacted would be Oil &
Lubricants, Tyre, Paints, Plastics, Airlines etc. The profitability of these Industries to be
impacted due to rise in input costs. O

n the other hand the Oil exploration companies stands to gain out of it. The stock markets, the
country’s biggest economic revival barometer to weaken due to negative repercussions on
Indian economy due to rising crude. The midcaps and small caps are the worst hit as they will
face problems passing on the input costs to the end user. The economic revival thus would be
very fragile with increasing CAD, weakening rupee and rising fiscal deficit.

Decline in Crude price & Impact on Economy

CAD or Current Account Deficit

India being the largest importer of Crude thus any decline in crude prices helps it to prune its
current account deficit upto the tune of Crude imports which accounts for one third of its total
import volume. Thus for this reason price of crude matters a lot to Indian economy. A fall in
oil prices by $10 per barrel helps reduce CAD by $9.2billion according to a live mint report.
Thus this impacts India’s GDP positively by 0.43%. Thus fall in Crude price to lower India’s
CAD and hence boost GDP growth.

Fiscal deficit

The reduction in crude oil prices reduces the burden of subsidy from the Governments
shoulders thus in turn reducing the under recoveries. The government does not have to
burden itself with the subsidy burden as the reduced crude prices do not need the subsidy to
be shared between the Oil companies and the Government. The government expenditure
reduces due to reduction in Import bill thus reducing fiscal deficit. Thus this will help the
government in pruning previous dues.

Inflation

The reduction in crude prices affects as Indian economy as a whole due to its direct usage in
Transportation of goods and services. The Inflation reduces due to reduction in crude prices
in turn helping Industries dependent on Crude to increase profit and productivity owing to
reduction in their Input prices. The end user benefits as cut in direct costs is passed on by the
company to the consumers. Every $10 per barrel fall in crude oil price helps reduce retail
inflation by 0.2% and wholesale price inflation by 0.5%, according to a Moneycontrol report.

Impact on Rupee
Rupee’s value is dependent on its demand in the currency market. A high CAD means a
country has to sell its currency and buy dollars to pay its bills thus any fall in crude decreases
CAD and strengthens rupee to that extent. The rupee still remains neutral to any decline in
crude prices as the weakening crude increases dollar strength being inversely related. Thus
negating any beneficial effect from decreasing CAD.

Export of Petroleum products & Indian Crude Oil Production by Region

India is the sixth largest exporter of petroleum products in the world amounting to $60 billion
annually. Thus any decrease in crude prices adversely affects the exporters. Any decline in
exports is a bad news for India’s current account deficit as it again creates imbalance between
India’s balance of payment.

Though Manufacturing Industries benefits from drop in Input costs and country benefits from
improving CAD and fiscal math still overall the major trade partners who imports petroleum
products from India may refrain from buying as it not being cost accretive for them as rupee
and dollar both remain strong.

Many countries have put import curbs to save their economy thus any further decline in
imports due to declining crude oil would be a deterrent for India’s exports. Thus only Oil
marketing companies and manufacturing industries benefits from crude price decline as it
increases their bottom line. Thus India remains neutral to any fall in Crude price. The
Industries that stand to gain from it are Paint, Tyre, Airlines, Plastics, Oil and lubricants etc.

Government is working to reduce its dependence on crude by 50% thereby working towards
improving India’s CAD, Fiscal deficit and economy as a whole in next ten years. Thus it’s
focusing more to explore its Crude Oil Producing regions which can going forward reap
benefits for the nation as a whole. If the going goes smooth India may see a silver lining
going ahead both in terms of Crude Imports and strong Currency.
Oil imports by source country
India was the third largest crude oil importer in the world in 2020. The country spent an
estimated ₹4.84 lakh crore (US$64 billion) to import crude oil in 2020. The following
countries were the 15 largest sources of crude oil imports into India in 2020.

Ran
Country Import value
k

1 Iraq $14.9 billion

2 Saudi Arabia $12.5 billion

3 United Arab $7.8 billion

 Emirates

4 Nigeria $5.3 billion

5 United States $3.7 billion

6 Kuwait $3.3 billion

7 Venezuela $2.3 billion

8 Mexico $2.2 billion

9 Angola $1.4 billion

10 Qatar $1.3 billion

11 Kazakhstan $1.3 billion

12 Brazil $1.2 billion

13 Oman $944.6 million

14 Russia $927.2 million

15 Malaysia $914.8 million

Crude Oil import sources of India

India is the world’s third largest oil consumer country. In India, 80% of crude oil and 40% of
natural gas needs to be met through imports. In 2018-2019, India imported 22.04 crore
tonnes of crude oil from foreign countries. According to the data of the Center for Monitoring
Indian Economy (CMIE), in India in the first 11 months of 2018-19, petroleum worth $ 128.7
billion was imported from abroad. India imports petroleum products from almost 10
countries.
India imports the most of crude oil from Saudi Arabia. Here is list of those countries from
where India imports crude oil.
 Country Price of Import in Billion Dollar Percentage

Saudi Arab 22.4 17.4

Iraq 20.6 16.0

UAE 12.3 9.6

Iran 11.6 9.0

Nigeria 9.5 7.4

Qatar 8.6 6.7

venezuela 6.6 5.1

Kuwait 5.8 4.5

USA 4.7 3.7

India imports crude oil and its purification is done in India. The world’s largest oil
refinery factory is in Jamnagar, Gujarat, which belongs to the Reliance Industries
Source:- https://www.indiaeinfo.com/list-of-countries-from-where-india-imports-
crude-oil/#:~:text=India%20imports%20the%20most%20crude%20oil%20from
%20Saudi,Jamnagar%2C%20Gujarat%2C%20which%20belongs%20to%20the
%20Reliance%20Industries.

Opec nations

Crude oil holds a prominent position in the global commodities market because

oil price changes impact the global economy. Thus, those countries or groups that
produce crude oil also impact economies worldwide.

Oil prices are largely dependent on two factors: geopolitical developments and
economic events. These two variables can lead to changes in oil demand and
supply levels, which drives oil price fluctuations from one day to the next. For
instance, the 1973 Arab oil embargo, the 1980 Iran-Iraq war, the 1990 gulf war,
the Asian financial crisis of 1997, and the global financial crisis of 2007 to 2008  are
some of the historical geopolitical developments that have significantly impacted oil
prices.

 Oil prices are driven by many factors including supply and demand.
 OPEC member countries produce about 40% of the world's crude oil.
 OPEC's oil exports represent about 60% of the total petroleum traded
internationally.
 OPEC (especially Saudi Arabia) have the upper hand in determining the
direction of oil prices, but Russia has also become a key player.
 Evidence is inconclusive as to whether non-OPEC countries are influential in
determining crude oil prices.
Understanding OPEC and Oil Prices
Organization of the Petroleum Exporting Countries  (OPEC) is an organization that
sets production targets among its members to manage oil production. OPEC
member countries produce about 40% of the world's crude oil. Additionally, OPEC's
oil exports represent about 60% of the total petroleum traded internationally,
according to the United States Energy Information Administration. 1

Because of this market share, OPEC's actions have a huge influence on

international oil prices. In particular, OPEC's largest producer of crude oil, Saudi
Arabia, has the most frequent effect on oil prices. Historically, crude oil prices have
seen increases in times when OPEC production targets are reduced.

Source:- Investopedia

Covid-19 Impact on crude oil

 The import of crude oil came down by 15.3 million tonnes during the
first seven months of 2020 because of the Covid pandemic and the
lockdown in the country.
 Countries that are net exporters of oil are experiencing an unprecedented
double blow; a global economic contraction driven by the COVID-19
pandemic and an oil market collapse with the benchmark price for United
States crude oil, the West Texas Intermediate, briefly going negative for
the first time in history (in April 2020). 
 With Coronavirus (COVID-19), an already volatile market has reached a
flashpoint, accentuating the drawbacks of high dependence on non-
renewable resources.
 In the current context, it is plausible that oil prices may not fully recover to
the levels seen pre-COVID-19 as the world transitions to cleaner forms of
energy 
 In April, the International Energy Agency (IEA) estimated that demand was
down 30% compared to a year ago
 the COVID-19 crisis was becoming apparent in March 2020, the members
of the OPEC+ alliance (OPEC members plus other oil producers amongst
them the Russian Federation) failed to extend their agreement to cut
production, resulting in some producers, including Saudi Arabia and
Russia briefly flooding the market
  Several of the countries entered the crisis with already high debt levels
and are now experiencing a double blow due to the global economic
contraction fuelled by the COVID-19 pandemic and significant decline in oil
prices.
Source:- oecd.org