Rupee decline may offset gains made from a correction in energy prices

A depreciating rupee may offset any significant gains made from the recent correction in energy prices unless central and state governments intervene to tame inflationary pressures arising from the situation.

“Rupee has depreciated from Rs 74 on January 22 to Rs 80 currently. While oil prices have started correcting, the sharp depreciation of Rs 6 in itself is equivalent to $13 per barrel change in oil price, ceteris paribus (other things being equal),” said senior group vice president, institutional research, Motilal Oswal Financial Services, Swarnendu Bhushan.

For starters, a falling rupee may allow for a smaller than otherwise expected decline in auto fuel prices. Not only does a falling rupee can make energy imports costlier, but it may also hurt earnings at state-owned downstream oil majors, such as Indian Oil Corp. Ltd (IOCL), Bharat Petroleum Corp. Ltd (BPCL) and Hindustan Petroleum Corp. Ltd (HPCL).

“India is a significant importer of oil and gas. The falling rupee value makes these imports costlier, increasing the costs and reducing the margins for downstream companies,” said Sourav Mitra, director of energy at CRISIL.

Several states cut the value-added tax (VAT) on petrol and diesel in November 2021. Post the substantial excise cuts on fuel by the central government in May 2022, only a select number of states, like Maharashtra, Kerala and Rajasthan, have announced a subsequent relief in VAT. The rest have so far refused to play ball.

“States respond keeping in mind their financial conditions,” explained Motilal Oswal’s Bhushan.

A primary reason has been a reduction in tax collection of states.

“Many states have pointed out that they had been fiscally burdened by an outflow of funds for Covid-19 relief measures, and as such cannot afford cuts. Some have pointed out the need for grants from the centre,” remarked CRISIL’s Mitra.

He felt that states may still cut taxes after figuring out the best way to do so, albeit keeping their fiscal health in mind as well.

Limited legroom available

India imported 212.2 million tonnes of crude oil in FY21-22 as compared to 196.5 million tonnes in the previous fiscal. Options for the world’s third largest energy importer may, therefore, be limited in this challenging geopolitical environment.

“Considering that we import about 80-85 per cent of our crude and about 60 per cent of our gas, it is prudent that we ramp up exploration and development across the rest of the sedimentary basins in India,” asserted Bhushan.

He also suggested laying down a policy framework that helped bring in better technologies to improve recovery from domestic oil and gas fields. Similarly, investment in renewables was another way of decreasing India’s energy dependency.

For the moment, policy interventions would be required to arrest the fall in value of rupee to tame inflation.

“Let’s see the role that the Reserve Bank plays on this front in the short-term. Tax-wise, some believe that the central excise duties on petroleum products are still high and the government can consider reducing them, at least for temporary relief,” suggested Mitra.

In the near term though it is the movement in the global crude oil prices that will determine the overall impact of this current round of imported inflation.

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