Morgan Stanley has issued a warning that a sustained oil price of $110 per barrel could threaten India’s economic stability, potentially necessitating the central bank’s resumption of interest rate hikes. India, as the world’s third-largest consumer of oil, is particularly vulnerable to increasing crude prices. According to Morgan Stanley economists, a $10 rise in oil prices can result in a 50-basis-point increase in inflation and contribute to a 30-basis-point expansion in the current account balance.
Morgan Stanley has expressed concerns that oil prices exceeding $110 per barrel would destabilize India’s economy, leading to higher domestic fuel prices and secondary inflationary effects. Moreover, it is anticipated that the current account deficit would surpass the comfortable threshold of 2.5% of gross domestic product.
In a note on Sunday, Morgan Stanley’s economists, led by Chetan Ahya, cautioned that “with macro stability indicators stretched under this scenario, we think currency depreciation pressures could rise and lead the Reserve Bank of India to restart its rate hike cycle.”
The Reserve Bank of India (RBI) has kept its policy rate unchanged for the fourth time but has maintained a relatively hawkish stance, particularly as inflation remains above the 4% midpoint of its target range. The central bank’s forecasts are grounded in an assumption of a crude oil price of $85 per barrel in the second half of the current fiscal year, which concludes in March 2024.
Morgan Stanley’s base case scenario assumes oil prices will be sustained at $95 per barrel, which they believe would be more manageable for the Indian economy. Under this scenario, the RBI would likely postpone interest rate cuts.
As of November 2, India’s basket of crude oil prices averaged $87.09 per barrel, compared to an average of $90.08 per barrel for the entire month of October. The global benchmark, Brent crude, traded above $85 per barrel on Monday.
In addition to their oil price analysis, Morgan Stanley’s report also highlighted other key economic aspects of India:
- Foreign direct investment (FDI) data indicates a decline to $33 billion in the second quarter of this year (on a four-quarter trailing basis) from $70 billion in the second quarter of 2021. However, India’s share of global FDI flows increased to 4.2% in the first quarter of this year from 2.4% in the fourth quarter of 2017.
- Concerns about the upcoming elections include the possibility of a weak coalition government, which could lead to a shift towards redistributive policies at the expense of focusing on boosting capital expenditure and implementing supply-side reforms.
Morgan Stanley’s insights underscore the significant impact of oil prices on India’s economic and monetary policy outlook, particularly concerning the RBI’s future actions.
