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Tuesday, June 02, 2020

Crude shock

Collapse of oil price signals demand decline, lack of storage capacity. India must build its strategic reserves

By: Editorial | Published: April 22, 2020 12:05:20 am
coronavirus, coronavirus outbreak, coronavirus hotspots, wheat harvesting, india lockdown farmers, india lockdown impact, wheat harvesting season, punjab farmers, farmers crop India must seize this opportunity to build on its oil reserves.

Reverberations from the economic dislocation caused by the coronavirus are being felt across the world. On Monday, the price of the May futures contract for West Texas Intermediate crude (WTI) in the US that is due to expire on Tuesday fell into negative territory — settling at – $37.63 a barrel. This extreme price movement is indicative of how deeply oversupplied the US market is owing to the collapse in demand as economic activity has come to a standstill and the fact that there isn’t storage capacity to absorb this excess supply. The “negative” price indicates that investors holding these May contracts essentially did not want to take delivery of the oil, unable to find storage facilities. And while the June contract is currently hovering around $20 a barrel, the price crash in the May contracts suggests that storage will continue to be a problem. This implies that unless supply in the US is cut back further to readjust to the collapse in demand, more pain is likely.

This isn’t a US-specific problem. Earlier, the Organisation of Petroleum Exporting Countries, along with Russia, agreed to cut crude oil output by 9.7 million barrels per day to bring down supply. This cut is effective from May and is supposed to last till June. But this cut is unlikely to be enough to readjust supply given the extent of the collapse in global demand. While according to some estimates demand is likely to be 30 per cent lower, it is difficult at this stage to accurately gauge the extent of the fall. Thus, it is likely that these cuts will need to be followed up by further cuts to readjust supply. In this situation of low crude oil prices, while oil producing countries will suffer, oil consuming countries like India will benefit. Lower prices should not only help in reducing the current account deficit, but could also ease inflationary pressures if governments do pass on the benefit, even partially, to end consumers. However, it is also likely that as the lockdown restrictions are eased, and as economic activity gradually picks up, the Centre and the states raise taxes on crude oil to shore up their struggling revenues. Further, as lower oil prices will impact the economies of oil producing countries in the middle east, they could also affect remittance flows to India.

India must seize this opportunity to build on its oil reserves. The government has said that it will take advantage of the low crude oil prices to fill its strategic petroleum reserves. The country’s strategic petroleum reserve facilities have a capacity of 5.3 million metric tonnes — amounting to 9.5 days of its crude oil requirements (as per consumption pattern of 2017-18). Additionally, the government has approved the setting up two additional SPR facilities which will add another 6.5 MMT or about 11.57 days of the country’s crude requirements. In comparison, each IEA country has to hold emergency oil stocks equivalent to at least 90 days of imports. India should be working on similar lines.

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