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The Danger of Ongoing Russia-Ukraine Crisis and its Impact on the Indian Economy

ICICI Securities 25 Feb 2022
  • Minimal disruption expected in the near term as India buys very little oil and gas from Russia
  • However, higher crude oil prices will keep CPI inflation higher for longer and may lead RBI to raise rates

With Russia reportedly beginning the invasion of Ukraine, the US has slapped a slew of sanctions on it. Earlier, Biden said in a press conference that they have also imposed sanctions against the Russian Sovereign Debt and high net worth individuals (HNIs).

The ongoing conflict is expected to impact global markets and economies. So what will be the impact on the Indian economy? Let’s explore.

The Impact

 In the ongoing crisis, India would not be directly impacted but it could feel the heat.  A research report by ICICI Securities said that crude oil prices could very well cross the $90 per barrel mark in the coming months due to the US sanctions against Russia. Germany, Europe’s largest nation, and Netherlands are the most dependent upon Russian oil for their energy needs. Other European nations too depend on Russian oil but not so much as Germany and Netherlands. According to the report, Russia exports 48 per cent of its fossil fuels to Europe and about 42 per cent to Asia. 

This is because Europe uses natural gas to generate electricity and the cheapest way to source natural gas is from the pipeline connecting them and Russia. This pipeline is named the Druzhba pipeline (Friendship) and was started in the 1960s; currently, it is the world’s longest oil pipeline.

The report also highlights that because of the sanctions, the European Union will experience an economic recession which can last up to six months unless alternative energy arrangements are made rapidly.

Indirect Impact on Indian Economy

 Higher Oil Price: Brent's crude oil prices have crossed the $100 per barrel mark for the first time in last eight years. As India imports more than 80% of its oil requirements, higher oil prices will impact India's current account deficit and also increase the LPG and kerosene subsidy. The Indian refineries do not import significant quantity of oil from Russia. So, the impact of US sanctions on Russia does not affect India directly. However, on account of the sanctions, a lot of countries will not be dealing with Russian oil and, hence, international oil supply will decrease, which will affect India, noted the research report.

Higher Inflation: Any increase in crude oil’s price could adversely impact India’s economy. The government might be forced to raise prices of domestic petrol and diesel. Consequently, the inflation rate could rise beyond RBI’s comfort level. In the last policy meet, RBI left the key rate unchanged mainly because of its view that ongoing domestic recovery is still incomplete and needs continued policy support. Moreover, the inflation projection is close to the upper tolerance limit of 6 per cent. Notably, RBI’s target is to keep inflation in a band of 2-6 per cent. If the inflation, crosses the manageable threshold limit, RBI may have to raise interest rates in its upcoming policy meeting.

“Higher crude oil prices will keep CPI inflation higher for longer, obliging RBI to raise rates more than the two hikes we expected in Aug-Dec’22 -- unless the government sharply cuts excise duties on petrol and diesel to contain fuel inflation,” writes the report.

Weaker Currency: As a full-blown war has been declared between Russia and Ukraine, global money will fly to safer havens. Investors will move their money from emerging economies towards safe havens like the US dollar bonds and gold. If such a outflow of foreign exchange occurs in India, then the Indian rupee will be under pressure and may lead to weaker market sentiments. Weaker currency will weigh higher on fiscal deficit. This could dent the profitability of import-oriented sectors.

Disclaimer – ICICI Securities Ltd. ( I-Sec). Registered office of I-Sec is at ICICI Securities Ltd. - ICICI Venture House, Appasaheb Marathe Marg, Prabhadevi, Mumbai - 400 025, India, Tel No : 022 - 6807 7100. I-Sec is a SEBI registered with SEBI as a Research Analyst vide registration no. INH000000990. The contents herein above shall not be considered as an invitation or persuasion to trade or invest.  I-Sec and affiliates accept no liabilities for any loss or damage of any kind arising out of any actions taken in reliance thereon. Investments in securities market are subject to market risks, read all the related documents carefully before investing.

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