Tough road ahead for govt as weak rupee pushes fuel prices to record high

Rising fuel costs may fan consumer prices and force the inflation-targeting RBI to add to its two interest rates hikes this year -- a decision that can be both unpopular as well as affect growth

India’s growth monikers -- the world’s fastest-growing major economy and the fastest-growing oil user -- might make for good headlines, but when juxtaposed with the less-flattering description of its currency they pose a problem for Prime Minister Narendra Modi.

The rupee, Asia’s worst performer so far this year, has fueled petrol and diesel prices to a record high and fanned public displeasure with general elections less than eight months away. It prompted Modi’s ruling Bharatiya Janata Party to say on Saturday the government will soon come up with an action plan to rein in fuel prices.

The government has so far resisted the populist trend of cutting fuel prices to avoid forgoing tax revenue and missing budget goals. Record retail fuel costs are adding to Modi’s challenge of tackling a hurtling pace of economic growth that’s boosting ownership of vehicles and demand for oil at a time when the impending US sanctions on Iran is set to worsen the outlook for crude prices

Diesel cost Rs 78.38 a litre in Mumbai as on Monday and petrol Rs 89.50, according to the website of state-run Bharat Petroleum Corp. Both prices are the highest on record.

Inflation Risk

Rising fuel costs may fan consumer prices and probably force the inflation-targeting central bank to add to its two interest rates increases this year -- a decision that can be both unpopular as well as affect growth. Since the government is not reducing the taxes on petrol and diesel, retail inflation may quicken to 4.6 per cent, according to India Ratings and Research Pvt.

“It remains to be seen how long the government can afford to not do anything given two key conflicting events around the corner,” said Sri Paravaikkarasu, an analyst at industry consultant FGE in Singapore, referring to the Iran sanctions and the general election. “India is clearly walking on a tightrope now with the double whammy of higher oil prices and falling rupee.”

If oil price averages $75 a barrel in the year to March, the oil import bill will increase by $30 billion, according to India Ratings. The South Asian nation saw oil purchases surge nearly two-thirds to $39 billion in the first four months of the fiscal year that began April 1, which pushed the current-account deficit to the widest in five years.

Inadequate Measures

The government on Friday announced steps to boost capital inflows and curb the ballooning current-account gap, including through plans to limit non-essential imports but that wasn’t enough to stop the rupee from resuming its slide on Monday as the market saw those measures as inadequate.

While Indian refiners pay for crude oil in dollars, fuel station prices are also benchmarked to the greenback -- exposing these to the risks of foreign exchange fluctuations. The rupee fell 0.9 per cent to 72.5088 per dollar Monday, after nearing last week’s record low of 72.9138.

All this is happening at a time when Modi is preparing to seek re-election, and the developments are making it difficult for him to balance political and economic concerns. The opposition parties observed a nationwide shutdown earlier this month over soaring fuel prices and a declining currency.

“Surging pump prices of diesel and gasoline pose political challenges to the government,” said Abhishek Kumar, a senior energy analyst at Interfax Energy in London. “Implementation of some subsidy measures cannot be ruled out in the run-up to the elections.”