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Budget 2015-16: A lot hinges on crude oil prices

Devangshu Datta 

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This Budget and the preceding sessions in Parliament will be an interesting exercise. The new gross domestic product (GDP) statistics suggest that growth under the United Progressive Alliance-II was much stronger than earlier indicated. The successful Coal India disinvestment and the prospective spectrum auctions should also help to hold the fiscal deficit to somewhere near its targeted 4.1 per cent of the GDP.

The National Democratic Alliance has been in charge for 10 months. Inflation has dropped. Lower crude prices have helped to stabilise the external situation and the current account deficit has been reduced. It may even end up being a small surplus if the current trends continue..

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There will be few credible excuses if the Budget doesn't set ambitious targets for growth as well as consolidation. Despite the respite provided by lower crude prices, the task is not so easy. Global demand remains low and exports are unlikely to be a major driver.

The Reserve Bank of India (RBI) policy review this week makes it clear that the central bank will wait for the Budget before it makes a call on next year's growth prospects. There was also a hint of scepticism about the new GDP numbers, since Governor Raghuram Rajan pointed out that other indicators suggested there was economic slack. At the same time, RBI did ease the statutory liquidity ratio, which means that banks can pull money out of government debt and lend commercially. This is a mildly encouraging signal.

This hesitation on the part of RBI could make the Budget a double-up or double-down situation for short-term traders. Essentially, if RBI likes the Budget, it will probably continue to cut rates and ease liquidity. Otherwise, it could maintain status quo. If the RBI doesn't respond positively, other investor-responses will also be less optimistic.

RBI has a focus on inflation and exchange rates. Both are connected with energy prices since India imports roughly 80 per cent of its crude, and 30 per cent of its gas. Meanwhile the government must also make some key assumptions about crude prices when it does its subsidy calculations for the Budget.

There is every indication that crude prices will remain low through the next fiscal under "normal circumstances". Global economic demand is slow and crude prices had hit six-year lows a week or so earlier. CitiGroup recently estimated that global supply exceeds demands by about 1-1.5 million barrels per day and made price estimates of $30 to the barrel. BP has also said it is cutting its exploration budgets since prices could be subdued for several years. Drilling by other firms have also slowed for the same reasons.

But the past three or four sessions have challenged that assumption. Most global oil contracts have seen a surge in prices with rebounds of 20 per cent. This could be a "dead-cat bounce" or it could be a signal that supply will contract. The OPEC secretary general, Abdulla Al-Badri, recently said he thinks prices have bottomed and that the eventual rebound could be very strong. His has to be treated seriously, given who he is.

If there is a resurgence in crude prices, it could scramble Budgetary projections, and also change the perspective on the current account. It will mean selling across refining-marketing plays such as BPCL, HPCL and IOC. It might mean a hardening in prices for producers like Cairn and ONGC. It would mean a reworking of the subsidy assumptions and a trend reversal for inflation. Let's hope this rebound is just temporary. But if it isn't, there will be a tradable perspective on the energy sector and that could provide some sort of hedge.

The author is a technical and equity analyst

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First Published: Wed, February 04 2015. 22:44 IST