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Uncertain outlook for long-term

Central banks and stock markets around the world are reacting favourably to the recent fall in petroleum prices. The U.S. Federal Reserve, the European Central Bank and the Bank of England, although concerned about inflation, are holding back interest rate increases. Stock markets have staged a sharp rally on the expectation of lower fuel prices. In July the price of petroleum fell by $20 a barrel. Currently it is trading well below the psychologically important mark of $120, last recorded three months ago. It is by no means certain that oil prices will decline further but if they do, inflationary pressures will ease and living standards will improve around the world. Crude was ruling at around $25 a barrel in 2000. Its latest decline has been of a magnitude equal to what it cost in the international markets not so long ago. Given the difficulties in predicting its movements, any optimism should necessarily be guarded. No clear trend pointing to a long-term decline in oil prices has emerged. The recent drop is attributed to the slowdown in the global economy, the diminished outlook for the U.S. economy, and the cutting back of demand by consumers in the West. Supplies from the OPEC have increased mainly because of Saudi Arabia’s decision to step up production to a level that is highest in 25 years.

On the other side, the output from Nigeria has been considerably less. The U.S. is expected to significantly raise its level of inventories. Demand from India shows no signs of abating. In the futures market, oil contracts are ruling at prices above $120 a barrel over the medium-term. A major constraint on the supply side is the inability of the oil companies to substantially add to the global output even in the face of persistent demand and high prices. For India, the fall in petroleum prices is welcome but not material enough to bring cheer. The crude basket is currently around $120 a barrel and is trailing global oil prices. Latest trade data show that oil imports, which constitute more than one-third of all imports, have grown by nearly 50 per cent during the first quarter of this year. The high prices of oil and other commodities in the global market have fuelled inflation in India. As long as domestic fuel prices do not fully reflect international prices, inflation expectations are bound to remain high.

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