Hostilities in West Asia can hit buoyant economy

Sushma Ramachandran

Senior Financial Journalist

THE crisis in West Asia is posing a serious risk to economic stability in fast-growing economies like India. The extent of the impact will take a while to be gauged, but it appears that external headwinds will again be the biggest threat to growth during this financial year. The geopolitical turbulence that was witnessed in 2022 with the onset of the Ukraine-Russia war is now again likely to roil both global and domestic economies. Finance Minister Nirmala Sitharaman expressed fears in a recent interview about the mounting challenges due to these developments, unless the situation gets defused quickly.

For India, which is in the midst of the General Election, it will be a long, hot summer marked by intense monitoring of the situation in West Asia. Sitharaman has highlighted the fact that uncertainties will arise, referring to the inevitable supply chain disruptions and the increased cost of essential commodities.

The finance minister is rightly worried about the prospect of hurdles in the path of economic recovery. The confrontation between Iran and Israel comes at a time when India’s GDP growth is expected to be higher than of any other major economy in the world. The government is upbeat about the growth rate touching 7 per cent in the current fiscal, while global financial agencies have been upwardly revising their projections recently. The latest to revise its forecast has been the International Monetary Fund, which has raised it from 6.5 to 6.8 per cent for 2024-25. The World Bank had earlier enhanced it from 6.4 to 6.6 per cent, while S&P Global had pushed its prediction up from 6.4 to 6.8 per cent.

This relatively bright outlook could quite easily be derailed in case international tensions reach a flashpoint in the coming weeks. Several potentially threatening scenarios could become a reality.

First, Iran could block oil and natural gas movement through the Strait of Hormuz, a narrow waterway that connects the Persian Gulf and the Gulf of Oman. It has been described as the world’s most important oil choke point by the US Energy Information Agency. Over 80 per cent of the oil shipped from the Persian Gulf has to move through the strait as pipeline availability is limited.

For India, which relies on most of its oil and natural gas imports from this region, any disruption in movement through the strait could have dire implications. Though over 30 per cent of crude imports are now from Russia, the bulk is still from traditional long-term suppliers in West Asia, such as Saudi Arabia and the UAE. These imports come via the Strait of Hormuz.

Second, there is the prospect of the Suez Canal route getting blocked in case the war spills over. The route to the canal from Asia is via the Red Sea and the entrance to this area is through a narrow sea channel known as Bab el-Mandeb. It is here that the Yemen-based Houthi rebels are attacking merchant shipping in their efforts to support the Hamas in the war against Israel. Some international trade has already been diverted via the Cape of Good Hope, raising costs and lengthening transport time tremendously.

In case the situation worsens, India will find it difficult to move export goods to the lucrative European markets. Trade flows will be impacted in a big way at a time when exports are plateauing due to geopolitical tensions.

The third potential impact of a widening war would be on world crude prices. These have already broken out of the lower range of $75-80 per barrel for the benchmark Brent crude since last month and are hovering around $87-89. So far, the outbreak of hostilities between Iran and Israel has not had a huge impact on prices, but an escalation of the conflict would certainly lead to an upswing.

A spike in oil prices is probably the biggest worry right now, as it could potentially raise the import bill and put pressure on the current account. It would also have an inflationary impact as oil marketing companies have already voiced concerns about the need to raise pump prices. This could only happen after the elections are over, but would have a cascading effect on the economy. Apart from the cost of oil, the need for sustained supplies to maintain strategic security is a paramount concern in case the war clouds over West Asia do not blow away soon. It must not be forgotten that over 80 per cent of the country’s oil needs are met by imports.

The question is: can India do more to protect the economy from the headwinds of any such conflict? For the time being, it seems there is little in the hands of the country despite its close ties with both Israel and Iran. It can only resort to diplomatic appeals for restraint. As far as oil is concerned, there has been some diversification in the sources of supply, though it would be difficult to make up for any shortfall in supplies from the Gulf region. But it is not possible to alter the pattern of merchandise trade flows that move through this area. These are bound to be disrupted and the cost of both inward and outward cargoes will rise significantly.

Other ramifications of a wider conflict cannot be predicted right now. When the Ukraine-Russia war began, for instance, the prices of a wide range of metals shot up, while sunflower oil was no longer available. Similarly, any war-like situation in West Asia will have unforeseen consequences for the economy in this country. It is certain, however, that no nation can remain immune to these events owing to globalisation. For this reason, one can only hope that the entire region returns to peace and normalcy as soon as possible.

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