Wednesday, January 8, 2020

Oil prices are steady; But Why?






Oil prices jumped 5 percent after Iran launched strikes against US military bases in Iraq in retaliation for the killing of commander Qassem Soleimani. But by Wednesday afternoon gains in crude had reversed, with prices trading lower than before the Iranian general’s assassination.

Having jumped when markets opened to as high as $71.75 a barrel, crude later dropped to below $66 a barrel, a near 9 percent peak-to-trough swing in the course of a day.

So why have oil prices failed to rally despite the tensions in the Middle East?

1.     The crisis is expected to de-escalate. Global cues are meant to calm after Mr. Trump signaled that the US would not respond militarily to Iran’s attacks on American forces in Iraq, in a bid to de-escalate the crisis in the Middle East triggered by his order to kill Iran’s top general, Qassem Soleimani
2.     Saudi Arabia’s state-backed oil tanker giant, Bahri, is temporarily suspending shipments through the Strait of Hormuz following Iranian missile strikes on US military bases in Iraq, according to two sources familiar with the matter.

[ How the Strait of Hormuz is used as leverage and weapon by Iran has been explained in my previous blog Dated: January 3, 2020: India's economy will suffer eventually as the US attacks Iran!!.]

Avoiding the possibility of direct involvement has also made the oil market a bit less fuzzy. 

3.     Russia Crude Oil Production is at a current level of 10.86M, down from 10.90M last month and down from 10.96M one year ago. This is a change of -0.37% from last month and -0.95% from one year ago. The fact remains that Russia has been trimming production for most of the past three years in an attempt to offset a surge in production from the US shale industry. So if the prices get too high, then the POTUS can ask his allies, including Saudi Arabia and the UAE, to boost production to help calm the market and calm down the prices. 

4.     Oil prices are already high: Some traders say the limited price reaction is simply down to oil having already risen strongly in the fourth quarter of last year, with prices gaining about $10 a barrel as concerns over weakening global growth and the US-China trade war receded. Hedge funds already have sizeable bets on rising crude prices, which have largely been established in the past few months, suggesting there may not be the appetite to keep adding more risk to portfolios without evidence of a genuine supply disruption.

5.     Darryl Willis, a 25 year veteran of BP was hired by Google as the VP of Google Cloud Oil, Gas and Energy. And then he shifted to Microsoft as VP Energy Industry. 
Google has already signed up with Total to subsurface data analysis for oil gas exploration and production. Microsoft has already partnered with Exxon and Chevron. Amazon provides cloud services to BP and Shell. The Big Tech companies are already betting high on the oil industry. The fact remains that Machine learning can help in providing seismic segmentation to label geological structures important for oil exploration. The amount of data already collected by the Oil industry can be fed to train the machine (AI). In 2018, the oil and gas industries spent an estimated $1.75 billion on AI — a sum that is projected to balloon to $4 billion by 2025. The bottom line remains that the oil industry is optimistic about the R&D happening and the involvement of Big Tech into this sector. Any sort of breakthrough would mean significant production output and the prices are not going to storm beyond a particular upper bound. This reason may seem vague but if that’s so, let’s keep the other 4 points in mind to answer the question in the headline itself :p

References: 











Friday, January 3, 2020

India's economy will suffer eventually as the US attacks Iran!!




                                              




Stena Impero, a British Oil tanker, on its way to Saudi Arabia was dramatically boarded and seized by Iran’s Revolutionary Guard on July 19th, 2019. The Radio message received was:
“If you obey, you will be safe. Alter your course TO 360 degrees immediately” said the Iranian Naval Forces.



Note: In their language, altering TO 360 degrees means to change course so that the compass read 360 degrees or due north.
The oil prices spiked $2 per barrel after the incident.

Let's ignore the quoted lines for a while and try to understand the relation between the US and Iran. The above-quoted para will find its relevance in the last and most importantly, I promise that the justification of the headline too will be explained in the latter part. Just be patient and try to understand the history of animosity.
Pre 1979, Saudi Arabia and Iran constituted to be the twin pillars of the middle east providing stability in the region. Iran shared a much longer border with USSR and to keep the soviet’s influence off the region, the USA sold guns, bombs and virtually any conventional weapon to secure Iran as well the Saudi from soviets. Ultimately the goal was to secure the oil that the US was importing from the middle east. But things fell apart.

Act I: Iranian Revolution 1979

The Iranian Revolution overthrew the monarchy and Iran was declared an Islamic Republic led by Ayatollah Khomeini. But interestingly the monarch which was led by Mohammad Reza Pahlavi, the last Shah shared great relations with the United States. The fact remains that Shah was led to the throne because of the US. Shah was forced to leave his country and was admitted to the US for cancer treatment. Back in Iran, the new government in place demanded his return in order to face the trials for the crime he had been accused of. The demands were rejected by the US.
And then the Unthinkable happened.
Fifty-two American diplomats and citizens were held hostage for 444 days from November 4, 1979, to January 20, 1981, after a group of Iranian college students belonging to the Muslim Student Followers of the Imam's Line, who supported the Iranian Revolution, took over the U.S. Embassy in Tehran.
By Algerian Declaration, the 52 American citizens were set free and were able to leave Iran. One among other key provisions of the accord was that the US would not intervene politically or militarily in Iranian internal affairs.
Also the movie Argo is based on a similar incident of the "Canadian Caper" which was the joint covert rescue by the Canadian government and the CIA of six American diplomats who had evaded capture during the seizure of the United States embassy in Tehran, Iran, on November 4, 1979



                                 





The Iranian Revolution terrified the Kingdom of Saudi Arabia and which has led to the cold war between Iran and Saudi Arabia since then. The US is a very strong ally of Saudi. On May 20, 2017, U.S. President Trump and Saudi Arabia's Salman bin Abdulaziz Al Saud signed a series of letters of intent for the Kingdom of Saudi Arabia to purchase arms from the United States totaling US$110 billion immediately and $350 billion over 10 years. The statement has been mentioned to signify how Saudi Arabia is important to the states.

Act II: Tanker War

The Iran–Iraq War began on 22 September 1980, when Iraq invaded Iran, and it ended on 20 August 1988. The so-called "Tanker War" started when Iraq attacked the oil terminal and oil tankers at Kharg Island in early 1984. Iraq's aim in attacking Iranian shipping was to provoke the Iranians to retaliate with extreme measures, such as closing the Strait of Hormuz to all maritime traffic, thereby bringing American intervention; the United States had threatened several times to intervene if the Strait of Hormuz were closed. As a result, the Iranians limited their retaliatory attacks to Iraqi shipping, leaving the strait open to general passage.
How the US was involved in the Iraq-Iran war?
1.    Iraq acquired 60 multi-role military helicopters (MD 500 Defender) directly from the United States in 1983
2.    USS Stark was deployed to the Middle East Force in 1984 and 1987. The ship was struck on 17 May 1987 by two Exocet anti-ship missiles during the Iran–Iraq War fired from an Iraqi Dassault Mirage F1 aircraft. The Reagan administration, however, attributed the blame to Iran for its alleged belligerence in the underlying conflict.
3.    American support for Ba'athist Iraq during the Iran–Iraq War, in which it fought against post-revolutionary Iran, included several billion dollars' worths of economic aid, the sale of dual-use technology, non-U.S. origin weaponry, military intelligence, and special operations training. However, the U.S. did not directly supply arms to Iraq
4.    Iran Air Flight 655 was a scheduled passenger flight from Tehran to Dubai via Bandar Abbas, that was shot down (the flight was mistaken for a jet fighter) on 3 July 1988 by an SM-2MR surface-to-air missile fired from USS Vincennes, a guided-missile cruiser of the United States Navy. The aircraft, an Airbus A300, was destroyed and all 290 people on board, including 66 children, were killed. In 1996, the governments of the United States and Iran reached a settlement at the International Court of Justice which included the statement "...the United States recognized the aerial incident of 3 July 1988 as a terrible human tragedy and expressed deep regret over the loss of lives caused by the incident.”

US Army helicopters protecting the Oil Tankers crossing the Strait of Hormuz


Act III: Iran Nuclear Deal

By 2002, Iran was fighting multiple proxy wars and the US feared that their Nuclear weapon may fall into wrong hands.
In 2002 State of the Union Address, George W Bush referring to North Korea and Iran mentioned that “States like these and their terrorist allies constitute an axis of evil, arming to threaten the peace of the world” The term ‘axis of evil’ has got a lot of repetitions after then to pinpoint the common enemies of United States.
UN report also revealed that Iran has carried out activities relevant to the development of a nuclear explosive device. The mutual distrust between the US and Iran boiled over. Iran has refused to satisfy legitimate concerns about the nature of its nuclear program. Eventually, The US announced sweeping sanctions against Iran
[On June 24, 2010, the United States Senate and House of Representatives passed the Comprehensive Iran Sanctions, Accountability, and Divestment Act of 2010 (CISADA), which President Obama signed into law July 1, 2010.]
The sanctions again brought Strait of Hormuz into the limelight as Iran threatened that they would not allow a single drop of oil to pass by. The US retaliated saying that they were well prepared to take any action. The economy of Iran contracted for the first time in a decade after the sanctions as oil makes up 80% of their exports.



Result:
The Iran nuclear deal framework was a preliminary framework agreement reached in 2015 between the Islamic Republic of Iran and a group of world powers: the P5+1 (the permanent members of the United Nations Security Council—the United States, the United Kingdom, Russia, France, and China—plus Germany) and the EU






In all the three acts, a name that has come often is the Strait of Hormuz. A third of the world’s liquefied natural gas and almost 25% of total global oil consumption passes through the strait, making it a highly important strategic location for international trade. The jugular of the world economy seems to have found its relevance again and again whenever Iran has been placed in a discomfort position.






Act: IV: Withdrawal from Iran Nuclear Deal


On May 8, 2018, United States President Donald Trump announced the United States was withdrawing from the deal.
Iran has the world's fourth-largest oil reserves. But sanctions prevented it from capitalizing on that resource. As a result, Iran is only the world's seventh-largest oil producer, pumping 4.5 million barrels per day. In 2018, it exported 1.9 million barrels per day. Without sanctions, Iran had hoped to double that amount once it built up the necessary infrastructure. With the reinstatement of sanctions, exports were projected to plummet to 945,000 barrels per day. In 2018, Iran's unemployment rate rose to 13.8%. Sanctions caused its currency, the rial, to plummet. That's caused its inflation rate to skyrocket to 55% in 2018.
On July 19th, 2019, Stena Impero, a British Oil tanker, on its way to Saudi Arabia was dramatically boarded and seized by Iran’s Revolutionary Guard. It was passing through Strait of Hormuz. I had said that the quoted text will find its way.
The above clearly states how US and Iran relations have only deteriorated over the years but most importantly mentions as to how the strait is used as leverage by Iran to oppose their oponents

Act V: Things that could have been avoided 

These 4 incidents happened as the world was on the verge to enter a new decade.
1.    December 28, 2019: A US civilian contractor was killed Friday in a rocket attack on a base near Kirkuk, Iraq, where US service members and civilian contractors were located. The attack was linked to groups backed by Iran.
2.    The 2019 U.S. embassy attack in Iraq happened in Baghdad, Iraq, on 31 December 2019. Iraqi militiamen, pro-Iran protesters, and supporters of the Kata'ib Hezbollah, an Iran-backed militia, attacked the U.S. embassy in response to U.S. airstrikes on 29 December 2019 that killed 25 fighters of Kata'ib Hezbollah in Iraq
3.    Maj. Gen. Qassim Suleimani (architect of nearly every significant operation by Iranian intelligence and military forces over the past two decades) was killed in an American drone strike in Baghdad on Friday.
4.    His death is a considerable blow to Tehran, and Iran’s supreme leader, Ayatollah Ali Khamenei, called for retaliation on Friday and for three days of national mourning.

The #WWIII and #Worldwar3 were the trending topics on Twitter on 3rd January. But the most significant point remains that India has a lot to lose in these things.

Point A: The Strait of Hormuz is again going to be affected in between this feud. And this is something we can very sure about as we have read about the history of the nations. India is in a no state to handle further distress to the economy as the current economic slowdown has come at a time when the oil prices are at a record low. This, in fact, has been stated as a cushion and widely mentioned that this government has been lucky in this regard. But the fact remains that the spike in the oil prices is going to make things worse. Iran’s Oil imports to India has dipped to 1.7 mt in the current fiscal year down from 23.9 mt in 2018-19. But still, we import 226.5 mt (during FY19) that has cost India about $111.9 Billion. This is when the crude prices are at $61.18 per barrel (It was $106 per barrel in July 2014)




    

The News: Oil prices jump after top Iranian general killed by US – BBC

Point B: Reliance Industries toppled the IOCL as the largest company in India in terms of revenue. I am mentioning this fact because this company is one of the major index heavyweights of Nifty50 and Sensex. Reliance mentioned earlier that they have the plan to become the zero-net debt company. Their plans have been drawn on the altars of partnership that they are looking forward to forge with Aramco and BP (Both being, Oil-based company). With the recent developments in the oil market, we could see that a chunk of investors’ money wiping out because of the escalation.
Point C: Nevertheless, the positive sides are that macroeconomics factors have been quite stable for the nation. We have healthy foreign exchange reserves. The data reached an all-time high of 413.0 USD bn in Oct 2019 and a record low of 1.1 USD bn in Jun 1991 (just for a perspective). This would mean that we have enough cushion to shrug off the exchange rate fluctuation that the economy may face in the wake of the oil price fluctuations. Though weak rupees would mean a lower dollar return for foreign investors and making India an unattractive market for investment.
Point D: In the domestic stock market, oil-linked stocks like Spice Jet, InterGlobe Aviation; Paints stocks like Asian Paints, Berget Paints, and Nerolac may face the brunt. BPCL, HPCL, and IOCL are too not going to be spared

Point E: For a country like India which meets 80 percent of its oil demand through imports, any further rise in crude prices may have an impact on government finances. Every $10 a barrel rise in crude oil prices expands India’s current account deficit (CAD) by 0.4 percent of GDP. Every 10 percent increase in crude oil prices can push up the inflation rate by 20 basis points.
The preventive measures for the same distress may find its way to the highly talked next budget.


References:

Thursday, December 26, 2019

The Great Indian Economic SlowDown






Arvind Subramanium has again been in the news with a very informative and well-explained paper of his name: “India’s Great Slowdown: What Happened? What’s the Way Out?”
We all have been talking about the slowdown at the behest of the parameters available in the public domain. But his recent paper co-authored with Josh Felman has been very elaborate on its way to mention the key factors lucidly and even pointing out the remedies possible.

Few factors are:
1.     The collapse in Commercial Loans: Rs 22 Lakh cr was Housing loan sanctioned in 2018-19, while it has reduced to Rs 1 lakh cr in 2019-20 (6 months data)

  1. Credit Crunch: Credit is the grease that runs The economy. ILFS saga in tandem with the major irregularities found in the functioning of other Infra companies have tapered off the flow of credit. In fact, the companies are paying more in bank interest than their earnings. The Nominal GDP growth rate taken as a proxy of Likely earnings would result in these data-
Interest Rate on Loans: 10.5 %
Likely Earnings: 6.1 %

This is no sustainable way forward with these rates and things will go worse before the situation gets better.

3.      Budget Deficit doesn't show the true picture: Restricting the deficit to 3.3 % is a healthy figure. It also shows that the economy can relax the percentage point upwards to boost the economy if the government wants so. But there is a problem. For better explanation, you may refer to this one: https://www.financialexpress.com/economy/under-reported-deficit-rise-in-non-capex-extra-budgetary-borrowings-raise-the-fear-of-a-debt-trap/1475171/

But the summary is that the real deficit may be up to 6-7 percent depicting that there is no space for increasing the budget deficit in the name of boosting the economy.

4.     Housing Sales: Considering the Top 8 cities (2019), the housing sales tuned up to 2 Lakh cr. But the unsold houses amounts to 8 lakh cr. That's terrible. The demand has been meager in the face of supply. The more worrisome fact is that a percentage of the loans sanctioned by the NBFCs and Banks to these Infra players are not going into building new estates but just to maintain the already existing inventory that they have.

5.     Electricity Generation (Growth percentage): It's even worse than the 1990 crisis falling to the meager 1 percentage point.

6.     Double Twin Balance Sheet challenge: With growth collapsing, India is now facing a Four Balance Sheet challenge—the original two sectors, plus NBFCs and real estate companies. In this situation, the standard remedies are no longer available. Monetary policy cannot revive the economy because the transmission mechanism is broken. Fiscal policy cannot be used because the financial system would have difficulty absorbing the large bond issues that stimulus would entail. The traditional structural reform agenda—land and labor market measures—will not address the current problems.


And these all come at that time when we have been quite lucky with the prices of Crude falling from $ 106 in 2014 to $ 61.11 per barrel as of 24th December 2019. Meanwhile, the RBI cut interest rates by a cumulative 135 basis points during 2019, more than any other central bank in the world over the period and one of the largest rate reductions in India’s history, in the hopes of reviving lending. But lending continues to decelerate, and investment remains mired in its slump

Nevertheless, the positive sides are that macroeconomics factors have been quite stable for the nation. We have healthy foreign exchange reserves. The data reached an all-time high of 413.0 USD bn in Oct 2019 and a record low of 1.1 USD bn in Jun 1991 (just for a perspective). This would mean that we have enough cushion to shrug off the exchange rate fluctuation that the economy may face. The inflation has been well contained in the limits.

The remedies suggested by the eminent scholar are these:
  1. Fix India Data problem. There has been a concern about the validity of the GDP, NPAs figures.
  2. The Bankruptcy code: Consider the big picture. Only Rs 2 lakh crore has been resolved through the IBC so far (with recoveries of just Rs 83,000 crore), a small fraction of the initial stock of NPAs. At this rate, it will take a very, very long time to solve the bad debt problem
  3. Increase supervision of NBFCs
  4. Allow new GMO Crops (It's controversial. Safety concerns led 38 countries, including 19 in Europe, to officially prohibit their cultivation)
  5. Do not raise GST rates and Do not cut personal tax.
The fact remains that our Finance Minister has got a tough job. It may sound funny but when Mr. P Chidambaram on being asked by Rajdeep Sardesai, what would you do if you were Nirmala Sitharaman, he said "I would resign. If my assessment was so wrong, I would resign". All eyes are on Budget 2020-21 which may be presented by the minister on February 1.

For such articles in your inbox, subscribe here. And do let me know in case of any errors that may have crept in. Have a wonderful day.

References:
  1. https://www.hks.harvard.edu/sites/default/files/centers/cid/files/publications/faculty-working-papers/2019-12-cid-wp-369-indian-growth-diagnosis-remedies-final.pdf
  2. https://www.macrotrends.net/2516/wti-crude-oil-prices-10-year-daily-chart
  3. https://www.ceicdata.com/en/indicator/india/foreign-exchange-reserves
  4. https://en.wikipedia.org/wiki/Genetically_modified_crops
  5. https://www.financialexpress.com/economy/under-reported-deficit-rise-in-non-capex-extra-budgetary-borrowings-raise-the-fear-of-a-debt-trap/1475171/




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