Commodity (Dis)comfort?

Context: In the context of ongoing pandemic, Indian economy saw a record current account surplus mainly due to contracting domestic demand, (negative sign for Indian economy) and falling prices in global commodity markets (favours Indian economy).

Importance of commodities in Indian import basket:

• Commodities constituted half of the total Indian imports in value terms in pre-covid times.
  • Oil and associated fuels are about half of the 50%, while gold, other precious metals, coal, aluminium and iron and steel make up the bulk of the other half.
• The correlation between global oil prices and Current Account Deficit (CAD) and rupee value:
  • In just the last decade-and-a-half, CAD has worsened dramatically each time oil prices have neared or crossed $100 a barrel, and the rupee tumbled.
  • A sudden fall of rupee could cause uncertainty, damages economic activity and can lead to inflationary pressures.

Effects of low commodity prices:

• Results in stable rupee and low inflation.
• Improves fiscal position and increases the scope for borrowing: g. recent fall in global oil prices led to windfall gain in taxes of Indian government as it did not transfer the benefits to the consumers.
• Increased liquidity: pumped up into the market by Reserve Bank of India (RBI) to balance the strong foreign inflows in the backdrop of current account surplus. (Government as the largest borrower benefits)

Associated concerns:

• Commodity prices based on cheap liquidity and investor appetite: Economic fundamentals and cheap money may combine to seriously elevate commodity prices and will hurt when stimulus is withdrawn.
• Uncertainty about possible effects of new COVID-19 strain.
• Rise in oil demand: even under the most optimistic scenario of an energy transition: As economic growth will drive a rapid increase in overall energy demand from what is a low base.
• Need of Fourth Industrial revolution: New commodities like rare earths, not produced in India, would have to be imported.

Conclusion: Demand for many commodities will increase as India becomes more prosperous. Therefore, for more permanent comfort, India must reduce its vulnerabilities to commodity prices by producing more in India.