Editorial: Butterfly effect

The ongoing conflict enveloping the Middle-East has sent tremors down international bourses, and its impact was seen even in India. Earlier this month, the Sensex registered its biggest single-day dip (1,769.19 points or 2.10 per cent), as investors’ wealth eroded by Rs 16 lakh crore after the Sensex tumbled 5 per cent over a period of five days. The market witnessed heavy correction in equities amid worsening tensions in the Middle East and foreign fund outflows. The BSE Sensex tumbled 808.65 points or 0.98 per cent to settle at a three-week low of 81,688.45.

The free-fall began on October 3, when the Sensex saw a sharp decline, as it lost 900 points within hours of trading and the Nifty50 also lost steam as it fell nearly 280 points. Tensions between Israel and Iran triggered panic among investors leading to a situation of widespread selling across sectors. The anticipation of potential disruptions in global trade and the fear of rising oil prices caused this bloodbath in global markets. Experts believe the pessimism on the market is expected to continue in the near term amidst rising crude prices and fund flows to cheaper markets like China.

For an oil-dependent economy like India, the prevailing crude oil prices have still not peaked to alarming levels. Crude oil futures surged by as much as 5 per cent two weeks ago after US President Joe Biden said his administration would support Israel striking Iran's oil facilities. The Finance Ministry is said to be closely monitoring developments in West Asia though it is not overly worried about crude prices.

However, there are deep implications for India whose reliance on imported crude is estimated to touch 94% by 2030, exposing the economy to vulnerabilities of global oil price fluctuations and increasing the risk of economic instability during such periods of high oil prices. Currently, India imports approximately 85% of its crude oil and rising prices would significantly increase the import bill. For instance, a $10 increase in crude prices can widen India's current account deficit by about 0.5 per cent of GDP, leading to potential depreciation in currency and imported inflation.

Interestingly, when Russia invaded Ukraine, the Sensex dropped by 4.72 per cent to close at 54,529.91 points. On February 24, 2022, the fall marked one of the largest single-day dips in two years. Like the present scenario, the slide back then had also led to volatility in the markets owing to investors getting worked up. Per experts in the financial space, there is a growing concern that the Middle-East conflict could escalate further, drawing in other major nations, which would severely disrupt global trade and supply chains. The impact on India could be significant.

Recall that it was only a few months ago that central banks globally began cutting interest rates, which led to a monetary easing cycle. These rate cuts were needed to stimulate economic growth, and were initiated after a prolonged period of maintaining decade-high interest levels, a measure to combat inflation. But the ongoing conflict between Israel and Iran threatens to throw a spanner in the works and sabotage this recovery. If central banks begin reconsidering their rate cuts, it could boomerang back into the mode of tightening policies, impacting global markets, especially those in emerging economies like India. This might in turn stoke foreign investors to withdraw capital from the Indian market as in pursuit of more stable, and considerably less volatile investment options.