- Oil price hikes will only add more pressure to Pakistan’s woes
Volatility in oil prices, impact oil-importing countries like Pakistan the most, in terms of both putting pressure on current account situation, and also on the inflation rate through the import pass-through channel. Having said that, the situation of oil prices is far from stable, and therefore holds sound reasons for indigenous policy to internalise this, and respond accordingly.
The recent rise of tensions between the USA and Iran has greatly added to the reasons– US-China trade wars and subdued global economic growth– creating volatility in oil prices, which have seen the biggest weekly gains since February. The weekly increase in Brent crude stood at 4.5 per cent, with a single day increase of 0.5 per cent on Friday. This comes after heightening tensions near the Strait of Hormuz, a main oil-supply route for Asia, especially for China, which continues to build oil inventories to meet its growth needs. The Japanese tanker that was attacked means therefore that oil supply to Japan will also be affected.
This rise points towards the already increasing volatility in oil prices over many months now, where both ‘push’ and ‘pull’ factors are at play. The global slowdown in growth, primarily at the back of the US-China tariff-related trade wars, but also their increasing scope in the likely inclusion of Mexico, India and Europe, form the main reasons behind the slowdown in oil demand for some time now. These served as pull factors, which lowered the most in May and earlier in June, but these pull factors in prices are going to be dealt with some countering policy of supply-control as OPEC– the global oil cartel– is set to meet in early July to cut down on supplies to push-up prices. Yet most importantly, the current high level of oil-transport-related violence in the region, and US oil-supply-related sanctions on Iran and Venezuela, are coming out as strong push factors.
It is high time that policymakers look towards unconventional policy options of the likes of modern monetary policy, and a political economic and heterodox institutional economics policy approach
Resultantly, London’s ICE Futures Europe Exchange oil prices have increased for Brent for August to $64.79 a barrel. This is the first gain in weekly terms since mid-May. This could be elaborated further through analysing Brent’s one-week price change since the start of the year, whereby after the weekly increase of close to 10 per cent in the first week of January 2019, there was a marked downward trend in the second and third weeks, but after that it has been just two weeks– third week of February (where it increased by seven per cent) and this week– where prices have risen by more than 4 per cent. For the rest, the weeks for which there was an increase, only four times was it on or around two per cent. Moreover, overall there were mostly significant reductions in weekly oil prices from May and before the third week of June.
To highlight further the volatile situation of oil prices and the overall fall in prices since April till recently in June, an extract from an opinion article of Clifford Krauss in the New York Times on June 5 said, “Always volatile, oil prices have tumbled more than 20 per cent since late April because of growing fears that demand is weaker than expected as the global economy slows. Investors are also worried that President Trump’s trade war with China and his threat to put tariffs on imports from Mexico could depress growth even more. On Wednesday, crude oil futures in the United States closed at $51.68 a barrel, down 3.4 per cent for the day, even as the stock market closed higher.”
Yet, the backlog of circular debt in Pakistan has meant that the government has continued to rely on not passing through the earlier fall in prices in May, and for the low net-increase in oil prices since mid-February. This has built up pressure on inflation in the country through the channel of both import pass-through, and also from that of the indirect taxes component on landed oil prices. Perhaps, the circular debt issue could be mitigated through better governance, so that the inflationary burden could be lowered on the end-users of oil.
Sadly, the above prices may not be the plateau Pakistan’s current account deficit concerns may hope for, since according to Bloomberg, “Brent is a “coiled spring” and may surge to $75 a barrel on improving fundamentals, rising Mideast tensions and financial positioning, Citigroup says.” The above, if it materialises, holds grave challenges for Pakistan’s economy. In particular, the rise in prices already are likely to hold a significant challenge for current account, and inflation; especially in the wake of the current IMF programme– although yet to formally start– whereby the exchange rate will be determined on market principles.
Hence, if recent history of acute depreciation of rupee against the dollar is any indication, the SBP does not intend to intervene much, let alone manage-float. Perhaps, they have not learnt a lot, if at all anything, from the experience of Indonesia in the Asian financial crisis of the late 1990s. One can only hope that similar negative consequences as faced by Indonesia of a non-interventionist approach on the overall economy are not experienced by Pakistan.
Rising oil prices will once again mean likely higher inflation, and with the IMF programme following in the footsteps of Milton Friedman, calling inflation still basically a ‘monetary phenomenon’, would mean that the failed policy of the Global Oil Crisis of 1970s, of over-relying on policy rate hike to deal with inflation, will continued to be applied; at the back of Pakistan already becoming the most aggressive user of policy rate, for over a year now, in controlling inflation. This will only add fuel to fire to the already brewing stagflationary pressures in the country, at the back of not approaching with a balanced policy approach of adopting both monetary and fiscal policies, and not just curtailing aggregate demand to curb inflation, but also by boosting aggregate supply, with positive consequences towards lowering inflation, reducing unemployment, and boosting economic growth.
Conventional economic policy, is not and will not, take Pakistan out of its twin-deficit crisis situation. It will only make the situation worse, especially at the back of increasing oil prices, market-determined exchange rate policy, and lack of institutional reform strategy to improve the supply side. It is high time that policymakers look towards unconventional policy options of the likes of modern monetary policy, and a political economic and heterodox institutional economics policy approach. This will be difficult to do once in the programme, and therefore this thought process needs to be brought up with IMF at the earliest.
For the global economy, trade wars, oil price volatility, and expected accelerated increase in oil prices could mean that the subdued growth outlook, as recently reiterated in the Global Economic Prospects June report of World Bank, will only likely become more subdued, especially since the main growth generators of the likes of China, India and Bangladesh are, and will all be expectedly, affected negatively by these factors. These negative factors for global growth will likely distract the focus of countries from dealing effectively with climate change– and the hope is that this challenge will still be addressed against all odds. Therefore, hope is that issues related to political, political economic and purely economic concerns like trade wars will be addressed expediently, and in a spirit of valuing overall global gain.