How the Israel-Iran crisis threatens to impact India and the world
We explain the grave economic ramifications for the Indian economy, due to the impact on global oil prices, trade and regional stability, should an all-out military conflict break out
by Anilesh S. Mahajan · India TodayThe rapidly escalating tensions between Israel and Iran have raised the spectre of an all-out military conflict that threatens to further push a volatile West Asia into deeper crisis, with grave economic and geopolitical fallouts for the rest of the world too. This also has significant ramifications for the Indian economy due to the impact on global oil prices, trade and regional stability.
India’s external affairs minister S. Jaishankar has emphasised on the need to avoid civilian casualties and New Delhi’s willingness to engage in the matter through discussions and diplomacy. “Don’t underestimate the importance of communication in difficult times. If there are things to be said and passed on and back, I think those are all contributions that we can make, and we do,” Jaishankar recently said during an interaction tank in Washington.
This is being seen as a rare offer from India to mediate in a conflict, especially in West Asia. It underlines the strategic and economic importance of the region for New Delhi, which is bracing for various potential impacts should the situation worsen.
Energy security
Iran’s missile retaliation on Israel on October 1 sent crude oil prices surging on various international indices and causing anxiety for India, which imports about 85 per cent of its crude requirements, mostly from West Asia. Brent crude prices crossed the $75 a barrel mark. India’s purchases are linked to the Brent scale and any spike has a significant impact on the country’s purchases.
The rise in crude oil prices has already crossed the average prices of Indian purchases from sub-$73 a barrel to $75 and a few cents in a single day. The Reserve Bank of India (RBI) had projected crude oil prices for the country’s basket at $85 per barrel in FY25. The basket witnessed average crude oil prices above $85 a barrel in the first four months of the year.
The drop in oil prices in the last two months was used towards calming down average prices in order to reduce pressure on public expenditures. The worry for India, both the government and the stock markets, is the price fallout of any disruption in Iran’s oil supply lines or damage to its oil assets.
According to a Morgan Stanley report, a $10 per barrel increase can impact consumer prices by 0.2 to 1.4 percentage points across Asian economies. India is in the middle, with consumer price index (CPI) rising up to 0.5 percentage points for each $10 per barrel increase in oil prices. The surge in prices directly impacts India’s import bill, worsening the trade deficit and putting pressure on the rupee. A weaker rupee will make imports costlier, adding to inflationary pressures.
The good news is that India is maintaining decent forex reserves of $692.8 billion (week ending September 20). The RBI, from time to time, intervenes in the market through liquidity management, including through the selling of dollars, to prevent a steep depreciation in the rupee. Unlike other major economies like the US and China, India isn’t trade-surplus. Forex is earned because of the influx of the hot money invested by foreign institutions. The US Federal Reserve’s recent rate cuts and China’s continuing rally in response to domestic stimulus are already pushing foreign funds to square off their India position. So, trouble on the import bill will add to the woes.
Should Israel strike Iran’s oil facilities, it could result in huge global oil supply disruptions. Higher oil prices, especially diesel, will make transportation and production costlier, potentially spiking inflation. This could hurt consumer demand and lead to higher prices of goods and services across the Indian economy.
While India has been making higher imports of Russian oil due to price discounts, these discounts have in the past two months come down to their lowest since the start of the Ukraine war. Accordingly, India’s reliance on West Asian imports increased, to 44.6 per cent from 40.3 per cent in July. During April-August, the region’s share had declined to about 44 per cent from around 46 per cent a year ago.
Iraq, Saudi Arabia, the UAE and Kuwait are the main West Asian oil suppliers to India. New Delhi opened up channels with Tehran to boost Iranian oil imports after Jaishankar’s visit in January. So, any conflict in the region involving Iran is bound to cause anxiety.
Iran’s oil industry plays a critical role in the world’s energy markets, given its vast reserves and production capacity, and accounts for 3 per cent of the global supplies. Iran has been increasing its oil production capacity over the years.
The global markets are worried but not panicking yet, given that the US has become a net exporter of oil and gas and OPEC Plus has committed to increasing oil output by December. This suggests that while there is no immediate threat to global oil availability, any attack on Iran’s oil assets or supply lines could change equations overnight.
Trade lines
The barrage of Iranian missiles on Israel was heard the loudest in the boardrooms of shipping companies. India’s economic health depends extensively on the safety of trade routes passing through the Gulf of Oman, Strait of Hormuz, Persian Gulf and a safe shipping passage in the Red Sea to be able to cross the Suez Canal and enter the European markets.
The prospect of an Israel-Iran war puts these trade lines at risk. Prolonged turbulence and continuing US sanctions on Iran have already delayed the critical India-Iran Chabahar Port project that seeks to connect Central Asian markets. Any escalation in conflict will also delay another ambitious trade route project, the India-Middle East-Europe Corridor (IMEEC). The corridor had received a thumbs-up from all stakeholders on the sidelines of the G-20 Summit in New Delhi last year.
Shipping companies in India are worried that should the current conflict escalate, there will be a need to reroute ships or pay higher insurance premiums due to security risks. The Strait of Hormuz is the world’s most important trade transit chokepoint. Chokepoints are narrow channels along widely used global sea routes critical to global trade. The inability of ships to transit a major chokepoint, even temporarily, can create substantial supply delays and raise shipping costs. Hormuz, located between Oman and Iran, connects the Persian Gulf with the Gulf of Oman and the Arabia Sea.
Rerouting of ships means via the African tip touching the Cape of Good Hope and then reaching the European and North American markets. This translates to higher shipping costs and directly impacts the cost and efficiency of India’s exports and imports. Earlier this year, ships passing through the Red Sea region were attacked by Iranian-backed Houthi rebels from Yemen. The Red Sea conflict has already increased insurance costs by 30 per cent besides lengthening the freight journey time by two-three weeks.
Every month, shipments from India worth $11-12 billion pass through the Red Sea region to reach Europe, North Africa, the Mediterranean and North America. Recent data from the UN Conference on Trade and Development shows that transit volume dipped by 42 per cent compared to its peak following the Red Sea crisis. It has escalated shipping costs for Indian players by 40-60 per cent and is already reflecting in the prices of commodities reaching the Indian shores. Disruptions in the Strait of Hormuz will further dent the confidence of traders.
Testing times
The Israel-Iran conflict may also push India to realign trade priorities in West Asia. Despite having strong economic and defence relations with Israel, bilateral trade has declined, falling in FY24 to $6.53 billion from $10.77 in FY23. Trade experts explain that the reason behind the dip is the regional security situation and trade route disruptions.
On the other hand, India’s relations with Iran are complicated by US sanctions on Tehran. New Delhi was hoping to revive trade ties, especially after Jaishankar’s trip to Tehran. In the past decade, under the Narendra Modi government, New Delhi has successfully de-hyphenated relations with most nations and put Indian interests first.
Trade with Iran dipped to under $2.33 billion in FY23 from $17 billion in FY19. Experts believe that a direct conflict involving Iran could make India’s trade with Tehran even more difficult.
New Delhi maintains cordial relations with both Israel and Iran, and a war between them could challenge India’s foreign policy, forcing it to balance its interests carefully. Jaishankar has already made a statement that New Delhi can hold talks with both Israel and Iran to bring the two sides to the discussion table.
Domestically, the ruling BJP has better relations with the Shia community, which backs Iran. But too much backing of Israel can alienate other Muslim communities as well. Support for Iran among Indian Shias is not uniform. However, the backing for Iran is often rooted in deep religious, historical and political factors. This support is tied to a shared Shia identity, religious scholarship, cultural connections, political resistance and a sense of protection of Shia interests and rights globally.
Shia clerics, scholars and clerics often receive theological training at seminaries in Iran, especially in the city of Qom. These seminaries maintain close contacts with Indian Shia communities as well. This is in addition to the holy cities of Najaf and Karbala visited by Indian Shias.
The BJP gets the support of Shia voters. While the Shia community is spread across the country, it has sizeable populations in urban centres in Uttar Pradesh, Madhya Pradesh, Maharashtra, Jammu and Kashmir, Delhi, Gujarat, Hyderabad and Karnataka.
While the Modi government has strengthened relations with Israel, it did not alienate any Shia country or Iran. Many Shias in India may prioritise local and national issues over aligning with any foreign state, including Iran. Several strategists believe New Delhi will stay equidistant, if not side with Iran.
Upheaval on Dalal Street
The violence in West Asia is also hitting the Indian stock markets, with sectors like energy, automobiles and airlines facing volatility due to rising oil prices and geopolitical uncertainties. On October 3, the Sensex and Nifty crashed by over 2 per cent over the escalating geopolitical tensions and oil price surge. There are other reasons too, such as market regulator Securities and Exchange Board of India (SEBI) further tightening the grip on derivatives by limiting the weekly expiries to one per exchange and increasing contract sizes, which may dampen retail sentiment and reduce trading volumes, adding to investor concerns.
These big steps came at a time when two of the biggest economies were making readjustments. Even before the West Asia escalation, the stock markets were under pressure after witnessing the China’s benchmark CSI 300 Index make a leap of nearly 27 per cent in the last week of September, with a biggest single-day gain in 16 years on September 30.
China’s central bank announced measures to revive its economy by cutting reserve requirements and lowering key interest rates, aiming to inject 1 trillion yuan into the domestic market. This includes reducing mortgage loan rates and standardising down payment ratios amid ongoing economic challenges. This was timed with the US Fed’s rate cut. Both these events led to foreign funds opting to square off their position in India and other Asian markets and bet back on China.
Travel pangs
The West Asia crisis is complicating travel logistics too. Air India has cancelled flights to and from Tel Aviv, citing safety concerns, while carriers like Vistara and IndiGo, along with several international airlines, are avoiding Iranian airspace.
The rerouting of flights can mean longer flight paths and higher costs for airlines operating to and from Europe, West Asia and Southeast Asia. For airlines, lengthy diversions will add to fuel costs and stoke airfares. The other worry is that escalation of conflict will put pressure on crude oil prices and retail prices of aviation turbine fuel.
With airlines already stretched thin by the post-pandemic recovery, these price surges can impact travel affordability. It is also bound to impact global air traffic, including from India, especially at a time when large sections of the Indian diaspora will be homebound to escape the winter chills of Europe and North America and to join the festive season in India.