OIL & GAS

Rising oil prices likely to stall Asian economies with high fuel subsidies
by Stella Lee 04:46 AM May 02, 2011

SINGAPORE - Rising oil prices are likely to weigh down heavily on Asian governments with high fuel subsidies, economists said.

They said that should oil prices continue to rise, fuel subsidies will take a larger share of government spending, which means that there will be less money available for other fiscal projects such as infrastructure.

Most investors expect the demand for oil to remain strong amid the global economic recovery and further helped by concerns over supply due to the unrest in the Middle East.

But they are also concerned about many Asian countries that have significant portions of their budgets allocated to fuel subsidies to help cushion the impact of rising oil prices and how that is likely to affect their economic performance.

With oil prices expected to remain above the US$100 mark this year, economists say this will have implications for Asia's economies.

Malaysia and Indonesia currently have the largest fuel subsidies in South-East Asia costing the economies as much as over 1 per cent of their GDPs. Both are expected to increase fuel subsidies.

Still, most analysts believe both countries, being oil producers themselves, will be able to absorb more subsidies as they will benefit in the form of higher tax collection and royalty payments.

Most vulnerable, they say, will be India, where fuel subsidies will likely increase its budget deficit. Analysts estimate that a US$10 (S$12.24) increase in oil prices will increase the subsidy bill by US$3 billion for India.

Mr Victor Shum, managing consultant at energy consulting firm Purvin & Gertz, said: "Politicians will be under pressure to really maintain the subsidies or increase the subsidies as oil prices rise."

"What will happen is that funds will be diverted from other areas to finance subsides and that is going to hurt economic growth in India, so these subsidies will hurt economic growth," he said.

Higher oil prices also mean more inflation, further cutting back investment spending.

Ms Prakriti Sofat, regional economist at British bank Barclays Capital, said: "You would see prices at the pump increasing, that is passing through to transportation costs, as well as having second-round effects into food and other products. And we are already seeing that, whether it's Singapore, the Philippines, service sectors are increasing quite a lot."

Economists say that the best way to control inflation will be to remove subsidies as higher prices would have an immediate effect of dampening consumption.

Territories such as Korea, Taiwan, Singapore and Hong Kong are the least likely to be affected as they have no explicit oil subsidy programmes in place.

Singapore, which uses an exchange-rate policy, has allowed its currency to rise to help counter imported inflation including the rise in oil prices. Bloomberg