Up, up and away

Indians had better brace themselves. There is a growing consensus in the international energy business that oil will reach $100 a barrel, plus or minus $5, by December. That's assuming there are no airstrikes on Iranian nuclear installations or an al-Qaeda decapitation of Saudi refineries this year. Those would only add a further premium to prices.

The underlying energy problem remains the same.

On one hand, the supply of oil remains constricted. This is not because of oilfields running on empty. It is because of a scarcity of infrastructure like refineries and rigs. These bottlenecks are expected to last until 2008, at the earliest.

On the other hand, demand for oil is still rising. The two big gorillas in the energy jungle, China and the US, will burn more than ever. China alone may add 500,000 more barrels to its daily consumption. Emerging economies as a whole will burn 3.5 million barrels more. One new factor is that oil-exporting nations like Russia and Iran are becoming big consumers as well. These nations may match China in terms of add-on consumption in 2006.

The conventional wisdom has been that as oil prices rise, people rethink that second car and consumption falls. This is what seems likely to screw the global energy equation: evidence of any drop in demand is scanty.

The International Energy Association optimistically predicts global consumption will rise a mere 1.24 million barrels a day this year. The US Department of Energy raises the ante to 1.7 million. But private energy forecasters, like Hess Energy Trading, say it could well be 2 million. Said one Hess Energy executive, "An array of false signals is indicating that demand for oil is slowing, especially in the US and China. This is illusory." The higher figure is more likely: China's economy recorded 11.3 per cent growth this past quarter, the highest in a decade. The long-awaited slowdown in the US economy is, well, still awaited.

What has brought about the New Global Energy Equation?

One reason is that oil prices have risen gradually and in a manner wholly predictable to the markets. There haven't been any overnight oil shocks as happened in the Seventies. This allows firms and governments to adjust accordingly. Oil prices have moved from $ 40 a barrel a few years ago to $ 50 and now on to $ 70 without the world economy breaking stride. The International Monetary Fund predicts global growth to be a reasonable 3.5 per cent this year.

A second reason is that 21st century economic growth is a lot less energy intensive than in the past. India is probably the most remarkable case: its economic growth has had an energy intensity one-ninth that of China and one-third that of the United States. But even the two latter guzzlers are more efficient than developed economies a decade ago. The US had doubled energy efficiency per unit of GDP since 1973.

All this means that countries are getting wealthier in tandem with price rises. Even if your salary doubles at the same time as pump prices do, you'll still go and buy that SUV.

A third reason -- and here is the rub -- rising economies like India and China have placed economic growth on such a pedestal that they are, in effect, subsidising growth by suppressing interest rates. The Reserve Bank of India has become a twisted pretzel in its effort to push down inflation without pushing up interest rates. Tack on a habit of selling oil products to their citizens at artificially low prices and you have two economies consuming far more oil than they should be.

Obviously, the world can't absorb oil prices rising forever. The question is what is the breaking point, when will it come about and how savage will the fallout be.

What is clear is that economies which will best handle the oil price spike that is expected to rebalance the energy markets are those that have been most honest about oil prices. In other words, they have not disguised how high global oil prices have become to either individuals or firms. And they have focused on stepping up growth through more reforms and not holding down interest rates.

India has taken half-steps in both instances. As Leena Srivastava of the Tata Energy Research Institute has pointed out, 30 to 50 per cent of India's energy production is wasted because prices are so out of whack with reality. Higher prices would have helped reduce this sort of leakage, making it easier for India's economy to post solid growth even at $ 100 a barrel.

New Delhi has no lack of recommendations on preparing for the Day of the Spike. The Planning Commission's recent draft approach paper for the 11th Five-Year Plan is full of them. Then there are the C Rangarajan committee's proposals. What has been lacking has been political will. The government knows that talk of a kerosene constituency is overdone: the national sample survey has shown kerosene use is down to 10 per cent of urban Indians and less than 1 per cent of their rural brethren.

Instead, the Finance Ministry has taken recourse to fantasy, arguing that ever-higher oil prices will have no impact on the growth rate. A $ 100 a barrel price will have to be absorbed. Either it means higher inflation -- with a resulting drop in domestic demand. Or it means losses for the nationalised oil industries -- with a resulting flood of red ink. At the very least, India's manufacturing boom will start to lose air rapidly. The Indian Energy Equation, unfortunately, remains the same short-sighted tangle of government interference that it has been for the past three decades.