Asia confronts new inflation, fiscal threat as oil tops US$100

Asia’s economies face a fresh test of resilience after oil crossed the US$100 threshold again, with inflation running hot and fiscal and monetary policy already tight.

Brent oil spiked over US$107 a barrel on Friday amid an uptick in attacks in the Strait of Hormuz, with the US and Iran posturing for a long war. The likes of Japan, South Korea and India rely heavily on imported crude to power their industries, while higher prices increase the cost of fuel subsidies for countries like Indonesia and Thailand.

Policymakers across the region will face pressure to keep cushioning households and businesses, which have seen incomes eroded by sticky inflation. But with budget deficits already bloated and interest rates high, their space to maneuver now is much narrower than before.

“Surging oil prices brought terms of trade, inflation and medium-term fiscal concerns back into play,” said Wee Khoon Chong, senior market strategist for Asia Pacific at BNY in Hong Kong.

Most emerging Asian currencies were weaker against the dollar on Friday afternoon, with the Indonesian rupiah seeing the sharpest drop of 0.5%, followed by the Thai baht at 0.4% and the Indian rupee at 0.3%.

While Asia enjoyed better-than-expected growth in the first half of the year thanks to the artificial-intelligence boom, the Middle East conflict continues to hang over the region, which is the most reliant on shipments passing through the Strait of Hormuz.

“A sustained Brent shock could amount to a double whammy, compounding inflationary pressures while simultaneously weighing on growth,” said Madhavi Arora, economist with Emkay Global Financial Services Ltd. in Mumbai.

In India, the world’s third-largest crude importer, every US$10-a-barrel increase in Brent theoretically adds 35 basis points to inflation and shaves 15 basis points off growth, according to Arora. The sensitivity could be less this time, though, after the nation diversified its sources away from the Gulf region, she said.

Price pressures have yet to dissipate from the initial energy shock when the Iran war broke out in February, and higher costs continue to spread beyond transport — to food, utilities and housing.

Asia swaps for diesel — a workhorse fuel used in transport, construction and industry — have soared by twice as much as Brent crude. Gains in gasoline swaps have also exceeded the global crude benchmark.

Liquefied natural gas prices have likewise surged to their highest level since late-2022, threatening higher power bills across importers like Thailand, Vietnam and the Philippines. The region’s benchmark is set to keep climbing with winter approaching, as Europe and Asia compete for a limited pool of shipments amid ongoing disruptions in Hormuz.

Other economic headwinds are picking up. Food prices are under pressure due to the Russia-Ukraine war and the severe El Niño weather disruption, according to Brian Lee, an economist at Maybank Securities Pte. in Singapore.

“In the face of a prolonged increase in input costs with little relief in sight, firms that have held off raising prices in the face of demand uncertainty may be eventually be forced to do so to stave off margin pressure,” Lee said.

The Bank of Japan is widely expected to hike its policy rate next week, while the Reserve Bank of Australia has already signaled it’s ready to tighten ahead of its rate-setting meeting later this month.

India’s central bank next meets in October, with some economists seeing a risk of the first rate hike since the war began. Inflation data due Monday could help shape those expectations.

The Bangko Sentral ng Pilipinas said this week it would “closely monitor” the Middle East conflict after inflation stayed elevated at 6.1% in August, even before the recent flareup. The BSP has said it will ensure the gauge returns to its 3% target.

Fiscal buffers are also thinning, if not quite depleted. Thailand and South Korea took on additional spending for stimulus measures, while Indonesia has had to cut its budget for other programs to afford its subsidy bill. Malaysia, where Prime Minister Anwar Ibrahim has just expanded subsidized fuel quotas to appease voters ahead of possible elections, may now also need to shell out more money.

“For Indonesia, right now, our calculations show that we’re still going to face an average of US$90” for crude oil, National Economic Council Deputy Chair Mari Elka Pangestu said at a conference on Wednesday. “Our budget assumption was US$70 and now we have to work with US$90.”

Thailand’s oil fund, which it uses to stabilize prices, could also sink deeper into a deficit from 83 billion baht to around 100 billion baht (US$3 billion), according to Puree Sirasoontorn, associate professor at Thammasat University.

“If the fund alone cannot handle the surge in oil prices, the Thai government may need to borrow money to subsidize fuel prices for consumers, putting further pressure on an already-stretched fiscal budget,” she said.

To be sure, Asia could be better placed now after it took emergency measures at the onset of the war on Iran. China, the world’s top oil importer, has reduced fuel shipments and tapped commercial stockpiles in reaction to the crisis.

But with no clear path to resolve the Middle East conflict, HSBC Holdings Plc warns that the “new normal” for the global economy may be one in which “the strait is neither fully closed nor fully open, but persistently impaired.”

“Our new base case assumes that a fragile US-Iran understanding eventually emerges, but remains prone to repeated breakdowns and continued uncertainty,” HSBC said in a note, raising its forecasts for Brent oil to US$90 for this year and US$85 for 2027. “This leaves the market tighter for longer than we had previously assumed.”

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