The Strait of Hormuz Crisis and Its Fallout on India’s MSME Sector

After the Iranian nuclear facilities' heavily bombed by US airstrikes on Sunday, Iran's parliament approved a motion calling for the closure of the Strait of Hormuz. Nearly 20% of the global oil and gas demand flows through the Strait of Hormuz. India, being the world third third-largest consumer of crude oil, which depends on imports for over 85% of its requirement, could be significantly impacted due to Iran's recent move. Global financial services firm J.P. Morgan cautioned that an Israeli attack on Iran could cause oil prices to surge to $120 per barrel. This article delves into the far-reaching impact of the Strait of Hormuz crisis on India’s economy, with a special focus on how rising crude oil prices are affecting the MSME sector across manufacturing, logistics, exports, and more.

Significance of the Strait of Hormuz

The Strait of Hormuz is a strategically narrow waterway that passes through Iran and Oman, and connects the Persian Gulf with the Gulf of Oman and the Arabian Sea. According to the U.S. Energy Information Administration (EIA), it is the world’s most critical oil transit chokepoint. Around one-fifth of global liquid petroleum fuel consumption and global liquefied natural gas (LNG) trade pass through the strait. 

However, India's largest source of crude oil is Russia, but much of India's oil comes from key West Asian suppliers like Saudi Arabia, Iraq, and the UAE reach Indian ports through this strait. A significant portion of India’s LNG imports—primarily sourced from Qatar—also pass through this vital chokepoint. 

Based on tanker traffic data analysed by The Indian Express, Indian refiners imported nearly 47% of crude oil in May was likely transported through the Strait of Hormuz.

So, if Iran closes the strategic water channel, oil prices could jump to over $120 per barrel or even to $150. This could disrupt the global supply chain, including India.

Rising Crude Prices Mean

Indian's Energy Security at Risk: More than 85% of the country's crude oil requirements are met through imports, which becomes a fragile condition when supply routes are threatened or disrupted. Dependence on Middle Eastern suppliers now magnifies this vulnerability.

Higher Import Bills: An immense rise in crude oil prices inflates India's oil import bill, putting pressure on the current account deficit. This could ultimately push the government to recalibrate budget allocations or reduce expenditure in other sectors.

INR Depreciation Pressure: Uplifted oil prices increase the demand for dollars, putting downward pressure on the Indian Rupee. And a powerless rupee, in turn, pushes imports to become more expensive, which further exacerbates inflation.

Fuel Price Hikes: When the cost of crude oil shoots up, the prices of diesel, petrol, and LPG also rise instantly. However, this doesn't directly affect regular people, but it puts pressure on small businesses (MSMEs), which rely on fuel to run vehicles, operate machinery and transport goods.

Strain on Fiscal Deficit and Inflation: When the prices of fuel increase, the government might have to step in by giving subsidies or cutting taxes to reduce the burden on its citizens.    But this move increases government spending and adds to the fiscal deficit. Simultaneously, higher fuel and transport costs make goods more expensive, ultimately raising prices on everything from food to raw materials, which are used in factories.

Developing economy like India, where budget-friendly energy is key to growth, a sudden jump in global oil prices can ripple through the whole economy, which can disrupt supply chains, increase business costs, and weaken the country's overall financial stability.   

MSME Angle: Sector-Wise Impact

The sharp rise in crude oil prices not only affects big economic indicators, but it also directly shakes the backbone of the Indian economy: the MSME sector. These small businesses have limited savings and high energy dependence, making them especially vulnerable to oil price shocks. Here's how different types of MSMEs are feeling the impact:

Manufacturing: Those MSMEs involved in manufacturing, especially in sectors like plastics, auto parts, and food processing, are facing rising crude oil prices make their raw materials cost more. Materials like polymers and lubricants, which are products of crude oil, become more expensive. Additionally, higher transport and electricity costs further reduce their already small profits.

Transport & Logistics: Rising diesel prices will have an immediate and adverse impact on small businesses operating through transportation, delivery services, and supply chain logistics. Fuel is one of their biggest expenses, so higher prices instantly affect their budgets. To cope, they are often forced to increase their prices, but this can drive customers away to cheaper alternatives.

Textiles, Chemicals, and Packaging: These sectors significantly rely on thermal energy and petrochemical inputs. MSMEs in these industries face dual shocks: increased raw material costs and higher energy bills. As the cost of synthetic fabrics, dyes, chemical reagents, and plastic packaging materials increases, businesses struggle to stay competitive both in domestic and international markets.

Exporters: Export-oriented MSMEs are facing serious challenges as international clients are highly price-sensitive. With rising fuel costs, shipping charges, and insurance due to global tensions, their products become more expensive. This makes it harder to compete in the global market. For smaller exporters, this could lead to order cancellations, be forced to lower prices, or even temporary shutdowns.

The Indian MSME sector is already grappling with post-COVID recovery, limited access to loans, and global market volatility. Now, with rising crude oil prices triggered by the Strait of Hormuz crisis, the situation has become even worse. If the governments around the world don't step in to halt Israel's war, businesses can't find ways to cut costs, and the fallout could be severe for India's MSME sector.

  Conclusion
As the tensions escalate in Iran, the ripple effects on global crude oil markets are already being felt. For the MSME sector, which is still healing from the shock of the pandemic and battling issues like limited credit access and market instability, this new oil crisis adds another layer of obstacles. In times like these, safeguarding MSMEs isn't jsut an economic responsibility–it's a national one.