Nixon’s address on 15 August 1971 was historic.3 Underlining the need for the US to focus on the challenges in a post-Vietnam world (America had by then taken the first steps towards gradually ending its involvement in the war in Vietnam), Nixon listed out a three-point agenda: ‘We must create more and better jobs; we must stop the rise in the cost of living; we must protect the dollar from the attacks of international money speculators.’4 What followed were tax cuts, a ninety-day freeze on prices and wages and delinking the dollar from the gold standard. Several rounds of negotiations followed between the US and industrialized countries over the question of the dollar’s exchange value and after a couple of rounds of devaluation, six countries belonging to the European Community agreed in March 1973 to tie their currencies and jointly float it against the US dollar. This move once again indicated the moving away from the Bretton Woods system of fixed exchange rates and embracing a floating exchange rate system.
Switching the dollar off the gold standard essentially meant that countries could not any longer redeem their dollar held in their reserves in gold. With the dollar being linked to gold under the gold standard policy, anyone holding dollar reserves could actually get from the US an equivalent amount of gold at a pre-determined exchange rate. Once the dollar was off the gold standard, there was a panic reaction from those who had held huge dollar reserves on the understanding that these were equivalent to gold in value. The delinking of dollar from gold, thus, led to an unusual spurt in the demand for gold and its price spiked, even as the value of the dollar went down.
Members of OPEC were hurt in a different way. The international price of crude oil had been kept in the dollar and since the exchange value of the dollar had come down, exports of OPEC countries suffered in terms of a lower unit value realization. Indeed, so steep was the decline in the value of the dollar that the OPEC countries even mooted the idea of pegging the price of crude oil to gold, a move that did not have too many takers and was eventually dropped.
A second blow to the OPEC countries came from a series of disturbing geopolitical developments in West Asia. A war between Israel and Egypt—also known as the Yom Kippur War—broke out in October 1973. Egypt, with the assistance of Syria, launched a massive attack on Israel. Around the same time, OPEC countries’ oil ministers were meeting in Vienna. In the early days of the war, Egypt and Syria seemed to enjoy an upper hand as Israel found it difficult to respond to the attack. The equation changed somewhat with the US helping Israel with the airlift of arms and military assistance coming in from the Netherlands and Denmark. By 17 October, Israel had regained lost ground and both Egypt and Syria were facing difficulties. Two days later, the US President sought congressional approval of $2.2 billion in emergency military assistance for Israel. That perhaps was the proverbial last straw on the camel’s back. On the very same day, OPEC decided to use, for the first time, oil pricing as a political weapon to counter the US and its allies. An embargo on exports of oil to the US, Israel and to their allies was announced, followed by a cut in exports. This led to a spurt in the price of international crude oil.
As Israel refused to withdraw from the territories it had occupied, OPEC maintained its resolve on embargo and the price of crude oil increased in a few days by over 70 per cent from $2.9 a barrel. Egypt, Syria and Israel declared a truce on 25 October 1973, but OPEC allowed its embargo on crude oil supplies to continue till about March 1974. OPEC ministers met in Teheran in December 1973, but there was no relaxation in the controls they had imposed three months ago. Crude oil prices kept rising and by March 1974 they had reached a shockingly high level of $11.65 a barrel.
The gradual rise in international crude oil prices could be attributed to the manner of the OPEC response to the West Asian crisis. OPEC had initially decided in October 1973 that its exports would be reduced by 5 per cent every month till such time Israel evacuated the territories it had occupied during the 1967 Arab–Israeli War. Since there was no response from Israel, OPEC declared a full embargo in December against the US and several other countries.
This gave rise to an international energy crisis that saw in its wake shortages of fuel and even rationing of its distribution through consumer outlets in many markets dependent on foreign oil; such harsh measures were initiated even in the US. US Secretary of State Henry Kissinger’s interventions in March 1974 led to the military disengagement between Syria and Israel. OPEC’s embargo on supplies of oil to the US and other countries was lifted. But this could hardly soften international crude oil prices. Instead, they kept rising, thanks also to OPEC’s periodic announcements and implementation of plans to cut oil output.
The impact of the OPEC embargo on supplies of oil to the US and a rise in crude oil prices on the US economy was not insubstantial. The recession in the US economy from 1973 to 1975 was largely caused by the wage-price controls imposed by Nixon, which compelled businesses to lay off workers to cut costs.
The Federal Reserve’s monetary policy is also blamed for the economic slowdown in the US. The Federal Reserve raised and cut interest rates frequently and that led to uncertainty in the business environment. But no less responsible for the recession in the US was the increase in crude oil prices, caused by the embargo enforced by OPEC. Inflation in the US, which was already ruling at around 10 per cent for a few commodities, got worse with rising crude oil prices.
No respite came from domestic oil output from US companies as they were already operating at peak capacity. They could not raise their output any further to meet demand if the US government decided to cut imports of crude oil from OPEC countries. That route—a retaliatory move to impose curbs on imports of crude oil—was also closed. Higher crude oil prices also resulted in a demand compression as consumers, after paying for higher petroleum product prices, had less money at their disposal to buy other goods and services. A crisis of sorts had dawned on the US, dampening consumer confidence even as Americans were getting used to the idea of waiting in long queues to fill petrol in their cars.
Shortage of petroleum products too hit consumer confidence as petrol stations had to often display signs to indicate whether they had petrol in stock. Some states in the US introduced petrol rationing using an innovative odd–even formula—something that residents of Delhi, India, experienced many decades later in 2016 to reduce pollution in the city. Beijing too experienced it in 2008 just before it held the Olympic Games. But those were measures to counter pollution. What happened in the US in the aftermath of the OPEC decision on raising oil prices was to keep a check on fuel consumption—cars with licence plates ending with odd numbers could buy petrol or diesel only on odd-numbered days and cars with even-numbered licence plates could do so on even-numbered days. That was also the time when the US decided to create a Strategic Petroleum Reserve, which would have adequate crude oil in it to meet domestic consumption for about ninety days. The idea was to ready the nation to meet any fresh challenge that could arise from another OPEC embargo on oil supplies to the US. The national vehicular speed limit was reduced to 55 miles per hour to help curtail consumption of fuel and Nixon introduced the idea of daylight saving time in 1974. The crisis had also prompted the US government to impose fuel economy standards and the creation of the International Energy Agency, an idea that came from none other than Henry Kissinger.5
CHAPTER 11
THE SEARCH FOR BLACK GOLD
The oil scene in India in the 1970s was relatively easy, stable and without any complications. Before the OPEC decision of October 1973 sent international crude oil prices soaring, India’s dependence on crude oil imports was about 65 per cent of its total requirement in 1972–73. The country’s domestic output of crude oil was 7 million tonnes, while imports were estimated at 13 million tonnes. Domestic refineries had the capacity to process and produce 19 million tonnes of petroleum products, but this was not enough to meet domestic consumption. Hence, India had to import 3 million tonnes of petroleum products. For the next two years, India’s volume of imports of crude
oil and petroleum products did not see any significant increases. Crude oil imports stayed at 14 million tonnes each in 1973–74 and 1974–75, while petroleum product imports for this period were 3 million tonnes and 2 million tonnes, respectively.
The impact of the global oil shock on India’s trade balance, however, was substantial, thanks to the sharp rise in the price of international crude oil. Crude oil imports were valued at $266 million in 1972–73, before the OPEC decision on crude oil prices was effected. But in 1973–74, India’s crude oil import bill almost trebled to $719 million. India, which enjoyed an overall trade surplus of $136 million in 1972–73, had run up a trade deficit of $554 million in 1973–74. The following year, which bore the brunt of even higher crude oil prices internationally, saw India’s oil import bill double to $1.5 billion and the trade deficit too widened to $1.4 billion. India’s external economy had faced perhaps its biggest disruption. And the key factor that contributed to this crisis was India’s dependence on crude oil imports and the OPEC shock of 1973.
On 20 January 1974, the New York Times carried a long report1 on the second page of its New York edition. The headline of the report said it all: India, Slow to Grasp Oil Crisis, Now Fears Severe Economic Loss. The report began with a dire forecast on the impact of a sharp increase in crude oil prices. This is how it read:
Economists and government officials are now convinced that the rising cost of oil imports places India in a bleak position as the nation is beset by inflation, political dissension, lagging growth, a spiralling population and unchecked poverty. In the aftermath of the decision by Persian Gulf nations to double the posted price of crude oil, the Indian government remains torn by uncertainty about 1974.
Indeed, India’s food production took a hit in 1974, a delayed impact of the oil price hike. Indian agriculture had begun riding high on the back of a successful Green Revolution that helped the country’s foodgrain output cross the magical mark of 100 million tonnes for the first time in its history. From 99.5 million tonnes in 1969, India’s foodgrain output jumped to 108 million tonnes in 1970. In the following years, however, foodgrain output did not maintain steady growth and fell below the 100-million tonne mark during two years—in 1972–73 to 97 million tonnes and to 99.8 million tonnes in 1974–75. The decline in 1974–75 was largely attributed to the OPEC decision to increase crude oil prices. Prices of chemical fertilizers, which are influenced by crude oil prices, rose sharply after the OPEC embargo and supply cut. India’s foodgrain output suffered as higher prices of fertilizers discouraged farmers to use them as abundantly as they would have liked. The effectiveness of the hybrid varieties of wheat, which helped usher in the Green Revolution, was crucially dependent on the adequate use of fertilizers, among other things.
The Fifth Five-Year Plan, which was due to be rolled out from 1974, also took a hit. The government decided to redefine its ambitious goals and development expenditure in light of the sudden burden the economy had to bear in the wake of the import burden on account of higher crude oil prices. In 1972–73, India’s oil import bill at $266 million was only 10 per cent of its total dollar earnings through exports of about $2.6 billion. But in the next two years, that proportion would get worse at 22 per cent in 1973–74 and an alarmingly high 35 per cent in 1974–75.
Not surprisingly, the Fifth Five-Year Plan document made no secret of the enormity of the oil impact. Its review of the economic situation stated:
The draft Fifth Five-year Plan was formulated in terms of 1972–73 prices and in the context of the economic situation obtaining in the first half of the fiscal year 1973–74. Thereafter, two major developments took place. The inflationary pressures gathered momentum till September 1974 and the balance of payments position worsened due to the steep rise in the prices of imported oil and other materials.
Inflation, measured by the movement in the wholesale price index (WPI), rose from 5.6 per cent in 1971–72 to 10.1 per cent in 1972–73. If that was not alarming enough, the WPI-based inflation rate for the next two years must have been even more unsettling as it skyrocketed to unprecedented levels—20 per cent in 1973–74 and 25 per cent in 1974–75. Consumer price indices for industrial workers and agricultural labourers also showed a similar rise in these two years—20.8 per cent and 21.5 per cent, respectively in 1973–74 and 26.8 per cent and 34.4 per cent in 1974–75. Analysing the inflation data, the government concluded that food articles and industrial raw materials accounted for about two-thirds of the price increase. The pressure on the economy was also felt because of severe drought conditions of 1972–73, followed by shortages of various essential consumer goods and critical raw materials and inputs.
There was no respite for India’s balance-of-payments situation either. The requirement of importing huge quantities of foodgrain and the increase in the cost of importing oil, fertilizers, non-ferrous metals and machinery caused stress for the country’s meagre foreign-exchange reserves. The value of three main items of imports—food, fertilizers and petroleum—was more than half of the total import bill in 1974–75, compared to just 43 per cent in 1973–74 and 23 per cent in 1972–73. The merchandise goods trade gap—the difference between exports and imports—turned from a surplus of $136 million in 1972–73 to a deficit of $554 million in 1973–74 and $1.4 billion in 1974–75.
In its 1974 report, the IMF did not mince words to forecast the crisis that India could face in the wake of the global oil price increase. It said:
Among countries whose prospective increases in the cost of oil imports loom especially large in relation to reserves or total imports, a number are net importers of cereals. Most of these face adverse non-oil terms of trade shifts from 1973 to 1974, and only a few of them (e.g., Korea) have a recent history of buoyant exports. Although some of these countries may find access to international credit markets to cushion the initial impact of the combined increases in their oil and cereals import bills, it is within this group that some of the most severe problems of readjustment seem likely to arise in 1974. Such problems may be especially acute for countries (e.g., India, Bangladesh, and Sri Lanka) whose own export earnings include relatively substantial amounts from commodities that have not shared strongly in the recent primary commodity price upsurge.2
The government was left with no option other than to approach the IMF to meet its deficit on the external account. In 1974–75, India succeeded in obtaining about Rs 485 crore ($610 million) under a special oil facility of the IMF, which it had opened in the wake of the OPEC decision to increase oil prices. The IMF loan helped India prevent any further depletion of its foreign-exchange reserves, which stabilized at around $1325 million in 1973–74 and $1379 million in 1974–75. This was the second time in less than seven years that India had sought recourse to assistance from the IMF—it had got assistance under its compensatory financing facility in November 1967 in the wake of the food crisis.
The Fifth Five-Year Plan responded to the oil crisis through its renewed emphasis on developing the petroleum sector in the country. The government decided to step up the programme for oil exploration and production. The focus was on the most promising oil-bearing areas, so that the results in terms of higher domestic output of crude oil could be realized quickly. There was thus an attempt at channelling the available resources to the development and production of oil from offshore and selected onshore areas in the country.
Bombay High oilfields received special attention from the planners. A time-bound plan was drawn to develop and produce oil from Bombay High to achieve an annual output level of 10 million tonnes by 1980–81. At the time the plan was being framed, the total domestic output of crude oil was barely 7 million tonnes. The outlay for ONGC was also revised upwards, from the earlier Rs 420 crore to Rs 1056 crore. Necessary capacity augmentation for oil refineries also became a thrust area in the revised plan to reduce the country’s dependence on imports of petroleum products.
While the OPEC decision of 1973 impacted the Indian economy at the macro level, the ordinary l
ives of people and activities of businesses also changed significantly. As retail petrol and diesel prices went up, there were fewer cars on the streets of India’s major cities. The New York Times reported that ‘many businessmen and civil servants are using buses for the first time’. Soon, rationing of kerosene supplies was introduced to ensure that the needy sections of society got their fuel. There were also reports that riots over the shortage of petroleum products forced a situation where these had to be distributed from police stations. Farmers were not only complaining about higher prices of fertilizers, which had become scarce, but also found that operating tractors became prohibitively expensive with the price of diesel shooting up. Finance Minister Yashwantrao Chavan was quoted as saying that the increase in oil prices would have ‘profound implications’ for the Indian economy, just as Agriculture Minister Fakhruddin Ali Ahmed ominously said that India’s food production was upset by the energy crisis and this could become worse in the coming years.
The disruption caused by the OPEC decision on oil prices was limited not just to the domestic prices of petroleum products in the country, but had spread wide enough to result in a fall in India’s food output, a runaway inflation rate and a fragile balance-of-payments situation. So severe was the impact that the size and focus of the Fifth Five-Year Plan also had to be reoriented in light of the oil shock.
The Rise of Goliath Page 14