How South Asia can adjust to higher oil prices

• Pages: 49-55

Page 49

South Asia depends heavily on oil imports, and sharply higher prices are taking their toll on balance of payments and fiscal positions. The South Asian Association for Regional Cooperation met in Sri Lanka to devise effective strategies over the medium term. Given that permanent external shocks eventually require macroeconomic adjustment, the IMF's Wanda Tseng suggested that a good first step is moving to full pass-through of price increases, with measures to cushion the impact on vulnerable groups.

Page 54

High oil prices pose challenges for South Asia

With high oil prices likely to persist over the medium term, many oil-importing countries must decide how to adapt. The South Asian Association for Regional Cooperation (SAARC) met in Colombo, Sri Lanka, on January 20 to share their experiences with higher oil prices and discuss strategies. It also invited the IMF, represented by Wanda Tseng (Deputy Director, Asia and Pacific Department), to participate.

In her remarks, summarized below, she surveyed the region's initial response, including partial price pass-through, external borrowing, and the use of reserves. Looking forward, she recommended moving to full pass-through and automatic price adjustments to encourage efficient energy use, as well as measures to cushion the impact on vulnerable groups.

Over the past two years, South Asia has been hit particularly hard by the doubling of world oil prices (see chart, left).

Its terms of trade deteriorated by about 5 percent during 2004-05, reflecting higher import prices for oil and lower prices for garment exports after the Multifiber Agreement expired. This contrasts with virtually no change in the terms of trade of Asia as a whole over the same period, and a 9 percent improvement for developing countries as a group, with many of them benefiting from higher prices for nonfuel commodities.

In addition, because of high oil intensity (the ratio of oil consumption to total energy consumption), South Asia's net oil imports also rose more sharply than those of Asia as a whole-by 2.3 percent of GDP in contrast to 1.2 percent of GDP (see chart, right).

Exports and remittances helped mitigate the impact of higher oil prices on South Asia's external current account, but non-oil imports were also buoyant. Despite falling textile and clothing prices, non-oil exports rose as a share...