How a Direct Israel-Iran Conflict Affects India?

General Studies Paper-2

Context: Rising tensions between Israel and Iran are escalating concerns about a regional crisis in the Middle East and posing significant risks to India’s economic stability.

Background

• The Israel and Iran conflict has reached new heights recently with Israel’s strikes on Hezbollah’s military infrastructure in Lebanon, culminating in the killing of key Hezbollah figures.
• Hezbollah, closely aligned with Iran, retaliates on Israel, increasing the likelihood of a broader regional conflict.
• The involvement of Iran-backed Houthi rebels in Yemen further complicates the situation, particularly for global trade routes.

Implications on India

• Disruption in Trade Routes: A full-blown conflict could disrupt the crucial Red Sea shipping route, impacting global trade.
• In August 2024, Indian exports fell by 9%, largely due to the Red Sea crisis, with petroleum exports dropping by 38%.
• Indian exporters, especially in petroleum products, are facing increased shipping costs and reduced profitability, particularly in Europe, which accounts for 21% of India’s petroleum exports.
• Energy Security Risks: India relies heavily on Middle Eastern oil and gas imports, despite increased purchases from Russia. A war could disrupt key shipping routes like the Strait of Hormuz and the Red Sea.
• The Strait of Hormuz is a critical choke point for LNG from Qatar and oil from Iraq and Saudi Arabia. Any disruption here could severely affect India’s energy flows.
• Impact on Oil Prices: A full-scale conflict would likely drive up global crude oil prices, increasing inflation in India.
• A $10 increase in oil prices could push up India’s current account deficit by 0.3% of GDP, adding pressure on the economy.
• Longer Trade Routes: Disruptions in the Suez Canal and the Red Sea have forced ships to detour around the Cape of Good Hope, increasing shipping costs by 15-20%.
• This has particularly impacted labor-intensive industries such as textiles and engineering products in India, which rely on high-volume, low-margin exports.
• Effect on India-Middle East-Europe Economic Corridor (IMEC): The conflict could hinder the development of IMEC, a critical project aimed at enhancing connectivity and trade between India and Europe.

Silver Linings

• Neutrality of GCC Countries: Despite the conflict, major Gulf Cooperation Council (GCC) countries like Saudi Arabia, UAE, Kuwait, and Qatar remain uninvolved, helping to keep trade with India relatively stable.
• India’s trade with GCC countries increased by 17.8% between January and July 2024. Exports to Iran also grew by 15.2% during this period.

Way Ahead

• India needs to develop alternative trade routes and strategies to mitigate the risks posed by this conflict.
• Building stronger ties with neutral players and diversifying energy imports will be crucial in maintaining economic stability during these uncertain times.