This news is classified in: Traditional Energy Oil and Gas
May 20, 2019
With claims of sabotage and an increasingly assertive stance by the Trump Administration, both Washington and Tehran must tread carefully if they wish to avoid a military clash. President Donald J. Trump has indicated he does not want a war, answering “I hope not” when questioned on the possibility. Meanwhile, Iran is getting desperate as it feels the effects of crippling U.S. sanctions on the oil sector and new penalties against its metal industry.
Yes, Iran would indeed lose any conventional war against the West in a matter of months if not weeks, but its unabashed support for terrorist groups like Hamas, Hezbollah and Iraqi Shiite militias, guarantees that a conflict would drag the entire region into insurgency-driven conflicts.
This was a nerve-wracking seven days: last Monday four oil tankers – two of them Saudi flagged – were reportedly attacked near the strategic Strait of Hormuz. United States and Saudi security officials suspect that Iran or Iranian proxies are behind Sunday’s attack, though no specific details have been made public or can be confirmed. Iran has denied responsibility for the incident and accused the United States and Saudi Arabia of engineering events as a “false flag attack” meant to goad Iran into war.
To add fuel to the fire, Saudi officials say a drone damaged one of its oil pipelines on Tuesday causing it to briefly shut down. The pipeline, which spans from east to west across Saudi Arabia to the Red Sea is critical in bringing supply to export facilities that are a redundancy to get oil to the global market if shipping is blocked in the Persian Gulf.
Houthi rebels in Yemen, aligned with Iran, have claimed responsibility for the attack against critical Saudi infrastructure. Thus, if true, both supply routes have been threatened – putting global oil supply at risk. Furthermore, Tehran has previously threatened to close the Strait of Hormuz in response to sanctions against its oil exports.
On the heels of increased U.S. military presence in the Gulf, Iran sent a message to President Trump on Friday – claiming that short-range Iranian missiles could target U.S. warships positioned in the Gulf waters.
Combine this with President Donald Trump’s recent departure from the Iran deal and a Shia -Sunni proxy war raging in Syria and Yemen, and the Middle East seems yet again like a powder keg ready to blow.
Impact on Global Oil Supply
This week and this month have seen volatile oil prices fluctuating 4 percent, as the market reacts to Trump tightening the Iran sanctions, and crises in Venezuela, Libya and the Gulf. However, the International Energy Agency has announced a slowdown in oil demand which will help keep prices stable around $70/barrel to compensate for supply disruptions (see graph). OPEC has kept production at 30.2 million barrels per day (mbd) as it waits to see the full effects of the Iran sanctions. The impacts have been severe. In May of 2018 Iranian crude and condensate exports reached 3.5 mbd. In April oil shipments hit a five-year low at just under 1 mbd. OPEC+ members, notably Russia and Saudi Arabia, plan to meet this weekend in Jeddah to discuss future output levels. While both are eyeing Iran’s market share, they are on the opposing sides of the conflict around Iran.
The Strait of Hormuz, only 21 miles wide, sees roughly 18.5 million barrels of oil flow in and out each day. Some 20% of the world’s gas exits via the strait as well. It is no surprise then that the U.S. Energy Information Administration calls Hormuz ‘the most important oil transit chokepoint’ in the world. More than 90% of Saudi oil exports travel through the strait in addition to supplies from Kuwait, Qatar, Bahrain, Iran, Iraq, and the UAE. A conflict in the Strait of Hormuz that would be catastrophic to global oil markets and bring with it serious consequences to the global economy.
Military Escalation
According to a breaking New York Times report, acting Defense Secretary Patrick Shanahan proposed a private plan to President Trump that would send 120,000 troops to the Middle East as a deterrent to against Iranian attacks. The relatively high number of White House officials who refuse to deny the story suggests that this information was in fact leaked by the White House as a warning to the Islamic Republic. Additionally, the American embassy in Iraq is in the midst of a personnel evacuation as of May 15th on the orders of the State Department, citing increased threats from Iranian-supported Shiite militias.
US allies have expressed doubt towards Trump’s hard-hitting stance towards the Islamic Republic – not convinced that Tehran poses such a severe risk as described by the U.S. administration. Secretary Mike Pompeo traveled to Brussels this past week to meet with European leaders in an attempt to garner support and to convey the dangers posed by the Iranian regime. Should Iran block the oil flow in the Gulf, it would prompt a massive military response by the U.S. with support from Saudi Arabia, Israel, the UAE and possibly others.
However, hollow threats by the U.S. could potentially embolden Tehran to further build up its nuclear and missile capabilities. President Hassan Rouhani recently stated Iran would no longer comply with the nuclear agreement and has insisted the remaining signatories (Britain, Germany, France, Russia and China) allow Iran to export 1.5 million bpd of crude oil.
Is Iran likely to close the Strait of Hormuz entirely? The short answer is: no. For one, partial or complete closure of the Strait by the Iranian Republican Guard Corps – the shock troops of the Islamist regime - would provide a casus belli to Iran’s adversaries, propelling the mullah regime into an unwinnable war against the United States and her allies.
Even if a war did not immediately break out, Iran would also suffer tremendous economic damage: it too relies on the passageway for oil export revenue – which it now needs more than ever to keep its economy afloat. Alternatively, Iran could make it difficult for other vessels to transit through the Strait through the use of land mines, anti-ship missiles, and attack boats. Even a small disruption in the flow of oil through the Strait of Hormuz would have a widespread impact on the price of oil and the overall market, possibly doubling oil prices and triggering a global economic recession.
