Yves here. We again feature Simon Watkins for his forceful oil-industry-connected neocon views. Watkins presents himself as having connections to industry insiders, so his commentary, even if readers correctly chose to dispute either particular purported facts or the analysis, nevertheless likely reflects the point of view of influential players. Given that, it is interesting to see him open a piece on the harm Iran could do with various types of oil embargoes by admitting that the Western sanctions on Russia have damaged Europe.
By Simon Watkins, a former senior FX trader and salesman, financial journalist, and best-selling author. He was Head of Forex Institutional Sales and Trading for Credit Lyonnais, and later Director of Forex at Bank of Montreal. He was then Head of Weekly Publications and Chief Writer for Business Monitor International, Head of Fuel Oil Products for Platts, and Global Managing Editor of Research for Renaissance Capital in Moscow. Originally published at OilPrice.com
- The Israel-Hamas war could cause significant disruptions to the global oil market, similar to the 1973 Oil Crisis.
- Iran may retaliate through oil embargoes or attacks on key oil facilities, which could severely impact global oil supplies and prices.
- China’s influence has so far prevented a full-scale oil embargo, as it prioritizes its economic recovery and stable relations with the West.
As with the Russia-Ukraine War, a key component of the Israel-Hamas War (and the underlying conflict between Israel and Hamas’s sponsor, Iran) is oil. The question of how core European countries are to keep their economies going if Russian oil and gas flows are fully sanctioned has long threatened to derail the West’s response to increased Russian aggression in Europe, as analysed in full in my latest book on the new global oil market order. The question of whether Iran’s response to increased Western and Israeli actions against it and its terrorist proxies will include operations directly targeted at the global oil sector threatens chaos in the oil market of a sort not seen since at least the 1973/74 Oil Crisis.
The parallels between the onset of the current events in the Middle East and those that preceded the 1973 Oil Crisis are uncanny. Back then, Egyptian military forces moved into the Sinai Peninsula, while Syrian forces moved into the Golan Heights — two territories that had been captured by Israel during the Six-Day War of 1967 — on the holiest day of the Jewish faith, Yom Kippur. This was the same multiple-directional attack method and religious date as the 7 October Hamas attacks used 50 years later by Hamas on targets across Israel. The 1973 attack by two major Arab states on Israel then drew in further Islamic countries in the region as the conflict became one centered on religion rather than simply regaining lost territory. Military and other support came to Egypt and Syria from Saudi Arabia, Morocco, Algeria, Jordan, Iraq, Libya, Kuwait, and Tunisia before the War ended on 25 October 1973 in a ceasefire brokered by the United Nations. The conflict in its broader sense, though, did not end there. An embargo on oil exports to the U.S., the U.K., Japan, Canada, and the Netherlands was imposed by key OPEC members, most notably Saudi Arabia, in response to their collective supplying of arms, intelligence resources, and logistical support to Israel during the War. By the end of the embargo in March 1974, the price of oil had risen around 267 percent, from about US$3 per barrel (pb) to nearly US$11 pb. This, in turn, stoked the fire of a global economic slowdown, especially felt in the net oil importing countries of the West.
Early in the current Israel-Hamas War, Iran called on a similar embargo on oil to the same supporters of Israel by Islamic OPEC members. At that point, and to date, such a call has not been heeded, principally due to pressure from the present major supermajor influence in the Middle East – China. Two reasons have so far held good in Beijing’s willingness to steer Middle Eastern OPEC members away from such an embargo. The first is that it would threaten its still struggling economic recovery in the aftermath of its Covid years as it has been the world’s largest gross importer of crude oil since 2017. Additionally, the economies of the West remain its key export bloc, with the U.S. alone still accounting for over 16 percent of its export revenues. According to a senior European Union energy security source exclusively spoken to by OilPrice.com, the economic damage to China would dangerously increase if the Brent oil price traded over US$90-95 per barrel for more than one quarter of a year. The second reason is that the U.S. had previously brought pressure on China for it not to allow to a price-busting embargo, as the economic and political consequences to Washington of this would be at least as disastrous as they would to China, as also detailed in my latest book.
That said, there are other options open to Iran to severely disrupt the world’s oil market in the coming weeks. One of these that has been used before to great effect was attacks launched on key Saudi Arabian oil facilities by the Tehran-backed Houthis based in Yemen. On 14 September 2019, the Houthis launched several missiles against the Kingdom’s Abqaiq oil processing facility and Khurais oil field which caused Saudi Arabia’s oil production to be halved (for a lot longer than it admitted), prompting the biggest intra-day jump in U.S. dollar terms since 1988. That said, China again has been a key factor in reducing the threat of this option being used since then, with its efforts to ensure a seamless route for its broader ‘Belt and Road Initiative’ across the Middle East. This ultimately culminated in a rapprochement of sorts between the two bitter regional rivals in the landmark relationship resumption deal that saw the two Islamic powerhouses (Sunni Saudi Arabia and Shia Iran) re-establish diplomatic relations and reopen their embassies in each other’s countries. The Houthis could be used by Iran to dramatically turn up the level of attacks in and around the Red Sea area for a period, although the impact of the group’s recent attempts to disrupt shipping through this key regional oil transit chokepoint has not been as great as Iran would have wished. This has been partly due to the avoidance of the area by many major oil companies and partly to the increase in security in the region’s waters by the U.S. and its allies towards the end of last year.
However, the cumulative effect of such an increase in tandem with a blockade of the other main transit route in the area – the Strait of Hormuz – could have a major effect on oil prices. The Iran-controlled Strait provides the only sea passage from the Persian Gulf to the open ocean and as such has historically seen at least a third of the world’s crude oil supplies transit through it. Only Saudi Arabia and the United Arab Emirates (U.A.E.) have operating pipelines that can circumvent the Strait, although Iran’s own Goreh-Jask pipeline can also bypass it in the event of a supply disruption, as analysed in my latest book. The Strait’s extreme narrowness in places means that it is relatively easy for the tankers carrying it to be attacked either by other ships in the waterway or from the shoreline and Iran has threatened in the past to cut off oil supply through the Strait for several reasons, most notably to do with the ramping up of sanctions.
Nonetheless, as was seen at various stages in the aftermath of Russia’s invasion of Ukraine, the West does have direct measures to fill supply gaps in the oil market in the event of such actions, although they may not be sustainable over more than a few months. The U.S.’s Strategic Petroleum Reserve (SPR) currently contains around 383 million barrels of oil, and this could be used to drip into the overall global supply, as it was after 24 February 2022. The member countries of the International Energy Agency (IEA) have collective strategic oil reserves presently of around 1.2 billion barrels, which again could be drip-fed into the global supply as happened after early 2022. The IEA’s stipulation is that member states hold oil reserves equivalent to at least 90 days of net oil imports and that these are genuinely ready to be used in an emergency. This definition of spare capacity cannot generally be applied to Saudi Arabia’s claims for its own excess capacity, as thoroughly described in my latest book, but there may be true spare capacity remaining in OPEC as a whole, particularly in light of the ongoing production cuts. Recent industry estimates are that this total OPEC spare capacity may amount to around 3-4 million barrels per day.
If there is a significant drop off in any of these substitute supply channels, an indication of what may happen to oil prices was sketched out early in the Israel-Hamas conflict by the World Bank. It stated that a ‘small disruption’ – with the global oil supply being reduced by 500,000 to 2 million bpd (roughly the same as the decrease seen during the Libyan civil war in 2011) – would see the oil price initially rise 3-13 percent. A ‘medium disruption’ – involving a 3 million to 5 million bpd loss of supply (roughly equivalent to the Iraq war in 2003) would drive the oil price up by 21-35 percent. And a ‘large disruption’ – featuring a supply fall of 6 million to 8 million bpd (like the drop seen in the 1973 Oil Crisis) – would push the oil price up 56-75 percent.