By Alexander Jung and Bernhard Zand
Surprisingly enough, supertankers don't burn very well. Although the crude oil they transport is highly flammable, there is not enough oxygen in their tanks to create an explosive mixture.On average, 14 of these giant tankers pass through the Strait of Hormuz, located between Iran and Oman, every day. If Iranian President Mahmoud Ahmadinejad actually ordered his forces to fire missiles at one of these tankers, quite a bit of firepower would be needed to set off a Hollywood-style inferno.
But the verbal attacks from Tehran are more than sufficient to set the global markets ablaze.
Last week, prices climbed significantly above the $100-a-barrel mark once again, despite all gloomy economic forecasts. Gasoline prices already reached an all-time high in Germany in 2011. And now the dispute over who controls the Persian Gulf, which has been triggered by Iran's nuclear policies, is a sign that further escalation is on the horizon.
For a full 10 days, from Christmas Eve until after the beginning of the new year, the Iranian navy held nautical maneuvers in an area traversed by the most important route in the international oil business. About a third of all the crude oil shipped worldwide passes through this bottleneck. Vice President Mohamed Reza Rahimi warned that if the West imposed further sanctions against Iranian oil exports, Tehran would not allow "a drop of oil" to pass through the Strait of Hormuz.
But sanctions are precisely what the industrialized countries have in mind. On New Year's Eve, US President Barack Obama signed legislation that prohibits anyone who intends to do business with the United States in the future from having any dealings with Iran's central bank. The law is intended to prevent Tehran from making any oil-related transactions.
It became clear last week that when the foreign ministers of the European Union countries meet later in January, they could very well tighten the sanctions even further, so that the 27 member states will no longer buy a single barrel of oil from Iran. French Foreign Minister Alain Juppé assured that the negotiations over the sanctions are "on the right track."
A New Energy Conflict
Oil is being used as a weapon once again, but this time it isn't just one of the exporting nations which is using it -- the industrialized nations are also turning it into an instrument against Iran. A duel of the boycotters is taking shape, a new energy conflict between a supplier and its customers, waged with the tools that each side has at its disposal to exert pressure on the other. The only question is whether their instruments -- embargos and sanctions -- are in fact effective. What exactly can the oil weapon do?
Steffen Bukold, the author of a paper about the oil business, has noticed a remarkable paradox. According to Bukold, the public still perceives the embargo as the most important type of crisis. "But when you look at its actual effect on the oil market to date," says the expert, "it is the least important." History supports Bukold's claim.
The oil weapon was first used in the summer of 1967, shortly after the beginning of the Six-Day War. At the time, Arab oil ministers discussed ways to punish the West for Israel's air strikes on targets in Egypt. Without further ado, the Arab nations decided to stop selling oil to the United States and Britain.
But the embargo was relatively ineffective, because the Soviet Union immediately offered to fill the gap in supply. Besides, the loss of revenue was so painful for the Arabs that they lifted the embargo after just a few days. The first use of the oil weapon had failed.
The next operation happened seven years later, shortly after the outbreak of the Yom Kippur War in October 1973, but it too backfired. At the time, the OPEC cartel decided to almost double the list price of oil from $2.90 a barrel to $5.11. It also pledged to cut back production by 5 percent a month until Israel withdrew from the territories it had occupied in 1967.
The West's reaction bordered on hysteria. Consumers hoarded gasoline and heating oil, and the German government imposed a driving ban on Sundays. Then-Chancellor Willy Brandt called it a "break in postwar history."
Although the events may have been dramatic politically, from an economic standpoint the fears were completely exaggerated, because the market remained extremely well supplied. In the end, Germany lacked only 12 million of the 370 million tons of oil it consumed a year, a shortfall that could easily be offset from other sources. In other words, there was no real bottleneck. Only the fear was real.
In addition, OPEC's united front against the West soon crumbled. Algeria withdrew from the embargo early on, followed by Iraq. When a few producing countries pushed through another price increase to $11.65 on Dec. 23, 1973, Saudi Arabia, the cartel's most important member, distanced itself from the embargo. Once again, the oil weapon had proven to be rather ineffective.
Lack of Unity
Such lack of unity within OPEC is still not unusual today. At the large conference table in the windowless conference hall of the organization's Vienna headquarters, representatives from Iran, Iraq and Kuwait -- countries that have been at war against each other in recent decades -- sit next to each other in alphabetical order.
There has been a divide within OPEC since its founding in 1960: between moderate countries like Saudi Arabia, which hold immense reserves and plan for the long term, and hardliners like Algeria, Libya and Iran, which take a confrontational approach without considering the consequences.
The agitators studiously ignore a simple mechanism: The price shock they trigger weighs heavily on companies in buyer countries, slowing growth as a result. This reduces the demand for energy and, as a result, the price of oil. Ultimately, the belligerent producers only harm themselves.
Ahmed Zaki Yamani, Saudi Arabia's legendary former oil minister, often warned his fellow cartel members against overstepping the mark. In November 1973, Yamani said that OPEC's goal should not be to "cripple and destroy" the economies of Western countries.
Declining DemandYamani knew that every oil price shock would trigger a fatal impulse: As oil becomes more expensive, industrialized countries start looking for alternatives. Carmakers develop more fuel-efficient vehicles and builders add more insulation to new construction.
The demand for oil from the OPEC countries declined substantially in the early 1980s, with their share of the global oil supply dropping from about 50 percent in 1973 to 30 percent in 1985. The West expanded its own drilling projects in the North Sea, Alaska and the Gulf of Mexico. The world was faced with an oil glut, and prices dropped below $10 a barrel at times. Western oil companies are still searching for additional reserves today. About 40 percent of new petroleum reserves worldwide are discovered in the deep ocean.
In this way, every drastic increase in the price of oil already holds the seed of its imminent decline. Put differently, the oil weapon is ultimately directed against those who hold it in their hands....
The oil weapon used by the consumer countries -- the imposition of sanctions on individual "rogue states" to bring them to reason -- has similar weaknesses.
The West has tried this six times in the last 20 years alone. Although it is probably too early to predict the outcome in the most recent cases, namely Syria and Iran, the examples of Iraq, Nigeria, Sudan and Libya demonstrate how difficult it is to enforce oil sanctions, and how easy it is to circumvent them.
They also achieve other consequences than the desired ones, usually having a much larger impact on ordinary people than on the ruling class, and often leading to hunger and hardship. And when, as in the case of former Iraqi dictator Saddam Hussein and former Libyan leader Moammar Gadhafi, a previously boycotted oil baron was brought down, it was not the oil weapon that sealed his fate.
Oil consumers, for their part, are not a homogeneous group by any means, as the planned sanctions against Iran show. For countries like South Korea and Japan, both of which buy about 10 percent of their crude oil from Iran, it is difficult to find a replacement at short notice. South Korea has agreements with Tehran that it cannot easily breach. And Japan, in the wake of the Fukushima disaster, needs significantly more oil to operate its power plants.
Turkey, which obtains 30 percent of its oil from Iran, doesn't want to alienate its neighbor. Last week, on the same day as Turkish Foreign Minister Ahmet Davutoglu paid a visit to Tehran, an official with the Turkish energy ministry announced that Ankara would ask Washington to exempt it from the sanction rules.
India, a giant country that covers about 12 percent of its oil requirements with Iranian imports, maintains very close relations with Tehran. Finally, China has criticized Washington's sanction plans as presumptuous. Beijing, despite having recently reduced its dependence on Iranian oil considerably, has no intention of taking part in the boycott.
Experts are deeply concerned over the fact that once again a classic Middle Eastern oil-producing country, in the form of Iran, is at the center of a sanction war. "More than 90 percent of growth in global oil production will be achieved in the Middle East and North Africa in the next 10 years," says Fatih Birol, chief economist of the Paris-based International Energy Agency (IEA).
The events of the Arab spring, despite the hopes they have engendered in ordinary people, are already putting pressure on the investment climate in the region today. Countries would rather invest their money in welfare programs than in expanding their oil industry. The political elites are more interested in their own needs than the requirements of the oil market, and the worse the security situation is, the more difficult it becomes to attract engineers and international experts to the region.
But even if bottlenecks do occur, the Gulf countries would have the capacity to make up for shortfalls, says Birol. "In particular Saudi Arabia, which I like to characterize as the central bank of the oil trade, has always behaved very responsibly in these types of situations." The IEA member states, he adds, also have strategic reserves that could be used in an emergency, even beyond the minimum stocks, equivalent to 90 days of net oil imports, that IEA members are required to have.
Nevertheless, economists doubt that the oil markets will function as well and as stably as consumers would like. They will likely be even more heavily influenced by geopolitical interests in the future, especially in the Middle East, and to the detriment of Europeans. In 2015, Europe will already have to import more oil than the United States.
Making Sacrifices at the Gas Pump
Until now, Washington has felt responsible for stability in the Middle East. Birol expects that the region will be less important to the United States in the future than to Europe and China. "Europe will find itself at the forefront of the powers that are responsible for the security of the oil supply," he says.
Under these circumstances, it is questionable whether it makes sense for the Europeans to join an oil boycott. In any case, the oil weapon has proven to be an ineffective instrument in the past, for both producers and consumers. Both sides are always dependent on one another, with the producers needing the money and the consumers needing the fuel. This mutual dependence guarantees that economic realities will ultimately lead to compromise.
But before they can arrive at this insight, the opponents will have to make sacrifices. Citizens in the industrialized nations notice this at the gas pump, where they will pay a few cents more. And the people in the producing countries also notice it, albeit to a far greater extent -- because they will have nothing to eat....
With U.S. President Barack Obama and Defense Secretary Leon Panetta announcing that major cuts are coming to the Defense Department, hawks seeking to stop nuclear weapons development by Iran by any means necessary will soon have less “means” to call upon. With the Army set to shrink by approximately 80,000 soldiers, and a broad swath of cuts set to affect every service, “Operation Iranian Freedom” may be far less likely than many hawks had previously hoped.
The diminished prospect for a military confrontation with Iran is particularly bad news for some considering that Secretary Panetta just last month suggested that Iran could – although it was unlikely – have a nuclear weapon before 2012 is over.
Yet while few outside the Iranian regime see a nuclear Iran as desirable, any decision that could lead to war between the United States and the Islamic Republic deserves considerable discussion before the American people. Simply beating the war drums so loudly as to drown out the voices of any opposition is a poor substitute for real debate.
Five points deserve particular consideration as decision makers consider the United States’ option. They are particularly important as the 2012 election gets closer and calls for a military solution increase.
First, Iran possesses what is likely the most capable military the United States has faced in decades. Iran is no Grenada, Panama, Somalia, Haiti, Bosnia, Serbia, Afghanistan or Iraq. In all of these examples, the U.S. military defeated an adversary incapable of competing with superior American land, naval, and air forces. The Iranian military is far more competent and capable, and after watching the war in Iraq for a decade has a good understanding of U.S. tactics and strategy.
For example, Iran's regular navy is adept at littoral combat and may be capable of closing the Strait of Hormuz for sufficient duration to wreak economic havoc. The recent naval exercises by the Iranian navy illustrate a clear strategy that would seek to close the strait while attempting to sink American combat vessels that enter the area. This would result in a significant loss of commercial shipping and cause the price of oil to skyrocket.
If it comes to war, the proliferation of advanced air defense systems to countries like Iran may give it one of the best integrated anti-aircraft defense systems the United States faces in combat. They may be capable of inflicting casualties on American airpower not seen since Vietnam. And with a declining bomber force, losses could be unacceptable.
Unlike Iraq, Iran’s regular Army and the Iranian Revolutionary Guard Corps won’t lay down their arms at the first sight of U.S. ground troops. They, more than any other element of the regime, watched Afghanistan and Iraq for lessons on how to defeat the Americans.
Second, the Ministry of Intelligence and National Security (MOIS), Iran’s espionage service, is among the most competent in the world. Over the past thirty years, MOIS agents have successfully hunted down and assassinated dissidents, former officials of the Shah's government, and real or perceived threats to the regime. MOIS is still capable of carrying out assassinations, espionage, and other kinetic attacks against government and civilian targets. The spy service is also likely to have covert agents in the United States.
While information is incomplete, there’s reason to believe that Manssor Arbabsiar, the Iranian who allegedly attempted to hire the Zeta drug cartel to assassinate a Saudi ambassador on American soil, was tied to MOIS. While the effort failed, it demonstrates the lengths to which MOIS will likely go.
MOIS has also been known to target Iranian expatriates, imprisoning their family members and causing bodily harm. A small number of the 1-1.5 million Iranian-Americans may very well become targets of such tactics.
Third, Iranian-backed Hezbollah is more capable of conducting terrorist attacks than al-Qaeda ever was. With three decades of experience fighting the Israelis in Lebanon and northern Israel, suspected ties to Latin American drug cartels, and a global network, Hezbollah is an international network that is able to conduct large-scale attacks against the United States and its interests abroad.
In fact, Hezbollah cells are believed to be active in the United States, Europe, Latin America, and elsewhere, making the organization more than a hypothetical threat. With the U.S. Marine Barracks bombing (Beirut,1983), Argentine Israelite Mutual Association bombing (Buenos Aires,1994), Khobar Towers bombing (Saudi Arabia,1996), and many other attacks under their belts, Hezbollah has a history of global terrorism. Should the U.S. military attack Iran, Hezbollah is likely to launch a series of terrorist counter-attacks that will not be as readily thwarted as those of al-Qaeda.
Fourth, Iran’s cyber capabilities are impressive and growing. An attack on Iran’s nuclear infrastructure is likely to prompt a sustained cyber-attack unlike any we have seen. It will likely target critical data in the public and private sector and seek to wreak havoc, shut down systems, and destroy data.
Fifth, after a decade of intense combat operations, the United States military deserves a rest from war. Afghanistan and Iraq have taken their toll on America's fighting men and women, their families, and the equipment they rely on. A “limited attack” on Iran will likely escalate into a wider war, making it difficult for the military to rest and refit.
When considering whether to use military force against Iran it’s important to understand that there is an asymmetry of interests at stake. The Iranian regime sees itself as fighting for its very survival. The stakes are considerably lower for the United States.
Even a focused strike against Iran's nuclear facilities will elicit a response well in excess of the United States' “limited” objectives. While a U.S. withdrawal from Iraq and troop reductions in Afghanistan – Iran’s western and northern neighbors – may cause the Iranian leadership to slow the development of a “Shi’a bomb,” a strategic attack by the United States will only strengthen their resolve and solidify the regime’s worst fears.
While Mahmoud Ahmadinejad’s bellicose statements make good political theatre, there is rarely much behind them. To suggest that Ahmadinejad is all bark and no bite is not far from the truth. The fact is that the Iranian regime is more risk averse than many give it credit for. Regime survival is of paramount concern and greatly explains why the regime acts as it does. Pushing the regime to the edge may turn empty threats into reality and will certainly undermine any effort by President Barack Obama to save defense dollars.
In the end, Iran may prove less capable than I’ve described, and a military conflict with Iran may be less costly in blood and treasure than suspected. However, weighing all options before resorting to military conflict is critical to reaching the best solution.
For the United States, determining what a nuclear weapons-free Iran is worth is critical. Had the American people understood the costs of Iraq before the war began, it’s unlikely they would have given their consent. Given the current economic woes of the country, that cannot happen again.
Dr. Adam B. Lowther
Let’s just say Iran makes good on its recent threats to shut down the Strait of Hormuz. And let’s say that with one-fifth of the world’s oil supply bottled up, the price of a barrel of oil then almost doubles, as some analysts predict, to more than $200.
What can the world do to bring prices down before a still- woozy global economy gets pushed back into recession?
Pipelines that circumvent the strait could carry to market at least 7 million of the 17 million barrels of tanker-borne oil that passes through the strait each day. The U.S. could, for the first time since the Gulf War in 1991, release oil from its 700 million-barrel Strategic Petroleum Reserve; other members of the International Energy Agency (set up after the 1973-74 oil crisis) could also tap the 90-day supply stocks that they are required to maintain.
The IEA has already prepared a plan to release as many as 14 million barrels a day in the event of a Gulf closure. Saudi Arabia, long the self-appointed swing man of the Organization of the Petroleum Exporting Countries, has a spare production capacity -- on paper, at least -- of about 3 million barrels per day; everyone else is producing almost flat out.
The U.S. now gets only about 9 percent of the oil it consumes from the Persian Gulf. Countries such as China, India, Japan and South Korea, however, rely on Gulf exports, particularly from Iran, to power their economies. In the European Union, debt-ridden Greece gets 14 percent of its oil imports from Iran, Italy 13 percent and Spain almost 10 percent. And because oil is a global commodity, as far as oil prices are concerned, what happens in the Persian Gulf does not stay in the Persian Gulf.
For all Iran’s missile-rattling, however, there is little reason to think it will carry through on its bluster....LOL. To block the Gulf would verge on economic suicide: Petroleum products account for 20 percent of Iran’s gross domestic product, 80 percent of exports and 70 percent of its government revenue. Any attempt to close the Gulf could also provoke a war with the U.S. and vaporize what diplomatic support and leverage Iran gets from countries (and clients) such as China.
Iran may not intend ultimately to close the strait, but its threats to do so can still instigate tremendous economic uncertainty with very real consequences, especially in a hyper- connected world wired with complex speculative instruments. The challenge is similar to dealing with terrorist groups such as al-Qaeda, which command our attention and resources through their potential no less than their actions. In either case, the goal is to balance the risks that such threats present with the costs of protecting against them.
More pipelines would be a good start. Unfortunately, the United Arab Emirates just announced that the opening of a 1.8 million barrel-per-day pipeline that circumvents the strait will be put off until May. The use of drag-reduction agents -- an estimated $600 million investment -- could increase the capacity of Saudi Arabia’s existing two pipelines that reach the Red Sea to as many as 11 million barrels per day. And if the Kingdom wants to bolster its reputation as a “stable, reliable” supplier of oil, it could invest the several billion dollars needed to build another pipeline -- a prospect that may be less painful if oil prices remain high. The current turmoil is another reason why Iraq needs to repair its pipeline to Turkey. At home, we support the building of the Keystone XL pipeline that will bring oil from Canada’s tar sands to market.
The IEA’s plan to release oil from emergency stocks will only work if China, India and other non-IEA countries agree not to hoard. That would require an unprecedented degree of policy coordination. One way to reduce future shocks, especially in Asia, may be more positioning of exports in regional storage depots and greater use of floating stocks. Governments may also want to dust off the IEA’s 2005 blueprint for cutting the amount of fuel consumed by cars, trucks and buses. If the crisis continues, the market’s response could also be an important first test of the Commodity Futures Trading Commission’s soon- to-be-imposed limits on trading by speculators.
Over the last few years, the U.S. has reduced its dependence on oil imports in general and from the Middle East in particular. Yet, almost four decades after the first oil shocks, the economy remains deeply vulnerable to the threat of a cutoff of oil from the Persian Gulf -- a state of affairs that calls into question the commitment of, by some estimates, trillions of dollars to keep the Gulf stable and the Strait of Hormuz open. Factor that “externality” into the price of a barrel of oil, and alternative fuels begin to look like a bargain by comparison -- at least until someone figures out how to take away the sun, wind, rivers and tides....