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HUNKER DOWN, ESCALATE OR COMPROMISE: The Iran Equation
In the high-stakes poker game between Iran and the West, it appears for now that the United States and Europe are holding the better cards says Clyde Russell
July 2, 2012 4:32 by Reuters
The key words are “for now,” as any time you set out to damage a country’s economy enough for it to bend to your will, you run the risks of unanticipated consequences, especially if your target is a major oil exporter in a volatile region run by a clerical regime that’s unafraid to try to crush its opponents.
But with the advent of the European Union’s July 1 ban on crude imports from Iran, it seems that for now the sanctions against Tehran’s nuclear program are working as well as the West could have hoped.
On the plus side for the proponents of sanctions is that Iran’s oil exports are probably down by at least 40 percent, or about 1 million barrels a day.
It’s also likely they will decline further with the European embargo and the decision by South Korea, the fourth-biggest Iranian customer, to halt purchases altogether.
The reduction in Iranian exports also hasn’t resulted in a spike in crude prices, although this is more by accident then design, as the world economy has entered a new phase of weakness and Europe is back in recession over its enduring sovereign debt crisis.
The lower oil price is a major boon for the West, as it was as recently as March that Brent crude was trading above $128 a barrel amid fears it would go even higher if Iranian crude was taken off the market.
But as it became clear that Saudi Arabia and other producers could make up for lost Iranian cargoes, the oil price responded more to slower growth in China and the developed world, with Brent dropping to a 28-month low below $89 a barrel on June 22.
The United States and Europe have also managed to use diplomacy to achieve most of their aims, without having to resort to punitive measures that would have alienated allies such as Japan and South Korea.
With China, the biggest buyer of Iranian crude, the can has been kicked along the road for six more months given the U.S. exemption from sanctions. However, whether this waiver lasts would seem doubtful, given that China has ramped up purchases from Iran again, with 500,000 bpd scheduled to arrive in July.
On the plus side for Iran, its major customers have all, to some degree, been successful in obtaining waivers to allow them to continue doing business with the Islamic Republic.
It has also managed to work around the ban on insuring oil tankers by using its own fleet and with Japan’s own guarantee of coverage.
Iran will be able to supply about 700,000 bpd to its major Asian customers, China and India, using its own vessels, according to Reuters’ calculations.
This is still the case, with about half of the fleet of the National Iranian Tanker Co. being used for floating storage.
The Iranians are also sounding defiant, saying they have built up a $150-billion war chest to help them through the sanctions.
Given that at least 1 million bpd of output is no longer being sold, that equates to roughly $90 million a day, or almost $33 billion a year.
There is little doubt that this level of revenue loss will impact Tehran, and this can already be seen with inflation hitting 20 percent and rising unemployment.
The main risk for the West is that as the screws tighten on Tehran its leaders decide to raise the stakes by threatening shipping through the Straits of Hormuz, menacing Israel or using any other strategy aiming at raising geopolitical tensions.
It may be that Iran’s rulers decide to compromise enough on their nuclear program in exchange for toning down sanctions, but so far it seems that this isn’t Tehran’s preferred strategy.
That means that the United States and Europe will have to be prepared to play the long game, with all its associated risks.
These include another oil supply shock, such as last year’s loss of Libyan output during that country’s political upheaval, or a spill in a sensitive area such as the Gulf of Mexico.
Even stronger economic growth could tighten the global oil market, and this is a possibility if China’s stimulus plans start to pay dividends from the fourth quarter onwards.
But the risks seem greater for Iran currently, as its revenue loss is real, and there is also the potential that long-standing customers such as Japan and South Korea don’t come back even if the sanctions are lifted.
Self-insuring the tanker fleet is also a big risk, and I imagine there have to be doubts as to whether Iran could, or would, pay for any major spill outside its borders.
The Iranians might have believed earlier this year that they could hold out longer than the West could take the pain of high oil prices, but this strategy has been rendered useless by events beyond Tehran’s control.
Now, the Iranians may have to choose between seeing how long they can hold out, compromising on their nuclear program or trying to escalate tension in order to drive oil prices back to the West’s pain threshold.