Effects on the oil market of US sanctions reinstated against Iran depend on depth and duration of the restriction and on the availability of compensating supply. They are, at this point, unknowable.
In its second wave of sanctions since withdrawing from the multinational nuclear deal with the Islamic Republic, the administration of Donald Trump swung hard on Nov. 5 but pulled the punch. The new move reimposes all nuclear-related sanctions lifted by the US and European Union on Jan. 16, 2016, when they, China, France, Germany, Russia, and the UK implemented the Joint Comprehensive Plan of Action (JCPA) limiting Iranian nuclear development. But it includes ill-defined “exemptions.”
‘Bad acts’
Trump announced the US pull-out last May, criticizing the agreement as contrary to American security interests, accusing Iran of hiding aspects of its nuclear program, and saying he intended to “pressure the Iranian regime to alter its course of malign activities and ensure that Iranian bad acts are no longer rewarded.” Some sanctions resumed on Aug. 7. The new round affects energy, banking, shipping, and shipbuilding.
Iranian oil sales already were falling as non-US companies cut purchases for fear of secondary sanctions by the US. Last month, the International Energy Agency said Iran produced 3.45 million b/d of crude oil in September, down 180,000 b/d from the prior month, and sold an estimated 1.63 million b/d abroad, down 800,000 b/d from recent peaks. Sanctions lifted by the JCPA had cut Iranian exports by 1.2 million b/d.
Trump says he’ll cut Iranian oil exports to zero. But his second round of revived sanctions exempts China, India, Italy, Greece, Japan, South Korea, Taiwan, and Turkey. Sec. of State Michael R. Pompeo explained, “Each of those countries has already demonstrated significant reductions of the purchase of Iranian crude over the past 6 months, and, indeed, two of those eight have already completely ended imports of Iranian crude and will not resume as long as the sanctions regime remains in place. We continue negotiations to get all of the nations to zero.”
If that effort succeeds, other producers can cover the deficit, in quantity at least. But the adjustment would worry the oil market.
According to IEA, September spare production capacity among members of the Organization of Petroleum Exporting Countries was 2.13 million b/d—technically more than Iran’s latest export level but falling as non-Iranian members raised output. IEA said Saudi Arabia had indicated it would raise production by a further 200,000 b/d in October, which with production growth expected from Russia seems to have calmed the market. But the Saudi production rise would lower the kingdom’s spare capacity to 1.3 million b/d and all of OPEC’s ability to produce incremental crude to below 2% of global demand, IEA said. This much shrinkage in an important buffer against unexpected supply loss would raise pressure on inventories, which have limits, and make traders nervous. Even with the market’s loss of all Iranian exports theoretically replaceable from OPEC’s spare capacity, therefore, the market will be increasingly vulnerable to upset unless growth areas such as Brazil and North America rebuild supply cushions, supplemented by potential recoveries from distressed producers such as Libya and Nigeria.
To some unknown extent, and depending on how they apply, exemptions from sanctions for the eight countries named by Pompeo delay this potential squeeze on global oil supply. They do not, however, remove the overarching question about how long the market must function with diminished or no Iranian oil in trade.
Extra unpredictability
The answer to that depends on—what? When Iran ends “malign activities” and “bad acts?” If so, how does the Trump administration plan to make that determination? Or is the real aim of all this to pressure the Islamic regime into renegotiating the nuclear deal?
The oil market, of course, never lacks unpredictability. But it has more of that encumbrance now than usual, for reasons hard to explain and therefore hard to justify.