Oil Prices and the Potential Confrontation with Iran |
Al Hayat - 18 June, 2012
Author: Walid Khadduri
Oil prices have fallen by about $ 30 during the last three months, with the price of Brent crude dropping from $ 128 to about $ 100 per barrel. This is the result of several factors including the ongoing and escalating crisis in the Eurozone, increased speculation, increase of commercial oil inventories (particularly in the United States), in addition to the weak performance of the U.S. economy and employment levels, as well as the slowdown in Chinese manufacturing output. In fact, had it not been for the Iranian nuclear issue, oil prices would not have reached their high levels.
Crude oil prices during the remaining months of the year will fluctuate in accordance with two contradictory factors. On the one hand, markets may continue to perform weakly for the reasons mentioned above, particularly in what regards the Eurozone crises and the possibility of contagion spreading to other countries outside of Europe; on the other hand, the Western-Iranian confrontation over Tehran’s nuclear program may escalate, particularly as the decision to boycott Iranian oil exports is set to come into effect on the first of July.
Naturally, each of these factors has a different impact. In case the Eurozone crisis intensifies and spreads further, global demand for crude oil would be expected to decline causing a drop in prices. Yet, should Western sanctions on Iranian exports be implemented, markets may become confused, according to the severity of implementation of and compliance with the sanctions, as well as the Iranian reaction that would ensue.
Reports recently released by OPEC and the IEA indicate that global growth rates will continue to fall in the second half of this year, because of the crisis in the Eurozone, predicting a significant decline in the economies of emerging and developing nations (the main drivers of global demand for oil in recent years). In addition, there are fears of a financial crisis in the United States erupting near the end of the year. Meanwhile, given their reliance on exports, there are also concerns regarding the ability of both China and India to revive their economics, as a European contraction will drive down the two countries’ exports. The general sentiment among economists is that the continuation of the Eurozone crisis and slowing economic growth in emerging countries (China and India) has created a state of anxiety relative to the demand for oil in the next few months, a state whose effects include the mass exodus of financial investments from oil futures, which have in turn taken their toll on price deterioration to the tune of $ 20 dollars per barrel in recent weeks.
In numbers, global economic growth this year is forecasted to be 3.3 percent, and U.S. economic growth 2.2 percent. In light of these expectations, it is expected that global demand for oil will increase this year by about 900 thousand barrels per day. At the same time, it is expected that oil supplies from outside OPEC countries would provide around 700 thousand barrels per day, mostly from the United States. This is while bearing in mind that Chinese industrial exports have shrunk as a result of the crisis in the Eurozone. The rate of their monthly growth thus fell from about 15.1 percent in 2011 to about 4.9 percent in the first half of this year, while growth in India shrank to 6.4 percent during the first quarter, instead of the expected rate of 6.9 percent. Other important indicators monitored by the markets include the U.S. commercial crude oil inventories, which increased by about 17.7 million barrels in May compared to May 2011, and by 30 million barrels relative to its average levels in the past five years.
Based on this information, market fundamentals of supply and demand appear weak. However, in reality, the picture remains incomplete if only evaluated from a purely economic angle. For one thing, there is a meeting scheduled to take place in Moscow before the end of this month, between the 5+1 countries and Iran, regarding the latter’s nuclear program. So will the meeting culminate with a solution that is satisfactory to the major powers (and Israel) in terms of the concessions that Iran may offer in the nuclear issue? And if an agreement is reached, then how will this be translated in the oil markets?
Of course, in case of an agreement being reached, we must expect that markets will be reassured by the fact that a military confrontation would have been defused, as well as by the boost the safety and security of oil supplies from the Gulf region would have received, as a result. But in the event of a failure to reach an agreement in Moscow, then the very least to be expected is the implementation of tougher sanctions on Iranian oil exports, in addition to the possibility of a military confrontation. This will lead to turmoil in the markets and fears of supply shortages, despite the fact that major oil-producing countries in the Gulf have in recent months managed to increase their production by tapping into their spare productive capacities to create a balance in oil markets, thereby disabusing claims of their inadequate spare productive capacities. Indeed, OPEC output reached about 31.9 million barrels per day in May, or an increase of about 1.4 million barrels per day relative to December 2011, when Western countries adopted a policy of boycotting Iranian oil.
All this means that the markets are at a crossroads, and are facing two possibilities: a negative world economic climate, which entails shrinking demand for oil and lower prices; or a Western-Iranian confrontation that may push prices up once again. It is possible that the picture will become clearer over the next few weeks, following the meeting in Moscow.
* Mr. Khadduri is a consultant for MEES Oil & Gas (MeesEnergy)