As the war in Iran enters its fourth week, attacks on the region’s energy infrastructure are disrupting economies around the world. Oil prices reached around $120 a barrel, up from around $80 more than a week ago. International shipping through the Strait of Hormuz is closed. And the domestic economies of the Persian Gulf countries, including the United Arab Emirates and Saudi Arabia, continue to be directly attacked.
Why does the US government seem unprepared for the closure of the Strait of Hormuz? How do insurance markets work for ships that now want to pass through the Persian Gulf? And what role does the geography of Iran play in that war?
As the war in Iran enters its fourth week, attacks on the region’s energy infrastructure are disrupting economies around the world. Oil prices reached around $120 a barrel, up from around $80 more than a week ago. International shipping through the Strait of Hormuz is closed. And the domestic economies of the Persian Gulf countries, including the United Arab Emirates and Saudi Arabia, continue to be directly attacked.
Why does the US government seem unprepared for the closure of the Strait of Hormuz? How do insurance markets work for ships that now want to pass through the Persian Gulf? And what role does the geography of Iran play in that war?
Those are just some of the questions that came up in my recent conversation with FP economics reporter Adam Tooze on the podcast we co-host, Those and Tooze. Below is an excerpt, edited for length and clarity. For the full conversation, search Those and Tooze wherever you get your podcasts. And look at Adam Small storage journal.
Cameron Abadi: The closure of the Strait of Hormuz is a scenario that has long been predicted as part of a war with Iran. So why does the US government seem surprised by the economic downturn? Have the effects been more severe than the predictions involved? Or is this a basic failure to calculate what the forecast was expecting?
Adam Tooze: These wars have been revealing the incredible web of connections that keep the modern economy going. And now we go beyond the closing of the narrow door and exchanging fire. More recently, Israel’s attack on Iran’s gas infrastructure, to which they immediately responded by attacking Ras Laffan, the largest LNG (natural gas) facility in Qatar. Totally tit-for-tat, straight back. The Qataris were able to stop the first wave of attacks, and then a bunch of missiles and drones went through the second wave, it seems. And this is a real tragedy. This causes permanent damage, or at least very long term damage. This is not just a matter of closed problems anymore, but a matter of real attacks on the physical infrastructure. And there is an early understanding that even if this war can somehow be brought to a ceasefire, the whole region will definitely not be the same again.
And I think that’s what really sinks in with time. It takes time, it has to be said. The energy market is changing dramatically. That’s one of the key points here, it’s just the rate of depreciation. But there’s also a sense of a bit of a Wile E. Coyote moment in other financial markets, because they haven’t moved as much as most people would expect. So maybe this will pass, and as they say in the market, they will go through it, or maybe this is like February 2020 when the COVID epidemic broke out in Wuhan and the penny had not dropped that in March this would lead to the completion of the bed in the West. So we may have only a few weeks left before something bigger happens.
CA: So the financial markets are predicting this will be a short war – is that what it means?
AT: Right now I’m at an investor conference. I just got off the phone with a hedge fund. And when you look into this, do they really have a theory? Twenty minutes into the conversation, it becomes clear that no one has a real idea, and they don’t know more than anyone else.
And so right now it’s just a matter of, well, the market is still going. So, famously, as long as the music is playing, it’s playing. And there is not much of a profit to support out of the market so quickly. On the other hand, there also doesn’t seem to be much enthusiasm at the moment to buy the dip. So there’s a sense that we could be one or two big shocks away from a real confidence crack.
But when you ask the question: What do you understand the meaning of this war, for everyone, is for the constitutional order of the United States and whether it is appropriate to consider the United States as a normal nation? Which, after all, is the main issue here, as far as America’s political economy is concerned, since this war has not been authorized by congress and may require hundreds of billions of dollars in additional funding. And at that time, investors will really close. So I think there are layers of denial about how amazing and terrifying this rift is.
CA: The question has been raised as to whether ships attempting or attempting to transit the Strait of Hormuz would currently have the necessary insurance to do so. What do the economics of insurance markets look like in this kind of wartime situation?
AT: Well, the thing you can’t get anymore is normal Lloyd’s of London insurance, because there’s war, so nobody in their right mind can insure you against it that way. And that was the cheapest war insurance any responsible operator would take. You can get, apparently, special war insurance targeted right now for shipping to the Strait of Hormuz. Apparently, that will run you about 5 percent of the ship’s value. So basically then the underwriter is taking a 1-in-20 chance that this thing will happen. So if an average age tanker is worth $100 million, then you pay $5 million for that trip. And considering how narrow the boundaries are for this type of business, that makes this situation uneconomical. That’s the state of the game.
It’s good to say as well that one of the tough schedules here is, you know, once the shooting stops, if it stopped, then there’s a ticking clock. Standard war insurance will not return until there is no event, depending on the class of insurance, 30 days, 60 days, and so on, right? So even if the bullets were to be faithfully stopped, there would be no immediate resumption of normal insurance. So costs will remain high. And there is always a choice of where to send your property. So why would you put something in harm’s way? However, the insurance situation is messy, and clearly not considered in advance by any kind of umbrella insurance provided by the US federal government or something else.
CA: What kind of geographical feature is currently played by Iran’s geography—its vast territory, its mountain ranges, its long coastline?
AT: I think it is important in the sense that it is an aspect of Iran’s invulnerability. As people sometimes say ironically, war is a way to teach us geography. So now I know that if you put Iran on top of a map of the continental United States, it covers the entire eastern seaboard. It’s basically like the US until the Louisiana Purchase, the whole thing. It is the size of Texas, California, Illinois, and Montana combined and has about as much land type as Texas, California, Illinois, and Montana combined. It has a coastline on the (Persian) Gulf and the Gulf of Oman of 2,000 km. So this is absolutely huge.
So in terms of chasing materials, rockets, missiles: Even if you can break the official army, you will not be able to stop the resistance of the Houthi rebels. It is incredibly naive, I think, now to think that even if you reduce the Iranian nation to a completely defeated state, you cannot eliminate the possibility of retaliation.
And I think we’ve already seen that in that brief kind of surge in bad news coverage of the Kurdish invasion of Iran. That all changed completely within a few days. There is talk about Kharg Island—which is their main transit point for Iranian oil—that the US military may be considering some sort of special forces operation there. But even that is a large piece of real estate. Kharg Island is not a small place.
So geography is an important factor, I think. And it does any weird talk of boots on the ground and any kind of real invasion—I mean, that would be absolutely crazy if the Americans tried to do that, I think.
