For several months, the war between America and Iran has been slowly suffocating world economy.
In March, Iran closed the Strait of Hormuz – a narrow waterway that connects the Persian Gulf’s oil reserves to global markets. As a result, energy prices rose speed when the stock market and growth forecasts fell. Analysts began to warn that, if the Straits were not reopened soon, the world economy could slide into a major economic crisis.
And then, on Tuesday night, these storm clouds dispersed: the United States and Iran reached out ceasefire agreement, one that would halt US attacks on the Islamic Republic, in exchange for the start of transit through the Straits.
Oil prices fell quickly by 20 percentwhile the Dow soars more than 1,000 points.
And yet, some fear that the situation on Wall Street has flashed faster than the geographical reality. Israel continued attack Iran’s allies in Lebanon on Wednesday, for allegedly defying the ceasefire agreement. Iran, meanwhile, was spared The Sea Gate was closedHe accused the United States of violate the terms of their understanding, and declared negotiations with America “unhelpful.”
To get a clearer picture of what this all means, I spoke to oil market expert Rory Johnston on Wednesday. Author of a popular magazine, Product Context, Johnston has long argued that investors are discounting the risks of a US-Iran conflict.
We talked about why time may be on Iran’s side in a war of attrition, what the post-war global economy might look like, and how American consumers will fare in the most optimistic – and pessimistic – scenarios. Our conversation has been edited for clarity and brevity.
Now that there has been a ceasefire – sort of – what do you think is the most likely scenario for this war, the Strait of Hormuz, and the oil markets going forward?
I think we have taken a step in the right direction. But there are many unsolved questions. As of Wednesday afternoon, there does not appear to have been any restoration of flow through the Strait. And indeed, we have seen many, many, many explosions and attacks going on during the ceasefire.
My basic assumption about this conflict has always been that (President Donald) Trump was the actor most likely to overturn — the most susceptible to external market pressure. Given that, the most likely way of war was that Trump would, in the end, go down on one side. And Iran would retain equal control over the Strait of Hormuz.
And that seems to be the state we’re heading towards, which – although it’s problematic – is better than the last day state.
But Iran has insisted that it allows a limited number of ships to pass through the strait and that the waterway remains under the control of Iran’s Revolutionary Guards. We had an account last night that Iran would only allow 10 to 15 ships a day. If true, then that won’t be much of a change from the status quo.
But would that be temporary? If the ceasefire leads to an actual peace deal — one that allows Iran to collect tolls on shipping in the Strait — wouldn’t Tehran want more traffic through that waterway?
Yes. If the US Navy were to leave – and the bombing stopped and Iran felt safe and secure – then it would be inclined to restore the moderate flow rate.
The issue is: Trump has been saying, “Let’s negotiate. And while you’re negotiating, do us a favor and reopen the Straits, so the world economy doesn’t collapse as we speak.” But that essentially requires Iran to lose its main source of leverage. Iran has its foot in the aorta of the global hydrocarbon market. It is probably not going a step away before to obtain a more permanent agreement.
So, the question is: Can the talks that begin on Friday lead to such an agreement? And I think that’s the trillion dollar question right now.
Let’s say we get a peace deal, for a while. In a more realistic version of that scenario, what can Americans expect economically? What happens to the prices of gasoline, transportation, and other energy-related products?
If this continues, then we will avoid a situation where the average gallon of American gas costs $6. But even if everything goes well from here, the world will still be working with about half a billion barrels of oil than it would have, had it not been for this war.
And that is because the Gulf states had to reduce oil production – for, without the Straits, they had no means of transporting or storing all that raw material.
All right. And even if flows through the Straits resume today, it will take weeks to months for them to return production to pre-war levels.
What could that mean for products that are derived from fossil fuels – jet fuel, plastics, semiconductors, etc.? Will it take long for the prices of those things to adjust?
Yes. For one thing, there have not been many confirmed attacks against oil fields or oil processing facilities in the Gulf. But there has been asset clearing attacks and petrochemical equipment. So the production capacity has decreased.
At the beginning of the year, a barrel of diesel was 30 dollars more than a barrel of crude oil. So far, it’s about $70 more. But that’s down from a high in late March of about $90 a barrel. Therefore, the price of raw materials and products has fallen. But markets for the latter remain very tight. And they are likely to remain stramare relative to crude going forward.
Let’s talk about the most desperate situation. At this point, what are the most acceptable and worst outcomes? What are you worried about?
The most obvious answer is that we get to Friday, no one can agree, and then we’re back in the same place as we were before the armistice.
In fact, we now know that there is interest from the White House for an agreement. We can see that they are responding to market pressure. But Iran can see that too.
From Tehran’s strategic point of view, they are keen to get rid of this.
So, let’s say that Iran decides that time is on their side and doesn’t feel like running behind it more reasonable requirements. If the Strait remains closed for two months, what will that mean for American consumers?
At that point, I think we’ll see things like $200 a barrel crude. And that’s assuming there isn’t an increase in tit-for-tat attacks on the Gulf’s energy infrastructure.
But if we only get the terms of the ceasefire before the ceasefire until June, we will be in a situation where prices will need to rise until they break even.
In other words, the price will need to be so high that consumers have no choice but to use less energy.
All right. Let’s say we have a shortfall of 10 million barrels per day in the market. There is no way that supply can react quickly enough to fill that hole. So, to stop the global oil market from collapsing in on itself – and drawing inventories to zero – you’ll need to raise prices until people simply stop using.
In the West, that would appear to be a very high price. But people will manage. In the developing world and the Global South, that will manifest as an outright shortage. Eventually, you’ll need a significant drop in spending. If that does not happen in Western countries, then it will happen in poor countries.
And that will happen with diesel and jet fuel.
How much would America’s status as an energy exporter protect us in that situation? After all, high oil prices are good for oil producers. So America terms of business would improve: The goods we export will be more valuable, compared to the goods we import. And the country’s oil-rich regions may reap some benefits.
Besides, we are less dependent on the Gulf’s energy supply than Europe or Asia. So, can those reasons save us, if this ceasefire falls apart?
The United States — and North America, more broadly — remains the world’s most energy-secure region. We may not see a deficit here, although we will feel price pressure.
So yes, that will benefit America’s terms of trade in some way. But the distributional effects will be severe. You can see increases in Texas and New Mexico, for example. But it will affect consumers across the United States. And it will hit them harder on the coast because you have more commercial exposure there than in the middle of the continent.
More fundamentally, at the end of the day, if prices keep going up, and we have deficits across the Hemisphere, that’s a world of deep recession. Most of the planet would probably be in economic depression.
No matter how energy secure the US is, it is still part of the global economy. And eventually it will feel the economic effects of that economic downturn in all kinds of ways. This won’t be good for the average voter, either way. It would feel like a huge tax increase. Markets would fluctuate. The world would have to eat less than it did before this war began.
