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A blighted dawn in the Straits of Hormuz?

May 21, 2012 Leave a comment

In early 2012, the US and its allies imposed crude oil export sanctions on Iran for alleged infringement of its nuclear activities. The market reacted in turmoil. The sanctions were met with a flurry of analysis. Possible scenarios were drawn on the blockage of the Straits of Hormuz and if Saudi Arabia has sufficient capacity to make up for the lost crude – in a worst case scenario up to 12mmpbd of crude. Prices were predicted to rise to $200/bbl derailing the world economic recovery.

Since then, European countries including Italy and Greece which import substantial Iranian crude highlighted the crippling effects of the sanctions at a crucial stage of the debt crisis. Several Asian countries including Japan, India and China too commented on the difficulties of replacing light sour Iranian crude in the existing tight market. The sanctions were delayed to July 2012 to allow countries look for replacement crudes.

Three months later in May 2012, the IEA reported that the Iranian production has decreased by 200kb/day and is expected to decrease by 1mmbpd by mid summer. Iran used to export 2.5 mmbpd before sanctions were imposed. Most of the reduction in crude exports (500kbd) is coming from European compliance, whilst Asian countries (including China, India, Sri Lanka) seek waivers. Meanwhile, a 1.5 mmbd pipeline from the UAE oil fields will be completed in mid 2012 to bypass the Straits of Hormuz for export via the Fujairah terminal.

Over the past few decades sanctions have proved to be an ineffective weapon against erring nations. The emergence of a multi-polar world has further weakened the sanctions. Emerging growth economies with a voracious appetite for oil provide alternative markets for exports. It did not help that the developed economies themselves have been preoccupied with restorative measures for their ailing economies. In France and the USA, presidential elections are held this year, which would have made any punitive measure on Iran likely. Early in May, Monsieur Hollande displaced Sarkozy as president. Sarkozy had been known for his hardline stance against the Iranian regime.

These reconciliatory stances appeared to defuse the tension due to the sanctions. This even as the frequent rhetoric of war in the media desensitized public reaction to it. Has a false sense of dawn and peace then set in the Straits of Hormuz? Will the looming sanctions actually impact the bargaining stance of the nations?

The Iranian oil minister recently predicted a rise to $160/ bbl if sanctions take effect – an increase of $70 from today’s $90 prices. At this price, Iranian oil revenues are estimated at $240 million (1.5 mbbls x $160/bbl) whilst pre-sanctions, oil revenues are estimated at $232 million ( 2.5 mbbls x $93/bbl). Depending on the amount of export loss and the resulting gain in crude price, the Iranians may actually ‘profit’ from the sanctions. The table below has export bbls lost on one axis and the export revenue gain on the other axis. Green cells indicate a net revenue inflow whence the gain in price outweighs the loss in crude, while the red cells indicate the opposite. Interestingly, the $70 price gain postulated by the oil minister corresponds to a positive revenue flow for a loss of 1mmbd in throughput.

Table showing effects of oil price change and export loss on revenue

It remains to be seen then if a surprise springs up. Afterall the weather is capricious. Nations are too. What the analysis above shows though, it will not be the sanctions that will provoke a reaction.