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The Surprising, Real Geopolitical Risk To Oil Markets

Published 15/11/2017, 09:00
Updated 09/07/2023, 11:31

According to many analysts and pundits, the Middle East suddenly became a much riskier place in which to do business over the past two weeks. Some reasons include sweeping arrests of influential Saudis in a massive corruption probe; a missile intercepted near Riyadh which had been fired from rebel forces in Yemen; the resignation of the Lebanese prime minister Saad Hariri while he was in Saudi Arabia, allegedly because he feared assassination at home; and a pipeline explosion that caused a fire in a village in Bahrain and was blamed on Iran.

Most pundits, including oil analysts, focused on these events.

Some observers have gone so far as to forecast impending war between Saudi Arabia and Iran. Most relevant to oil investors, we have seen more predictions that growing animosity between the two regional powers will have an impact on the oil market. We believe these events and analyses are nothing more than a red herring.

The real geopolitical risk to oil markets is actually in Iraq.

Saudi Arabia and Iran are not likely to go to war with each other because neither country has the military capability to fight a war across the Persian Gulf. Moreover, it is unlikely either country would be willing, at this time, to engage in a costly endeavor that would be politically risky and disrupt their economies.

Saudi Arabia lacks the ability—let alone the will—for an amphibious or airborne assault to invade Iran. Iran would not be able to invade Saudi Arabia while the Saudis maintain clear air superiority. The two countries do not share a border, so any engagements would be temporary and small-scale or through proxies (such as Saudi Arabia’s involvement in Yemen against Iranian supported Houthi rebels).

The real geopolitical issue that could impact oil markets is happening in Iraq. When the Kurdistan Regional Government (KRG) ceded control of Kirkuk to Iraqi forces in October, it ceded control of the valuable oil facilities there as well. When the Kurds were in charge of Kirkkuk, oil from the region was being shipped by pipeline to a port at the Turkish city of Ceyhan where it was being loaded into tankers for customers. Since the takeover, oil flow to Ceyhan from Kirkuk has been intermittent.

The cause of this has recently been revealed. The government of Iraq has entered into an agreement with Iran to truck oil from Kirkuk over the border into Iran to use at its Kermanshah refinery. Not only that, but the two countries are discussing building a pipeline between Kirkuk and central Iran that could eventually carry 650,000 bpd of Kirkuk oil to Iran’s domestic refineries. What we are seeing is Iran taking control of Iraqi oil policy.

Iran’s influence over Iraq’s government is already well known, but now Iran has essentially gained control over a significant amount of Iraq’s oil resources. Iranian political influence over Iraq already made Iraq susceptible to Iranian control at OPEC meetings. With influence over its physical oil, Iraq may turn out to be an extension of Iranian will within OPEC as well.

This dynamic could be crucial at the OPEC meeting in Vienna in two weeks, as Iran pushes either for loosening of its own production limits or strengthening of the limits on other countries, such as those in Africa. Could Iran and Iraq together disrupt negotiations within the cartel that is famous for always seeking unanimous decisions?

Author's Note: I will be live at the OPEC meeting, with events starting on 29 November and the meeting occurring on 30 November. Don’t forget to follow me on Twitter @EnergzdEconomy for live updates.

Latest comments

Thanks
Excellent, well thought out article. It certainly puts a different spin on things. Would I be right in saying that this could be bearish for Oil short-term?. Thank you. Adam
The only people these sorts of articles help are the hedge funds.
Hallo
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