Washington, DC – The following critical questions arise and are answered on: Oil Market Implications of the President’s Decision to Reimpose Sanctions on Iran.
Q1: What does the reimposition of US Sanctions on Iran mean for oil markets?
A1: In last week’s commentary we argued that the oil supply and price impacts of the Iranian decision would largely be determined by the details of the coverage, structure, implementation, and enforcement mechanisms that accompanied the decision. The fact that the decision—at least at this juncture—appears to be unilateral (i.e., the United States going alone while the other Joint Comprehensive Plan of Action [JCPOA] signatories have indicated their intentions to abide by the agreement) suggests that negotiations with allies and other oil suppliers will be ongoing and that market impacts will unfold over months not weeks. How the president addresses the issue of secondary sanctions on allies and others will be impactful, but the fact that yesterday’s decision also included language to reimpose an extensive list of sanctions covered under statutes beyond the National Defense Authorization Act (NDAA) of 2012 suggests the administration is prepared to assume a highly aggressive posture on this issue.
Some EU states that find themselves at odds with the administration are likely to seek waivers or possibly introduce blocking legislation at home, though many may try to find a way to appear to directionally accommodate the president’s effort. Large importers like China and India are likely to continue Iranian purchases, and Russia has previously offered to market Iranian barrels. At first blush, the reimposition of US-only sanctions is expected to be less effective in (volumetrically) reducing Iranian oil exports than the sanctions achieved by the multilateral coalition during the Obama administration.
That said, the White House/Treasury Department fact sheets accompanying yesterday’s announcement answered some questions. For example, on timing, the document specified that sanctions on petroleum-related transactions and those involving Iran’s energy sector will be reimposed following a 180-day “wind down period which ends November 4, 2018” (although importers are encouraged to reduce uptake volumes in the interim), but it also left vague or unanswered several critically important issues. Left unaddressed/unspecified were issues related to overall export targets/reductions (are the sanctions aimed at blocking all Iranian crude oil exports or some subset tied to a more recent base period?), the definition and application of “significantly reduced” in determining importing countries’ compliance with the directive, how the president will determine that adequate alternative oil supplies exist and are available (and at what price) to buyers looking to find barrels to replace lost Iranian oil, and even the definition of the scope of covered petroleum products. In the latter case, the fact sheet definition of covered petroleum products under the NDAA sanctions appears to exclude gas condensates from coverage but includes lease condensates associated with crude oil production and natural gas and other compounds obtained from the processing of crude oil.
Q2: How does the sanctions announcement impact OPEC’s supply decisions?
A2: Currently all the available “spare” oil capacity in the world resides in a handful of countries, mainly Middle East OPEC member states and Russia. US officials have indicated they are already reaching out to allies to identify supplies available to offset the loss of Iranian barrels in the global market. Energy Minister Khalid al-Falih of Saudi Arabia has publicly indicated on multiple occasions that the kingdom stands ready to keep global markets adequately supplied. He has also, however, voiced his opinion that the world can tolerate somewhat higher prices. The OPEC/non-OPEC alliance has successfully orchestrated and managed its production freeze agreement to draw down excess global stocks and bring the market back into balance. And while continuing to (over)tighten the market would undoubtedly bring higher prices and revenue benefits for producers, it also threatens to erode oil demand and encourage additional supplies longer term.
OPEC meets in Vienna next month to reassess the market and decide whether to extend or relax/curtail the current production pact. The combination of the loss of large volumes of Iranian oil this fall coupled with other market disruptions, whether hurricane induced in the Gulf of Mexico or tied to political unrest in Venezuela, Nigeria, or elsewhere, would undoubtedly result in a spike in oil prices. And while US oil production continues to grow, it alone is incapable—volumetrically and quality wise—of replacing large and varied supply losses elsewhere.
Q3: Why did the president decide to announce the sanctions decision on Tuesday?
A3: Technically, the legislative review period for waiving sanctions under Section 1245 of the 2012 NDAA required the president to act on or before this Friday, May 11. There has been ample media speculation that the decision earlier this week was influenced by the White House desire to impact the press cycle when the weekend’s coverage was largely focused on stories unfavorable to the administration. We suspect, however, that foreign policy narratives played a much larger role. Following visits from President Emmanuel Macron of France and Chancellor Angela Merkel of Germany, and diplomatic discussions surrounding the JCPOA and the reimposition of Iranian sanctions, it had to be clear to the White House that other P5+1 signatories (i.e., the UN Security Council’s five permanent members [the P5], China, France, Russia, the United Kingdom, and the United States, plus Germany) were intent on remaining in the agreement (at least for now), so delaying until the end of the week offered no greater prospect of presenting a unified front in support of abandoning the nuclear agreement.
More importantly, however, was the timing of Secretary of State Mike Pompeo’s visit to North Korea and the potential messaging impact that the US withdrawal from the JCPOA would send to the Korean leader—namely that the Iranian deal “model” was inadequate since it failed to comprehensively address other requirements necessary for President Trump to deem it an acceptably “good” deal. At the same time, the president’s willingness to engage in discussions with North Korea could also serve to indicate to Iranian leaders that benefits would be forthcoming if they abandoned not only their nuclear program but also addressed his concerns over terrorism, human right violations, and activities seen to be destabilizing other areas outside of Iran.
The irony, however, is that the US withdrawal from the JCPOA undermines the credibility of the United States to abide by agreements/commitments it enters into (and what signal that sends to prospective partners) and how the failure to secure a meaningful agreement with North Korea could further isolate and undermine the United States’ ability to resolve tensions elsewhere in the world.
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