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James Hamilton

James Hamilton

James is the Editor of Econbrowser – a popular economics blog that Analyses current economic conditions and policy.

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What Happens if Iran Doesn't Back Down?

If an embargo is successful in preventing Iran from selling a significant amount of oil on the world market, what would replace it?

On Friday the White House released the following statement:

there currently appears to be sufficient supply of non-Iranian oil to permit foreign countries to significantly reduce their import of Iranian oil, taking into account current estimates of demand, increased production by some countries, private inventories of crude oil and petroleum products, and available strategic petroleum reserves and in fact, many purchasers of Iranian crude oil have already reduced their purchases or announced they are in productive discussions with alternative suppliers.

That the President or anybody else is counting on the world demand for petroleum curve to shift left in 2012 seems doubtful. And which are the countries from which increased production is anticipated? Libyan production averaged only 500,000 barrels/day in 2011, and if things go well could soon be producing a million barrels more than that daily. In the meantime, disruptions in Sudan, Syria, and Yemen have taken out a separate 640,000 barrels/day. The best hope is perhaps Saudi Arabia, which presumably has been making private statements to U.S. officials similar to this public statement from Saudi Oil Minister Ali Naimi last Wednesday:

Saudi Arabia's current capacity is 12.5m barrels per day, way beyond current levels demanded, and a reliable buffer against any temporary loss of production. Saudi Arabia has invested a great deal to sustain its capacity, and it will use spare production capacity to supply the oil market with any additional required volumes.

Where have we heard something like that before? Maybe this statement from June 2004 rings some bells:

Oil Minister Ali al-Naimi, in Beirut ahead of the OPEC meeting, said Riyadh was "fully ready" to increase its oil production in an effort to trim soaring prices to the cartel's target range of $22-28 a barrel.

Or perhaps this one from August 2004:

Making good on a pledge made in May, Saudi Arabia announced Wednesday it is prepared to increase oil output by up to 1.3 million barrels per day -- 14 percent -- to cope with world demand. ....[Adel al-Jubair, foreign affairs advisor to Saudi Crown Prince Abdullah] said the Saudis had informed all of their customers within the last week of the kingdom's intention to make additional crude oil available to the international market.

Just for fun, here's a graph of actual Saudi production in the years following those statements, with the date of the second quote above noted by a vertical line.

Saudi Arabain Crude Oil Production
Saudi Arabian crude oil production, monthly, in thousands of barrels per day, Jan 1994 to Dec 2011. Includes lease condensates but excludes natural gas plant liquids and refinery processing gain. Vertical line at August 2004. Data source:EIA.

And in case you've been hiding in a hole for the last few years, here is what actually happened to the price of oil after those words. To help your imagination, I've also drawn a horizontal line at $28, the upper end of the price range referred to.

West Texas Intermediate Price
Price of West Texas Intermediate, dollars per barrel, monthly, Jan 1994 to Dec 2011. Vertical line at August 2004 and horizontal line at $28/barrel. Data source: FRED.

Moving along through the President's list of alternatives in the first quote above, what about a release from strategic stockpiles? This may well happen, but it's obviously only a temporary stopgap. I'm therefore inferring that Plan A is the embargo successfully shuts down Iranian exports, the world gets by for a short while on releases of strategic reserves, the Iranians cry "uncle" within a few months, and President Obama enjoys a great diplomatic success.


I guess my only question is what does Plan B look like?

By. James Hamilton

Reproduced from Econbrowser

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Leave a comment
  • Philip Andrews on April 06 2012 said:
    I couldn't agree with you more. Especially in these turbulent times in the ME we can't just replace Iranian oil at the drop of a hat. The whole sanctions things is riddled with holes because it coulkdn't be happening at aworse time for EVERYONE incl the USA.

    We need to be stabilising oil supply and demand and trying to get that damn price down. Why should the world economy suffer fro senseless oil importation restrictions just because Israel and the US Zionist lobby are getting paranoid about Iran?

    Iran hasn't actually done anything to warrant this response that Pakistan and Israel haven't already done. After all it was Pakistan that was training Iranian nuclear scientists in the 1980s.

    And Iran is not going to shut down the Straits either. Unlike the West Iran isn't so stupid as to cut its nose to spite its face. Their strength is strategic psychology and they are brilliant at it. The Iranians project strategi psychology that works, while the west by contrast produces pointless military expeditions and reams of 'think-tank' analyses that go nowhere.

    Why don't we just come to terms, seek an understanding, an accomodation with Iran and stop all this damned foolishness? Accept their (historically) dominant place in the ME(Arabs have been 'powerful' on the West's coattails for less than 100 years). We'd all be much better off that way.
  • Dave Kimble on April 06 2012 said:
    Good article.

    No one expects Iranian oil sanctions to be 100% effective - China, India, Japan, South Korea and Turkey are too dependent on Iranian oil for that. So it ought to be possible to work out the net gains and losses of other oil exporting countries, and the potential Saudi increase, and see at what percentage of sanctions effectiveness the world market supply falls below demand.

    I would very much like to see your calculations on that.

    NYTimes has said that 'sources' indicate that the US administration will look the other way while Chinese non-US-trading banks continue the financing of Iranian oil transactions. Probably the same will happen with India and Turkey, while Japan and South Korea have already done enough, apparently, to get an exemption.

    So the sanctions will only operate up to the point that they hurt, and then they will stop.
  • Kinghavest on April 07 2012 said:
    A better and more accurate headline might be What Happens if the US Doesn't Back Down?

Leave a comment

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