Smoke billows for the second day from the Shahran oil depot, northwest of Tehran. Oil prices fell Monday, even as Israel and Iran intensified their attacks on each other.-/AFP/Getty Images
Ever larger parts of the Middle East, responsible for a third of world oil production, are burning. Yet oil prices fell Monday, even as Israel and Iran intensified their attacks on each other. How can that be?
On Friday, when Israel hit Iran and killed many of its military commanders and nuclear scientists, the oil markets went wild. Brent crude, the international benchmark, rose 13 per cent, then retreated to finish up 7 per cent. On Monday, Brent was down about 1 per cent. Despite a new war that could spread throughout the Middle East, and Israel’s attacks on a few bits of Iran’s energy infrastructure, oil prices have lost 10 per cent in the past year.
Panic over? Far from it, since anything could happen. Once civilians are killed – Israel and Iran blame each other for attacks on residential areas – restraint can vanish, accelerating the revenge attacks.
“The residents of Tehran will pay the price – and soon,” Israeli Defence Minister Israel Katz said Monday. Iran’s supreme leader, Ayatollah Ali Khamenei, threatened “severe punishment” after the Iranian death toll began to mount. Iran claimed that Israeli airstrikes had killed 224 civilians by Sunday.
Yet, so far, the oil markets do not seem terribly agitated, all the more so since Iran’s exports of 1.7 million barrels a day represent less than 2 per cent of global consumption. Oil traders seem to know that the global market has enough supply – and flexibility – to absorb anything short of a devastating supply disruption.
Shribman: For the U.S., the crisis in Iran is the latest episode in a long, tortured history
Growth in oil demand has been on the wane since Donald Trump unleashed his tariff war earlier this year, triggering lower global GDP forecasts (the World Bank last week cut its 2025 growth forecast to 2.3 per cent from 2.7 per cent). Oil went from US$80 a barrel in January, when Mr. Trump was sworn in as U.S. President, to less than US$60 in early May, signalling a market glut that pleased finance ministers and central bankers by removing some of the upward pressure on inflation.
At the same time, OPEC announced production increases, a signal that the cartel is going after market share as opposed to top dollar for its product. Output is set to rise by almost one million barrels a day to the end of June. Some energy analysts think even greater output is to come.
Still, a lot could go wrong.
Iran fired a new wave of missile attacks on Israel early Monday, killing at least eight people, while Israel said it had gained 'aerial superiority' over Tehran.
The Associated Press
The biggest threat is the potential closure of the Strait of Hormuz, the Persian Gulf’s shipping choke point. Iran effectively controls the strait, which is only 50 kilometres across at its narrowest point, even though Oman and the United Arab Emirates also line the Hormuz coast. About a third of the world’s seaborne oil passes through the strait – some 21 million barrels a day. The oil comes from Iran, Saudi Arabia, Iraq, Kuwait and the UAE.
Iran has never fully closed the strait but has threatened to do so at various times since the “tanker war” in the Iran-Iraq War in the 1980s, when both sides went after commercial ships on their way to and from the gulf. If the strait were to close for a long time, there is no doubt prices would soar. ING Barings said they could double to US$150 a barrel in that scenario.
Even if the Israel-Iran war were to get truly ugly – on Monday Israel claimed it had already achieved air superiority over Tehran, suggesting it could hit targets in the capital at will – shutting the strait seems unlikely. Iran would be punishing itself by eliminating its oil exports, one of its main sources of revenue (most of the exports go to China).
There is a better reason to keep it open: Mr. Trump.
With so much going wrong in his agenda, from the tariff backlash to the wars he vowed to end but didn’t, the last thing he would want to see is surging oil prices, which would hit his MAGA base hard when they fill up their hulking pickup trucks. If Iran were to try to shut the strait, the U.S. Fifth Fleet battle group, whose home port is the gulf state of Bahrain, might have something to say about it. Iran would be pulverized by the combined might of American and Israeli aircraft.
The other risk to oil prices is Israeli attacks on Iranian oil export infrastructure, such as loading ports and the pipelines that lead to them. Israel has already hit two natural gas processing sites on Iran’s south coast but, as of Monday, left the oil export terminals intact. The question is whether Israel will continue to do so. Mr. Trump, who has tacitly approved Israel’s attacks on Iran, would be loath to see Israel trigger a surge in prices by destroying Iran’s coastal oil assets. But tempers could flare as the conflict escalates and kills civilians.