12 November 2018

Iranian Oil Sanctions: Myths and Realities of U.S. Energy Independence

by Amy Myers Jaffe

Renewed U.S. sanctions against Iranian oil exports kick in officially this week as part of the Trump administration’s decision to exit the Iranian nuclear deal. Estimations on how effective the sanctions have been is a relatively messy affair to date. Iran is expected to lose between 1 million to 1.5 million barrels a day in oil sales to Europe, Japan, South Korea, and India, with speculation that some of that oil might wind up instead in China or being repurposed in barter trade with Russia.

Today, the U.S. government officially confirmed it was handing out temporary waivers to several of the countries that had previously announced intentions to go to zero purchases from Iran. Snatching defeat from the jaws of victory, the announcement, aimed to keep oil markets from overheating, calls into question the ultimate effectiveness of the Trump Iranian sanctions project overall. Worse still, it has simultaneously lay bare the fact that President Donald Trump, like countless U.S. presidents before him, has to worry about global oil prices in conducting foreign policy, despite an abundance of U.S. domestic energy.

Iran has long experience in trying to avoid restrictions on its oil sales including turning off internationally-required tanker transponders to make it harder to track its shipping movements. But available satellite assisted tracking technology has improved since 2012, the last time the U.S. imposed sanctions on Iran. Tracking services are now offering up to the minute updates on Iranian oil exports, helping to illuminate the shadowy world of smuggling. One famous service, Tanker Trackers, even located with precision recent Iranian deliveries to China’s strategic petroleum reserve in Dalian.

In years past, Iran has tried to entice major trading partners to evade sanctions compliance by promising sweetheart oil and gas exploration and other lucrative commercial deals. But the more uncertain long range commercial outlook for prolific Middle East reserves weakens Tehran’s bargaining chips. Fewer players, be they government-run firms or private companies, are looking to increase access to oil reserves in a place like Iran these days. After losing billions in investments in geopolitically risky international oil and gas ventures, China’s government has shifted efforts to new, clean energy technologies like renewables, batteries and automated cars. Europe’s big oil companies like Norway’s Equinor, France’s Total, and Royal Dutch Shell are also shifting to renewables and minding their knitting in places with less geopolitical risk. Also losing interest in risky international ventures, many American firms are squarely focused on new North American shale reserves that are now challenging the Middle East for market share.

Many European, Japanese, and South Korean refiners initially responded to the Trump administration’s call for zero purchases of Iranian oil by quickly saying they would comply with the new U.S. sanctions, and French firm Total abandoned its natural gas development project in Iran. Ironically, all these pledged sanctions compliance announcements shook oil markets which were already tightening from a deal between the Organization of Petroleum Exporting Countries (OPEC) and Russia to limit supply to boost the price of oil. That prompted U.S. President Donald Trump to start tweetingat Saudi Arabia to intervene with more oil as they had done when then U.S. President Barack Obama had hardened Iranian oil sanctions in 2012 to get Tehran to the negotiating table.

Had oil markets been oversupplied at the time the Trump administration was initiating new Iranian sanctions, chances are most countries would have begrudgingly gone along in a manner that would not have disturbed oil prices or added risk to the global economy. But in the context of a crisis-torn Venezuela and surprising reports that Saudi Arabia’s ability to produce more oil was more limited than previously supposed, the administration was faced with harder choices.

Before offering its official statement on October 31, 2018, that “sufficient” oil supplies existed to permit a significant reduction in the petroleum purchased from Iran, the administration first jawboned Saudi Arabia to increase its production further, and then, in the aftermath of the Khashoggi scandal and related public U.S.-Saudi strains, the U.S. State Department was forced to hint that waivers would be given to countries having difficulty finding replacement barrels for Iranian purchases. Oil prices began to recede. In all, eight countries officially received such temporary waivers, including Turkey, India and South Korea late last week. The waffling on sanctions enforcement has definitely helped with oil prices but it means that Iran will have an easier time finding outlets for its oil production, even if it can only take back goods as payment and not cash. Added oil supplies are expected on the market in early 2019 when infrastructure additions will allow higher exports of U.S. crude oil. U.S. diplomats are also working to free up more oil from northern Iraq and the Saudi-Kuwaiti neutral zone in the coming months.

That Trump had to berate the Saudis and then capitulate on Iranian sanctions enforcement is a testament to the limitations of U.S. energy independence. Unlike in OPEC countries, additional U.S. oil export capacity isn’t just magically available on demand by pronouncement by government leaders. The pace of investment in new oil wells, export pipelines, and terminals is in a cacophony of dozens and dozens of independent, uncoordinated commercial oil company decisions that are dictated by markets and capital planning processes. Over the next month or two, rising U.S. oil production, which hit its historical record this month, remains stuck inland, constrained by pipeline bottlenecks. Even when those bottlenecks help keep the price of oil in Texas at a discount to international levels, it doesn’t help the Trump administration, which has to worry about how any shock in the global price of oil would disturb its broader goals that are related to the dollar, trade and global economic growth.

That reality became even more apparent when Saudi Arabia hinted it could unsheathe its oil weapon after 44 years of quiescence, if the newly-elected U.S. Congress chooses to enforce the Magnitsky Act in response to the death of Jamal Khashoggi. Reminding Americans of previous gasoline lines caused by the 1973 Saudi oil embargo, a Saudi commentator noted that the Saudi energy minister’s need to deny the possibility of a replay of 1973 signaled “to those who understand global politics that Saudi Arabia had many cards to play.” The incident laid bare an ugly reality: even with all our newfound oil and gas, America and its allies still need strategic stocks to protect the global economy from any rising petro-power that would try to use oil to blackmail the West into compliance to a political result they don’t want. U.S. production, though responsive to rising prices, is not able to surge rapidly enough to damp down a sudden supply shock. This was certainly noticed in China, which is only half way through building its own stockpile expected to reach 850 million barrels by 2020. China has increased its pace of stock building in the past few weeks, ironically with soon to be sanctioned Iranian oil. It is also a result that has taught a new generation of U.S. leaders about the limits of American oil power.

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