Will a nuclear deal with Iran make oil cheaper?

Staff Writer
Columbus CEO

(c) 2013, The Washington Post.

WASHINGTON — Oil prices took a tumble this weekend after the nuclear deal between the United States and Iran was announced. As of Monday afternoon, the cost of a barrel of West Texas Intermediate, the U.S. benchmark crude, has fallen about 77 cents since the deal was announced, to $94.13.

This highlights a crucial dynamic in the long-running Iran affair. Tensions tend to push oil prices up. The United States and Europe imposed sanctions that have cut Iran's oil exports from 2.5 million barrels per day last year down to 715,000 barrels per day — a loss of nearly 2 percent of the world's crude. Plus, traders get jittery about potential conflict, which can send prices spiking. That's all bad news for the world economy: An oft-cited "rule of thumb" suggests that a $10 per barrel rise in crude prices slashes about 0.5 percentage points off global GDP growth.

In theory, then, a deal should be good news for the economy. Gasoline prices in the United States were already easing downward this fall for a variety of reasons. If the Iran agreement causes crude oil prices to fall further, that should provide an extra boost, no?

There's just one hitch: We still don't know how much the current six-month deal will affect the global oil markets in the longer run. The impact might be fairly limited for now, since there are plenty of parties skeptical about the U.S.-Iran agreement — particularly Israel, Saudi Arabia, and the U.S. Congress, which is threatening stricter sanctions. Here are a few points:

_ In the short term, Iran will be able to export slightly more oil. In recent years, the United States has been putting pressure on countries like China, India and Japan to stop buying Iranian oil. Those sanctions have been successful in squeezing Iranian exports, which have fallen from 2.5 million barrels per day in 2012 to 715,000 barrels per day in October. Iran's oil revenue has plummeted by one-third.

Under the terms of the new six-month deal, the Obama administration will ease pressure on allies to keep cutting their purchases. But Iran will still be "held to approximately 1 million bpd [barrels per day] in sales," The Washington Post reported. That means Iran will be able to export more oil than it did in October but still slightly less than the 1.1 million barrels per day averaged in the first nine months of 2013.

That may not seem like a huge change, but the key point here is that Iran's exports will stop keep getting pushed even further downward — at least for the time being.

_ Iran still faces other oil sanctions that aren't yet going away. There's only so much that the Obama administration can do, on its own, to ease sanctions on Iran. The big restrictions on the Iranian oil trade were passed by Congress and the European Union. That includes a requirement for foreign countries to ratchet down their oil imports from Iran every six months, as well as E.U. restrictions on selling shipping insurance.

The Obama administration can't alter those on its own. And Congress, which is skeptical about the latest deal, shows no sign of relaxing its sanctions. Quite the opposite, in fact: "This agreement makes it more likely that Democrats and Republicans will join together and pass additional sanctions when we return in December," said Sen. Chuck Schumer, D-N.Y., over the weekend.

_ Much of the current drop in prices may be psychological — and that could get reversed quickly. The amount of oil Iran can sell isn't the only thing affecting prices. If the odds of conflict in the Middle East go up, then the "risk premium" on oil tends to go up, too. (In the past, for instance, Iran has threatened to attack oil shipments in the Strait of Hormuz, which carries one-fifth of the world's oil. That makes traders nervous.) So, conversely, it's possible that the deal is currently causing that "risk premium" to fall.

That said, as a recent note from Barclay's points out, tensions could easily resurface. For example: "Senior Saudi officials have been very vocal in their criticism of the fledgling US-Iran rapprochement and some have even warned that in response the Kingdom could seek to acquire nuclear weapons from a country such as Pakistan. Again, only time will tell whether the Saudis plan to make good on such threats, but a nuclear arms race in the Middle East would likely offset the security dividend gained by a freeze on Iranian nuclear activities."

_ A lasting deal with Iran might provide a huge boost to oil markets. For all the reasons above, the current interim deal isn't likely to shift the global oil markets all that much. But what about a comprehensive deal? What if Iran really did agree to scale back its nuclear program dramatically, while the United States and Europe eased back most existing sanctions?

That might have a bigger impact: Iran could put an additional 1 million barrels per day of oil on the world market — enough to offset all the expected growth in oil demand for 2014. That would be a big deal.

But there are a few caveats here: It's not clear how quickly the oil could come back online: Right now, the country is rumored to be holding an estimated 30 million barrels in offshore floating vessels ready to be sold in short order. But the International Energy Agency is skeptical that Iran could ramp up production quickly that if sanctions fell.

It's also hard to be precise about the exact price effect here. Oil markets are complicated: OPEC, for instance, could well scale back its own production in response to growing Iranian oil sales. Many OPEC nations, including Saudi Arabia, Russia, Iraq, Bahrain and Algeria, need to keep prices at around $100 per barrel in order to fund their governments. What's more, countries such as Saudi Arabia tend to prefer to keep some "spare capacity" in case of emergencies. Right now, that capacity is stretched thin, which could lead to cutbacks if more Iranian oil reaches the market.

A comprehensive deal is also very far from a given. Iran has to abide by the terms of the deal over the next six months. And the United States has to sell the deal to key allies. Not an easy task.

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Plumer covers energy and environmental issues for The Washington Post and writes for the Post's Wonkblog.

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