Quick Bites | Energy Market Chaos!
The Third Gulf War is now in its fourth week. Every day that Iranian drone or missile strikes on tankers keep the Strait of Hormuz closed, around 20% the world’s output of oil and liquefied natural gas (LNG) is still stranded. Energy prices are experiencing a once in a generation shock. Brent crude oil, at around $100 a barrel, is 40% more expensive than a month ago. Natural gas prices in Europe are up by 60%. Even on the most optimistic of outlooks, energy markets will remain in chaos for months to come.
Markets have responded positively to President Trump’s X announcement that “negotiations with Iran are going very well”, whatever that might mean. But even if a negotiated ceasefire was agreed, and tankers were to start crossing the Strait once again – how much damage has already been done and what does it mean for the global economy?
The truth is no-one really knows, but financial markets appear to be far too complacent. For energy markets to “normalise” would certainly take months, if not years. The inflationary shock will feed through into higher rates, collapse in consumer sentiment, delaying of investment, and higher risks of stagflation or recession.
Once the Strait of Hormuz reopens, Gulf producers must try to restore production levels to those of February. Second, the large oil and LNG tankers need to ferry that output to refiners abroad (eg. to Europe, and in Asia, to Singapore, Malaysia, South Korea). And third, those refiners must process it into usable fuel (eg. the petrol, diesel and aviation fuel that Australia imports). Supply arrangements have been severely disrupted, and they will take time to adjust.
On production, Gulf countries (eg. Saudi Arabia, Kuwait, UAE, Qatar, Bahrain) have already cut their output of crude by a combined 10m barrels per day, equivalent to 10% of the global total and 40% of their pre-war level. To bring this back online, producers must check everything still works and clear pipe blockages. Only then can they restart wells by restoring pressure, done slowly to avoid damaging reservoirs. Restarting the separators, compressors and treatment plants where oil goes for initial processing all takes time.
Natural gas is harder to restart. Qatar’s Ras Laffan field, which supplies nearly 20% of the world’s LNG, has been shut since the third day of the war after an Iranian drone strike. In the past week, a missile strike took out 17% of the plant’s liquefaction units, accounting for 3% of global supply. Repairs could take 3-5 years, said Qatar’s energy minister.
Source: Trading Economics
Then consider the shipping issues. In principle, new ships could come into the Gulf to load up the gradually restarting production. In practice, however, Iran has attacked port facilities across the Gulf, hitting fuel tanks, warehouses and ships at anchor. Sunken vessels or infrastructure will need to be cleared to ensure safe passage. Repairs to piers or loading equipment typically take months. Moreover, war-risk insurance in the region has mostly been cancelled, and insurance costs – if available at all – have soared 10x fold.
Even once Gulf crude reaches refineries, there will still be delays to contend with. Some refineries in China, India, Malaysia and Thailand have closed whole units for want of raw material. Asian refiners’ total throughput is down by 3m b/d, or 8%. Once Gulf crude returns, getting those plants back up will take weeks. As with upstream production, restarting downstream refineries means checking and purging pipes, restoring power, steam, cooling water and compressed-air systems, etc. All complex, laborious and slow.
Source: The Economist
In short, we will not get back to a “normal” energy market anytime soon, regardless of whether the war stops tomorrow or next month. Of course, the longer it takes for recovery to begin, the worse the outlook for the greatest power shock in decades.