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Written by: Pulkit Sabharwal | AGF
Israel’s declaration of war in response to Hamas fighters infiltrating its borders this past weekend has so far had only a minor impact on oil prices, but more volatility may be ahead if the conflict spills over to other countries in the region, including, most importantly, Iran, which is alleged to have played some role in the attacks.
Of course, at stake in that scenario is the ongoing supply of oil to global markets. After all, while neither Israel nor the Gaza Strip are significant producers of oil (and therefore have no real bearing on the commodity’s price), Iran is one of the world’s largest production hubs and currently produces three million barrels of crude per day, according to Bloomberg data.
Moreover, Iran’s production has steadily increased over the past year largely because of a “policy of leniency” recently sought by the U.S. government towards the country, which may now be in jeopardy.
In fact, while Iran has denied involvement in the Hamas attack – and both Israel and the U.S. have said there is currently no concrete evidence of its involvement – it is possible the U.S. might be prompted to support a close ally in Israel and reverse course on sanction leniency with Iran.
In turn, this could result in Iran’s oil supply being taken off the market and/or lead to Iran’s adoption of a “discount barrel” selling strategy that is like what Russia is currently pursuing by striking independent deals with certain countries. This is also a tactic Iran has used previously in the wake of sanctions that followed the onset of the Ukraine conflict.
Israel’s conflict with Hamas also calls into question the general stability of the Middle East and casts a shadow over the recent geopolitical trends seen in the region, namely the apparent normalization of Israel’s relationship with neighbouring Arab states, such as Egypt.
Similarly, there were news stories before the Hamas attack that indicated an arrangement was in the works between Saudi Arabia and Israel, brokered by the United States. As part of that deal, the U.S. was reportedly seeking a one-million-barrel-a-day cut in production orchestrated by Saudi Arabia (and supported by Russian production curtailments of 500,000 barrels a day) to support energy prices.
As such, not only does the onset of this conflict bring into question the directionality and timing of these normalization agreements, but it also arms Saudi Arabia with more leverage in discussions with the U.S., re-affirming its role as the effective “swing producer” in the Middle East and globally, which, crucially, gives it more reasons to keep the production cuts as is.
Beyond that, another factor to consider is the small, but concerning, probability of direct conflict between Israel and Iran. Should this materialize, the risk of a significant portion of the world’s oil supply being taken off the market (owing to Iran’s production numbers) remains a very real one.
Compounding this is the fact that any direct conflict would likely threaten the Strait of Hormuz, a crucial shipping lane that accounts for as much as 1/3rd of global oil and gas shipments. So, while the fighting between Israel and Hamas currently remains far afield from where the majority of oil production takes place in the Middle East, the potential implications (and the non-zero probability) of this conflict escalating and spilling over to other countries like Iran puts a potential floor in place for the price of oil in the near-term, while also adding a degree of upside risk that was not present before this new tragic war broke out.
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