IEEJ: March 2012 All Right Reserved
Special Bulletin
A Japanese Perspective on the International Energy Landscape (80)

March 16, 2012

Growing U.S.-Iran Tensions and International Oil MarketKen Koyama, PhD
Chief Economist, Managing Director
The Institute of Energy Economics, Japan
Harsh comments on Iran’s nuclear development program have come from the UnitedStates. In a joint press conference with British Prime Minister David Cameron on March 14, U.S.
President Barack Obama stated, “I think they (Iranians) should understand that because theinternational community has applied so many sanctions, because we have employed so many of theoptions that are available to us to persuade Iran to take a different course, that the window forsolving this issue diplomatically is shrinking.” The remark could be interpreted as a warning to Iran.
In an interview published on March 2, President Obama stated that, with regard to Iran, heis maintaining a military option and did not "bluff." In a speech on March 4, the president said that
he would not "hesitate to use force" to defend the United States and its interests. Following theseremarks, the March 14 message might have been designed to give a strong warning to Iran and tourge Tehran to review its nuclear development program and seriously take part in negotiations. As amatter of course, the United States might have not yet lost hope for a diplomatic solution.
Because Iran’s diplomatic efforts were strongly criticized for a tendency “to delay, to stall,to do a lot of talking but not actually move the ball forward,” as noted by Obama, however, thepresident might have indicated declining chances for Iran to diplomatically solve the issue by statingthat “the window” for solving this issue diplomatically was shrinking. Russian paper Kommersant
on March 14 reported that U.S. Secretary of State Hillary Clinton asked Russian Foreign Minister
Sergei Lavrov to tell Tehran that the expected talks next month with the five permanent U.N.
Security Council members and Germany, known as P5+1 would be the last chance for Iran to avoid
military action to the country. The U.S. attitude toward Iran has apparently grown tougher. Behindsuch tougher attitude is the special factor of the U.S. presidential elections this year. While a possible
preemptive attack by Israel on Iran is suggested frequently, the U.S. administration is plagued withcomplicated problems including Israel’s influence on U.S. politics, how to avoid criticisms of
weak-kneed diplomacy, and how to prevent crude oil price hikes from affecting the U.S. economy.
Under growing pressures, Iran for its part has maintained the policy of promoting its
nuclear development program for what it argues are peaceful purposes. But it has agreed to resume
talks with the P5+1 group, indicating its willingness to accept diplomatic talks. Seemingly, Iran has
taken a carrot-and-stick policy. The nation’s talks with the P5+1 group, which are expected to takeplace in Turkey in April, can be seen as a new development to fill the absence of such talks overmore than one year since January 2011. Iran has also offered to accept access to the Parchin military
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facility in suburban Tehran for IAEA review. When the International Atomic Energy Agency sent
inspectors to Iran in January and February, Iran refused to grant access to them to the facility. In suchsituation, Iran’s talks with the P5+1 group in April and their results will attract global attention.
While the April talks are attracting attention, remarks and other information on the risk ofmilitary attacks have had no direct impact on crude oil prices. The risk premium might have beenfactored into the present high crude oil price levels to some extent. Therefore, future crude oil pricechanges may depend heavily on future developments in the Iranian situation (or the presence orabsence of any new significant developments). If without new developments or any major moves
affecting the situation, crude oil prices may be more susceptible to oil supply/demand fundamentals
and financial markets (money factors) than to the Iranian issue.
As a matter of course, the Iranian situation itself may greatly affect supply/demand factors.
This point is worthy of attention. In an emergency (as with the use of force), large-scale oil supply
disruptions could emerge, greatly affecting the oil supply/demand environment. In addition, theimpacts of economic sanctions and an Iranian oil embargo cannot be ignored. In its monthly oilmarket report on March 14, the International Energy Agency made an analysis that Iranian crude oil
exports could be cut by 0.8-1.0 million barrels per day from the middle of the year. This analysis isbased on an assumption that the European Union will impose an Iranian oil embargo with suchmajor Asian countries as China, India, South Korea and Japan reducing oil imports from Iran tosome extent. Actual reductions are uncertain. If 1 million bpd in Iranian crude oil is lost from themarket, however, extra supply to cover the loss may be required. Specifically, those among theOrganization of Petroleum Exporting Countries with surplus production capacity, including Saudi
Arabia and other Persian Gulf countries, may be urged to increase production. In February, the 12
OPEC members’ surplus production capacity totaled 3.6 million bpd (including 130,000 bpd forIran). If the OPEC members excluding Iran expand oil output by 1 million bpd, the effective surplus
production capacity may be lowered to 2.5 million bpd. How will the market respond to such asurplus capacity fall? The response may depend on the international situation and the oil
supply/demand environment. If geopolitical risks are high, the market’s vulnerability may bestrongly recognized.
Regarding Iranian crude oil delivery, we may have to take note of the insurance problem
and its trend as well in the future. The EU’s sanctions on Iran have led leading European insurancecompanies to announce that they would exempt Iranian crude oil delivery from marine insurances(including reinsurances for ship owners’ oil pollution compensation, hull and cargo insurances). Theaction has emerged as a major constraint on Iranian oil delivery for Japanese and other companies.
As far as insurance is concerned, we may have to be prepared to see not only the abovementioned
effect on the Iranian crude oil delivery but also hull and cargo insurance premium hikes andcoverage changes in an emergency for overall shipment to and from the Strait of Hormuz.
Iranian situation developments including Iran’s talks with the P5+1 group in April and theIranian oil embargo are unpredictable. Based on the world economy and oil supply/demand
fundamentals, such complicated factors as the responses of other oil-producing countries including
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Saudi Arabia, the U.S. domestic situation toward the presidential elections and Israeli moves may be
combined to affect the oil market. Oil accounts for 45% of Japan’s energy supply, meaning thatcrude oil prices have great influences on Japan’s overall energy import prices. The Iran problem islikely to become a major disturbing factor for the oil market. Accurate situation analyses andresponses based on such analyses are important.

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