Iranian Nukes and Global Oil
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It is difficult to overstate how much modern civilization depends on continuous access to the substantial flow of fossil fuels from producers to consumers. Concentrated and abundant energy stores of coal, gas and oil power virtually all we do at the current state of technological development. Technology changes, of course, and the prospect of radically reducing dependence on fossil fuels is no pipedream; but it is a prospect that cannot materialize overnight. Transportation, which is critical to food sup- ply chains and other core systems society needs to function, today runs almost entirely on oil. Electrical generation is more diverse in its energy sources, but much of it, too, is fossil-fuel powered. Any sudden withdrawal of oil supply and concomitant rise in prices would tip our complex, globalized and interdependent econo- mies into a sharp downturn and, if abrupt and sustained, a systemic crisis.
Not surprisingly, then, history shows that oil price spikes invariably contribute to economic downturns. James Hamilton, an economics professor at UC San Diego, has noted that all but one of eleven recessions since World War II were associated with oil price shocks that raised production costs, hurt productivity and dampened consumer spending.3 Most postwar oil price shocks were associated with supply dis- ruptions due to geopolitical instability in the Middle East. The Iranian Revolution in November 1978, for example, caused a collapse in Iranian production of over 6 mb/d, triggering a large supply disruption by historical standards, and a 57 percent spike in oil prices.4 The revolution was followed quickly by the nearly eight- year-long Iran-Iraq War, which caused major and protracted oil interruptions and contributed to the sharp economic recession of the early 1980s. So if a conflict involving Iran led to an increase in oil prices and subsequent widespread economic turmoil, it would hardly be unprecedented. The difference in the case of a nuclear Iran is that future supply disruptions could be much larger and far more protracted.
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President Obama’s fears are well-founded. Iran harbors ambitious geopolitical goals. After national survival, Iran’s primary objective is to become the most dominant state in the Middle East. In terms of international relations theory, Iran is a revisionist power. Its master national-historical narrative holds that Iran is a glorious nation with a storied past, and that it has been cheated out of its rightful place as a leading nation: Like pre-World War I Germany and China today, it is determined to reclaim its place in the sun. Currently, Iran restrains its hegemonic ambitions because it is wary of U.S. or Israeli military responses—particularly the former.
But if Iran obtained nuclear weapons, its adversaries would be forced to treat it with deference if not kid gloves, even in the face of provocative acts. Iran would achieve a degree of “inverted deterrence” against stronger states by inherently raising the stakes of any military conflict against it to the nuclear level.11 As such, nuclear weapons would provide Iran with a cover under which to implement its regional ambitions with diminished fear of a U.S. military reprisal. A nuclear-armed Iran would likely step up its support for terrorist and proxy groups attacking Israeli, Saudi and U.S. interests in the greater Middle East and around the world; increase the harassment of and attacks against naval and commercial vessels in and near the Persian Gulf; and be more aggressive in its coercive diplomacy, possibly brandishing nuclear weapons in an attempt to intimidate adversaries and harmless, weaker neighbors alike.
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In short, a nuclear-armed Iran would exac- erbate current conflicts in the Middle East, and this likely bears jarring consequences for global oil prices. Because of the heightened threat to global oil supply that a nuclear-armed Iran would pose, market participants would cer- tainly add a large “risk premium” to oil prices. Oil prices reflect perceived risk in addition to information on actual events or conditions in the market. Recent history shows that even without nuclear weapons, Iran-related events in the Middle East have affected oil prices on fears they could spark a regional war. Traders bid up oil prices in January 2006 when the IAEA referred Iran to the UN Security Council. In subsequent months, news reports about heated Iranian rhetoric and military exercises helped to drive crude prices up further. The surprise out- break of the Israel-Hizballah war in 2006, not entirely unrelated to concerns about Iran, trig- gered a $4 per barrel spike on contagion fears.
The Iran risk premium subsided after 2007, but a roughly $10–15 per barrel (10 percent) risk premium returned in early 2012 after the United States and the European Union put in place unusually tough sanctions and hawkish rhetoric on both sides heated up. A survey of nearly two dozen traders and analysts conduct- ed by the Rapidan Group found that a protract- ed conventional conflict between the United States and Iran that resulted in a three-week closure of shipping through the Strait of Hor- muz would lead to a $25 per barrel rise in oil prices, despite the use of strategic petroleum reserves.12 Were Tehran to acquire nuclear weap- ons, the risk premium would greatly exceed the $4–$15 per barrel (roughly 4–15 percent at current prices) already caused by a non-nuclear Iran.13 We expect a belligerent, nuclear-armed Iran would likely embed a risk premium of at least $20–30 per barrel and spikes of $30–100 per barrel in the event of actual conflict. Such price increases would be extremely harmful to economic growth and employment.
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Even if Iran’s leaders are less reckless and suicidal than their rhetoric would suggest, interna- tional politics, crises and miscalculation do not end when countries acquire nuclear weapons. Nuclear powers still challenge nuclear-armed adversaries. As the early decades of the Cold War remind us, nuclear-armed states do sometimes resort to nuclear brinkmanship that can lead to high-stakes nuclear standoffs. We were lucky to survive the Cold War without suffering a massive nuclear exchange; President Kennedy estimated that the probability of nuclear war in the Cuban Missile Crisis alone was as high as 50 percent.14
The reference to the early days of the Cold War is not merely decorative here. What made the Cuban Missile Crisis so dangerous is that nearly all of the conditions that helped us avoid nuclear war during the latter half of the Cold War are absent from the Iran-Israel-U.S. nuclear balance. Then, there were only two players, both with secure, second-strike capabilities and strategic depth; relatively long flight times for ballistic missiles between states, enabling all sides to eschew launch-on-warning postures; clear lines of communication between capitals; and more. In a high-stakes nuclear crisis with Iran and its adversaries, there is a real risk that things could spiral out of control and result in nuclear war.