All eyes are on the scale and scope of Israel’s promised response to Iran’s large-scale missile barrage on Tuesday. Few eyes are watching more warily than those in the oil market, which is getting unsettling hints that Iran’s oil industry, if not Iran’s nuclear facilities, could be on the target list for Israeli reprisals.
U.S. President Joe Biden fueled that speculation on Thursday, when he answered a question about Israel’s plans to potentially attack Iran’s oil facilities by saying, “We’re discussing that.” He seemed dismissive of the idea, but he didn’t outright reject it the way he had the day before regarding a strike on Iran’s nuclear installations.
All eyes are on the scale and scope of Israel’s promised response to Iran’s large-scale missile barrage on Tuesday. Few eyes are watching more warily than those in the oil market, which is getting unsettling hints that Iran’s oil industry, if not Iran’s nuclear facilities, could be on the target list for Israeli reprisals.
U.S. President Joe Biden fueled that speculation on Thursday, when he answered a question about Israel’s plans to potentially attack Iran’s oil facilities by saying, “We’re discussing that.” He seemed dismissive of the idea, but he didn’t outright reject it the way he had the day before regarding a strike on Iran’s nuclear installations.
Within minutes of Biden’s comments on Thursday, oil prices shot up. Brent crude, the global benchmark, soared to nearly $78 a barrel, up more than 5 percent for the day, after largely shrugging off the kind of intensifying war in the Middle East that used to give oil traders the tremors.
Ever since Hamas launched a massive attack on Israel on Oct. 7, 2023, unleashing what would become a two-front campaign of missile strikes and ground incursions, energy markets have been the dog that didn’t bark. Months of open and intense combat between Israel and Hamas in Gaza, and more recently between Israel and Hezbollah in Lebanon, as well as a pair of direct confrontations between Israel and Iran, have left oil markets entirely nonplussed: Crude remains cheaper than it was one year (or even two years) ago. And that insouciance continued despite a relentless campaign by Iran-backed Houthi militants in Yemen, who have all but closed the Red Sea to commercial shipping and even attacked several oil tankers.
Much of that can be explained by the fact that the oil market is well-supplied: OPEC+, the cartel of big oil-producing countries including Russia, has worked to cap its own production to keep prices from falling even lower thanks to lackluster global demand for crude. That frothy market also explains much of the lassitude oil markets have shown even amid a widening war in recent days.
“The geopolitical risk premium for oil isn’t dead, but it is dormant. A year of conflict hasn’t really taken barrels off the market yet,” said Matthew Reed, vice president of Foreign Reports, a consulting firm focused on the Middle East. “Combine countless false alarms and a slack market, and you get complacency.”
But that may be about to change. An Israeli attack on Iranian oil facilities could mean different things. The ultimate impact will depend on what, if anything, Israel strikes; what reprisals, if any, Iran conducts; and how other big global oil producers respond to the likely shock.
“If there is an intent to include energy infrastructure in a strike package, one of the things to be weighed are options that would primarily impact the domestic Iranian market, versus certain options like oil-export terminals, which could have much more impact on the global market, and much wider ramifications,” said Richard Bronze, co-founder and head of geopolitics at Energy Aspects, a research consultancy based in London.
For instance, an all-out strike on Kharg Island, the epicenter of Iran’s oil-export trade, would poleax Iran’s ability to earn much-needed revenue from the bulk of its 1.7 million barrels a day in oil exports, but at the cost of spiking oil (and gasoline) prices for everybody else, including Americans just weeks away from a pivotal election. More targeted Israeli strikes on refinery complexes that produce gasoline for the Iranian domestic market would hurt Tehran in the short term, but they wouldn’t have the same blowback effect on global markets.
An attack on Kharg Island would, at least in the near term, likely curtail Iran’s ability to export most of its crude production, though Iran has the ability to ship by pipeline some crude to alternate oil-export terminals on the Sea of Oman. (Iran is reportedly already getting its tankers far away from Kharg.) Iran isn’t a normal oil exporter—it remains under Western sanctions—and most of its crude goes to China, but any missing barrels would still be felt by the market. ClearView Energy Partners, an energy research consultancy, estimated that such a strike could send crude prices into the mid-$80s per barrel.
A less ambitious Israeli strike could target Iran’s domestic refining complexes, such as the modernized facility at Abadan, the oldest refinery in the Middle East. The target there would be refined products like gasoline, whose loss would be felt more by the Iranian public—already bracing for Carter-era cosplays with long gas lines—than by Western or Asian oil-consuming nations.
The second big question is what, if anything, Tehran would do in response to a direct attack on either its financial lifeline or its domestic stability. There are several potentially vulnerable oil facilities in the region that Iran could strike in turn, though there are few viable energy-sector targets in Israel itself. Oil installations in Saudi Arabia and the Gulf states could be a target for Iranian attacks—the massive Saudi oil-processing facility at Abqaiq got whacked in 2019 by either Houthi drones or Iranian missiles—which could exacerbate the impact of any oil-price shock at the cost of widening an already metastasizing war.
“There is a lot of important energy infrastructure across the region, and it is very hard to defend it against asymmetric attacks—you don’t have the kind of Israeli multilayered air-defense net right across the region,” Bronze said.
For Iran, as has been true for decades, the most desperate option would be to try to close the vital Strait of Hormuz, the watery chokepoint at the bottom of the Persian Gulf that is the conduit for one out of every four barrels of crude shipped in tankers. That is how Iran, Iraq, Kuwait, and Saudi Arabia get much of their oil to market, and its closure would be potentially devastating. ClearView estimated a prolonged closure of Hormuz, by mines or missiles, could send prices to near $100 a barrel.
Iran has threatened to close Hormuz so often for so long that its threats, even recent ones, are often discounted.
“Shutting the strait—or attempting to—is the nuclear option. It would be suicidal. It would be tantamount to a declaration of war on the global economy, on its neighbors, and on friends including China, which buys most of Iran’s oil,” Reed said.
But two things might be different now. First, if Israel were to destroy Iran’s own export capacity, a closure of the strait would be less self-defeating and less of a desperate move than it would have been in the past. Second, the Houthis have shown how even a ragtag band of militants can shut down a vital shipping lane with relatively unsophisticated equipment; Iran’s missiles, drones, mines, and ships would potentially present an even bigger threat to a waterway that doesn’t have an alternative outlet, as the Red Sea and Suez Canal do.
Of course, Iran and its oil industry don’t exist in a vacuum, especially in an oil market that is fundamentally well-supplied. On paper, big producers such as Saudi Arabia have plenty of spare oil-production capacity that they could call on to better any shortfall of Iranian barrels and keep prices from hyperventilating.
In practice, even most barrels from Saudi Arabia would have to go through the Strait of Hormuz, and the country is not eager to get into the middle of a dispute between Israel and Iran after making peace with Iran last year. And especially after spending the past year working to keep the market as tight as possible to prop up oil prices, big producers such as Saudi Arabia would likely be leery of moving too quickly to plug any potential holes in the market. Spare capacity would only be used to balance the oil market once it got well and truly unbalanced—which means there could be a bumpy ride in the meanwhile.
“There is quite a lot of spare capacity on the sidelines, but it’s not a question of how much or how quick, but what are the conditions in which the decision would be made to activate it,” Bronze said. “There is this view that spare capacity should be a response to a supply loss, rather than preemptive.”