U.S. Secretary of State John Kerry landed in Geneva on Friday to begin negotiations with Iran over its nuclear weapons program. The hope is that the West will reach a deal that eases the economic sanctions imposed on Iran in exchange for some sort of freeze on its enrichment of uranium. Although Kerry was careful to temper expectations as he headed into meetings with his counterparts from Britain, France, and Germany, there is sudden optimism that a deal is in the offing.
Lost in some of the forecasting over what an agreement may eventually entail is the simple fact that none of this would be possible without the U.S. oil boom. Over the last two years, the U.S. has increased its crude production by about 2 million barrels a day. That’s like swallowing Norway, the fourteenth largest oil producer in the world. This new U.S. crude supply has allowed the West to put the squeeze on Iran without disrupting the global market or jacking up the price.
According to a recent report from the Congressional Research Service (pdf), Iran’s oil exports have been cut in half since 2011, from 2.5 million barrels per day to a bit more than 1 million today. As a result, Iran has had to halt an equal amount of production.
The fact that this has all happened without the slightest disruption felt in the oil market is extraordinary.
“I think it’s pretty clear that without the U.S. shale revolution, it never would have been possible to put this kind of embargo on Iran,” says Julius Walker, a global energy market strategist with UBS Securities (UBS). “Without U.S. production gains, I think we’d be looking at $150 a barrel,” says Walker. Instead, international prices have hovered around $110, and are less than $100 in the U.S.
Oil exports typically fund roughly half of Iran’s government spending, so shutting them out from most of the world has been devastating. Although it’s hard to get clear data out of Iran, there is plenty of evidence that the pain has been severe. Inflation in Iran is thought to be running around 50 percent, and unemployment is around 20 percent. While the rest of the world is coming out of recession, the sanctions have pushed Iran back into one. Its economy shrank in 2012 and is expected to shrink again in 2013.
Most of the oil that Iran has been able to sell to other countries is going to Asia. The four big buyers have been China, Japan, India, and South Korea. Turkey has also been buying some. While some of that crude may be finding its way illicitly to other buyers, through some kind of ship transfers and relabeling schemes, most oil analysts think that’s probably not happening in a big way.
According to data from Bloomberg, the combined carrying capacity of oil tankers leaving Iranian ports last month dropped 22 percent from September. “They’re having a very hard time finding buyers,” says Walker. Those buyers that remain are able to drive a hard bargain and secure Iranian oil for prices below the market. “There’s certainly some discounting that’s going on,” says Frank Verrastro, a senior vice president for energy and geopolitics at the Center for Strategic & International Studies.
If a deal gets done, the trick will be to ease Iranian oil back onto the broader market without disrupting prices. Along with the U.S. production gain, the other key to the puzzle has been persuading the Saudis to pump an extra 1 million barrels of oil per day, going from 9 million to 10 million. Turning the Iranian oil tap back on will have to coincide with the Saudis ramping back down. That will require coordination. If not managed properly, flooding the market with Iranian crude would push prices lower, which, as Verrastro points out, could carry its own negative consequences by suddenly making fracked oil in the U.S. unprofitable.