Event

The recent attacks on two Saudi Arabian oil facilities are evidence of how tensions in the Gulf are running high. The attacks led to a halving of oil production on Monday, that is, a reduction of 5 million barrels a day. As this represents grossly 5% of the total daily worldwide production, it resulted in an immediate jump in oil prices. The US and Saudi Arabia say the attacks were orchestrated by Iran, as the country backs the Houthi rebels in Yemen, who claimed responsibility for the attacks.

Impact

Tensions in the Gulf region have been running high for some time, as geopolitical hostility between Iran, on the one hand, and the US, Saudi Arabia and the United Arab Emirates (UAE), on the other hand, has been increasing. The US implemented an unprecedented sanction regime against Iran ever since it withdrew from the nuclear agreement in May 2018. According to the US, Iran has heightened the tensions in the region through its proxies. The US suspects them of being responsible for a number of small-scale rocket attacks in Iraq in May and for the attacks on ships off the coast of the UAE in May and June. The US also believes Iran engineered the attacks on Saudi Arabian oil facilities and an airport carried out by Houthi rebels during the same period. However, the latest attacks on the Saudi Arabian oil facilities are of unprecedented scale and the US or Saudi Arabia is likely to retaliate in some way. While the implementation of further economic sanctions by the US against Iran and redoubled efforts of Saudi Arabia to defeat the Houthi rebels in Yemen are the most probable options, the attacks have significantly increased the risk of tit-for-tat responses in the region.

For Saudi Arabia, the main problem is that the attacks affect the risk perception of doing business in the country. When ships were attacked off the coast of the UAE, the authorities were aware of this and their public response was very limited as they did not want to spark investor uncertainty in the region. Saudi Arabia will try to limit the impact on investor uncertainty too, as the country is striving to attract foreign investments in the framework of the Saudi Vision 2030 plan and as investments have been insufficient since 2017. Still, given the size of the attacks, some response is inevitable.

To cushion the expected impact of the attacks on world oil prices, Saudi Arabia would have to do two things. First, it would need to be able to provide the market with additional supplies and to quickly resume production. In this regard, it was not long before it planned to use stockpiles to replace some of the foregone production. Other countries, such as the US, also stated that they could use emergency stockpiles to replace the lost production in case Saudi Arabia was not able to quickly repair the damage inflicted. Second, Saudi Arabia would need to convince the markets that future occurrences of such attacks are unlikely; otherwise markets will continue to place a risk premium on the oil prices given the higher uncertainty. On this point, the country is less likely to be successful. Therefore, chances are that the attacks will lead to higher oil prices for some time to come. Nevertheless, the rise in oil prices should be put in perspective as it has only brought prices up to the level of last May because oil prices have been subdued since then.

Analyst: Jan-Pieter Laleman – jp.laleman@credendo.com