The Paradox of Iran's Oil

Since the outbreak of the United States-Israel war against Iran, the Strait of Hormuz has been closed, right? Wrong. The strait has been closed to all traffic that Iran does not authorize. Iranian ships, plus any others for whom Iran has agreed to allow passage, have continued to pass through the otherwise closed strait. One important note is that it is not only Iran allowing this traffic, but the United States as well. The two warring enemies apparently agree that the limited number of ships traversing the strait should be allowed free travel.

Yesterday, the Iranian Foreign Minister Abbas Araghchi stated that, from Iran's perspective, the Strait of Hormuz is open. "It is only closed to our enemies," Araghchi claimed. This may be a question of interpretation given that the vast majority of the Gulf's normal shipping is not being allowed through the strait. Moreover, Iran appears to be operating in a mode that cult leader, convicted felon, and failed President Donald Trump can surely respect. Iran is not allowing passage solely on the basis of friendship, but rather in exchange for concessions, often political support.

Martin Kelly, the Head of Advisory at the EOS Risk Group, confirmed yesterday that four vessels had transited outbound from the Persian Gulf via the Strait of Hormuz. Three of the ships were bulk carriers, two headed to Greece and one to India. The fourth was a tanker bound for Pakistan. Kelly also noted that the vessels had avoided the main channel and, instead, diverted through the Larak-Qeshm Channel. Qeshm and Larak are two Iranian islands a short way off the coast of the mainland. There is speculation that Iran is requiring authorized ships to use this route so that it can maintain better control of the traffic. Moreover, if Iran mines the main passageway, this route might become the only safe path out of the Gulf.

An article on Rigzone.com, an online source of news about the oil and gas industry, also discussed the Larak-Qeshm route. The article noted that most of the current traffic through the Strait of Hormuz is Iranian, which makes up about "98 percent of observable flows". A report distributed by Natasha Kaneva, J.P. Morgan's head of global commodities strategy, was quoted as saying:

“In parallel, Iran appears to be allowing select vessels to transit the Strait following verification. Over the past 48 hours, at least four vessels have exited via Hormuz with a brief diversion through the Larak–Qeshm Channel,” the analysts added.

“This is not a standard route for vessels and could reflect a process designed to confirm vessel ownership and cargo, enabling passage for ships that are not affiliated to the U.S. or its allies,” they continued.

“In practice, this creates a system in which the Strait is not formally closed, yet transit increasingly depends on political understandings with Tehran,” the analysts went on to warn.

Last week, Reuters reported that two Indian-flagged liquified petroleum gas carriers had sailed through the Strait of Hormuz. There has been speculation concerning what Iran might have received in return for allowing these ships through the strait. It was reported that Iran has held discussions with India regarding the fate of three Iran-linked tankers that India seized in February. Therefore, it was thought that India had agreed to release the ships in exchange for free passage by its ships. However, yesterday India denied such a deal had been made. Even so, India has several additional ships stuck in the Gulf, so a deal may just be a question of time.

A number of other countries have apparently approached Iran as well to see whether they can restart shipments. The Financial Times reported last week that France and Italy held talks with Tehran in hope of securing safe passage through the Strait of Hormuz. The same article also reported that Iran allowed a Turkish-owned bulk carrier to exit the strait last Friday. Another report said that Iraq has been "in contact with Iran to persuade Tehran to allow some Iraqi oil tankers to pass through the Strait of Hormuz." Iraq's Oil Minister confirmed this, saying, "There is communication with Iran regarding allowing the passage of some Iraqi oil tankers."

Iran's own tankers have also passed through the strait, mostly headed to China. China purchases roughly 90 percent of Iran's oil exports. Bloomberg reports that on Sunday, an Iranian supertanker was spotted north of Hormuz with its destination listed as China. The article also noted that a "few more Iran-linked ships" had crossed the strait in the previous 24 hours. In fact, the Wall Street Journal reported last week that "Iran is exporting more oil through the Strait of Hormuz than before the war."

This shipping traffic, including the Iranian vessels, is leaving the Gulf with the knowledge and acquiescence of the United States. Yesterday, U.S. Treasury Secretary Scott Bessent appeared on CNBC where he talked about the traffic. Bessent said that "The Iranian ships have been getting out already, and we’ve let that happen to supply the rest of the world." Bessent suggested that the Iranian oil would contribute to lowering oil prices globally. "We want the world to be well supplied," Bessent said. But another reason is likely due to the fact that the oil going to China. Bessent spoke from Paris where he was for trade talks with China. Trump was supposed to meet with Chinese President Xi Jinping at the end of this month, but Trump has asked that the meeting be delayed for a month. In addition, Trump has suggested that China participate in escorting ships through the Strait of Hormuz, an idea to which China has not yet responded. Taken altogether, I think it is reasonable to conclude that Trump does not want a conflict with China over oil at this time.

The U.S. prevented Venezuelan oil from being exported and seized several so-called "shadow fleet" tankers. For weeks, the U.S. has been maintaining a blockade of Cuba, causing oil shortages in that country. But now the U.S. is turning a blind eye towards Iran's oil exports. This is even more surprising given reporting by the Wall Street Journal that many of the tankers carrying Iranian oil are part of the shadow fleet and sanctioned by the United States. There must be some surreal scenes in the Indian Ocean as sanctioned shadow fleet tankers carrying Iranian oil on their way to China pass by U.S. Navy ships busy attacking Iran.

Given that Bessent has confirmed an interest in allowing Iranian oil to continue to be exported and my own speculation that this was also aimed at keeping China happy, this policy might offer clues to future U.S. actions. Over the weekend, U.S. forces bombed Iran's Kharg Island. The island is used to export 90% of Iran's oil products. Trump was quick to offer assurances that none of the oil infrastructure had been attacked, though he left open the possibility that it might happen in the future. In addition, it was announced that a Marine Expeditionary Unit consisting of 2,500 Marines had been dispatched to the Persian Gulf region. There is considerable speculation that the Marines might be tasked with capturing and occupying Kharg Island. The aim of this operation would likely be to deprive Iran of the oil revenue gained from exports from the island. Moreover, Trump probably thinks that he can use control of the island as leverage with the Iranian leadership.

If the potential takeover of Kharg Island is viewed through the lens of Trump's thinking, along with Bessent's statements, some assumptions can be deduced. Trump probably has the contradictory goals of occupying the island while keeping the oil flowing. Trump has repeatedly mentioned the "Venezuela model" in which a portion of Venezuela's oil was given to Trump, who sells it and keeps the proceeds in a bank account in Qatar over which he has control. Therefore, we might speculate that Trump could seize control of Kharg Island and allow exports to continue with a certain amount being provided to him as well. The question is whether the Iranian regime would cooperate in such a thing. The Iranians could simply cut the flow of oil to Kharg and there would be nothing to export. The Iranians might be happy to see world oil prices shoot up while U.S. Marines sit on an island that has been rendered useless.

What the shipments through the Strait of Hormuz highlight is the mutual dependence created by Persian Gulf oil. Iran relies on oil for much-needed revenue. The world is now dependent on Iranian oil to prevent oil prices from increasing further. While most of the Gulf oil remains bottled up behind the strait, oil from Iran to China is flowing almost without interruption. Trump has somehow managed to start a war that primarily benefits China and Russia while U.S. taxpayers pick up the tab. Meanwhile, Trump cannot attack Iran's essential revenue stream without risking catastrophic increases in oil prices. This is just one more indication of how poorly thought-out this war has been.