Royal Dutch Shell Group .com Rotating Header Image Iran’s Threat to Cut Oil Flow in Nuclear Dispute May Backfire

EXTRACT: Energy companies, including The Hague-based Royal Dutch Shell Plc, Norway’s Statoil ASA and Japan’s Inpex Corp., already complain they are facing reduced profits in Iran as development is hampered by administrative delays, technical glitches, tough contract terms and Iran’s economic isolation.


Aug 2, 2006

Iran’s leaders, threatening to disrupt oil supplies in any confrontation with the U.S. and Europe over a suspected quest for a nuclear bomb, may be pointing a lethal weapon at themselves.

Cutting off the flow of crude would deprive Iran of about $5 billion a month — by far the main contributor to the country’s budget — at a time when President Mahmoud Ahmadinejad is on a spending spree to deliver on promises that brought him to power last year.

“In case of sanctions, whether self-imposed or imposed by the United Nations, the president’s prosperity program will collapse,” said Saeed Laylaz, a political analyst and a former economist at the Ministry of Industry and Mines in Tehran. “Our people are not ready to endure strong sanctions.”

A UN Security Council resolution passed on July 31 gives Iran a month to end its nuclear enrichment activity or face the threat of economic penalties. As the U.S., France, Britain and Germany have built support at the UN to challenge Iran, Iranian leaders have raised the specter of shaking the world oil market.

Supreme Leader Ayatollah Ali Khamenei, Iran’s top decision maker, said on June 4 that the U.S. could “seriously endanger energy flow in the region” by acting against Iran’s nuclear program. Two weeks later, Oil Minister Kazem Vaziri-Hameneh was more specific, saying Iran would use “all available means, including oil” if its “interests” came under attack.

Risk of Retaliation

Iran supplies China with 4 percent of its oil; France, 7 percent; Korea, 9 percent; Japan, 10 percent; Italy, 11 percent; Belgium, 14 percent; Turkey, 22 percent; and Greece, 24 percent, according to May data from the Eurasia Group, a New York-based political-risks consulting firm.

“A halt to oil exports, although a credible threat for a limited period of time, maybe a week, would rapidly fire back on its economy and people,” analyst Heinrich Matthee of London- based Control Risks Group said. “It’s definitely not the country’s first weapon of choice.”

Should Iran declare an oil embargo, the West could retaliate by cutting gasoline exports to Iran, which Matthee calls one of Iran’s “soft spots.”

Iran buys more than a third of its gasoline from other nations because it has failed to ease subsidies, cut waste and boost refining capacity. “Iran is rushing to try and limit its dependence on gasoline imports because it knows it makes it vulnerable,” Matthee said in an interview.

Gasoline Rationing

Earlier this year, Iran’s parliament cut the budget for gasoline imports by 40 percent to $2.5 billion in a bid to limit consumption. The plan, due to start in September, has already been postponed until March — officially because of delays with issuing ration cards, and unofficially because it is bound to create “popular discontent,” according to Control Risks.

Under the plan, Iranian drivers would be limited to as little as three liters (four-fifths of a gallon) a day, enough to drive only 11 miles (18 kilometers) with a Paykan car, a model owned by four in 10 Iranians.

Iran spent $25 billion on subsidies last year, or more than half the $44.6 billion it collected through crude oil exports. The government money means a liter of gasoline costs Iranian drivers 800 rials (9 U.S. cents), or 34 cents a gallon.


Ahmadinejad counts on surging oil prices — crude touched a record $78.40 a barrel on July 14 during fighting in Lebanon — to finance his social program. Iran’s oil revenue will rise 23 percent to $55 billion this year, Deputy Oil Minister Hadi Nejad- Hosseinian said in May.

Taking advantage of the windfall, Ahmadinejad asked parliament in January to approve a 27 percent increase in the state budget for 2006. He forced banks to lower lending rates and extended subsidies on basic commodities such as flour and rice.

The president also started the “Imam Reza Love Fund,” endowed with $1.3 billion, to help low-income Iranians get married and find houses and jobs.

Middle East history offers a cautionary lesson for Iran as it confronts the nuclear dispute, according to one analyst. When in 1973 the Arab members of the Organization of Petroleum Exporting Countries cut their supplies to supporters of Israel because of the Yom Kippur War, their market share fell to about 30 percent from 50 percent during the next 10 years, said Jean- Pierre Favennec, an economist at l’Institut Francais du Petrole in Paris.

‘Dangerous’ Game

“This game can be more dangerous for producing countries than for consuming ones,” because strategic reserves can be tapped to limit the effect of rising prices, Favennec said in an interview.

Hossein Kazempour Ardebili, Iran’s OPEC representative, said he had “no time” to comment on the odds of Iran using oil as a weapon in case of an escalation over its nuclear program. Abdol- Samad Taagol, planning manager at National Iranian Tanker Co., declined to comment on plans in case of UN sanctions.

An interview request with Nejad-Hosseinian, deputy oil minister for international affairs, has been pending since June 15.

The nuclear issue has already hit several parts of Iran’s economy. The Tehran Stock Exchange lost a quarter of its value last year, the biggest drop since the Islamic Revolution of the late 1970s and early 1980s. The slide has continued this year, with the main index dropping 12 percent through July 28.

Under the previous government of President Mohammad Khatami, the Tehran index climbed a record 116 percent in 2003. Khatami tried to open up the state-dominated economy while pushing for more investment from abroad.

Reduced Profits

Energy companies, including The Hague-based Royal Dutch Shell Plc, Norway’s Statoil ASA and Japan’s Inpex Corp., already complain they are facing reduced profits in Iran as development is hampered by administrative delays, technical glitches, tough contract terms and Iran’s economic isolation.

“Like the U.S., Iran says that all options are on the table” in the nuclear spat, “but nobody likes shooting himself in the foot,” said Siamak Namazi, managing director at Tehran- based Atieh Bahar Consulting, which advises foreign companies.

No major oil deal has been signed since August 2005, the month Ahmadinejad came to power, and the country has since been unable to compensate for the depletion of its older fields, erasing 400,000 barrels of oil production a day during the past 10 months, according to Bloomberg data.

Analysts including Kenneth Katzman, a Middle East specialist at the nonpartisan Congressional Research Service in Washington, have said Iran could cause havoc by threatening or attacking oil tankers or terminals in the Strait of Hormuz.

‘Reputation Damage’

About 17 million barrels a day of oil, or a fifth of the world’s consumption, flows from the Persian Gulf region through the passage between Iran and Oman.

Attacking tankers would inflict long-lasting “reputation damage while Iran is in the middle of a charm offensive to show its Arab neighbors the Islamic republic is a benevolent player,” Namazi said.

Ahmadinejad’s power in Iran ultimately may be tied to the nuclear issue.

“The president is gradually and deliberately isolating Iran from the rest of the world,” said Laylaz, who worked as a campaign adviser to former President Akbar Hashemi Rafsanjani last year, when he lost the run-off to Ahmadinejad. “That way, it makes it easier for him to control the country.”

To contact the reporter on this story:
Marc Wolfensberger in Tehran at [email protected]

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