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Iran-US conflict: more to come?

With the US’s killing of top Iranian general Qassem Soleimani, the risk of attacks on Mena oil infrastructure is likely to increase

The Gulf region is wondering if General Soleimani’s assassination and the subsequent Iranian missile attacks on US bases in Iraq is the end of a chapter—or just the start. Despite US president Donald Trump’s more conciliatory remarks on Wednesday, analysts still favour the pessimistic view. 

“Our base case is that Iran will continue to counter the US’ maximum pressure campaign on many fronts; one will be on oil and gas tankers and infrastructure, a second on the US presence in Iraq and a third which would be to go directly after US interests,” says Torbjorn Soltvedt, principal Mena analyst at Verisk Maplecroft. “What has happened with Soleimani lowers the threshold for Iran to engage in destructive activity in the region and beyond.” 

The move from US forces on Friday marked a dramatic shift in tensions between the two countries, spinning oil prices upwards by around 4pc, although Thursday has seen a substantial reduction of that risk premium following Trump’s speech. Iran waited until after the funeral of Soleimani to begin its retaliation, targeting US military bases in Iraq late on 7 January.  

“This is not going to be the end of the game, Iran demanded complete removal of the US military forces from Iraq and ultimately from the region,” says Sara Vakshouri, policy and security analyst at consultancy SVB Energy. “This means that the 7 January attack will not be the end of Iran’s retaliatory actions.” 

The attraction for the Islamic Republic towards international adventurism against the US will only grow

Unlike Iran-linked attacks in the summer of 2019 which focused on showing Iran’s capability in targeting strategic oil chokepoints—like alternative export routes close to the Strait of Hormuz—any upcoming Iranian mobilisation is increasingly likely to follow the pattern of September’s drone attack of Saudi oil processing facilities by causing material infrastructure damage and impact on physical oil flows, Soltvedt says.

Iran election uncertainty 

Iran is gearing up for parliamentary elections in February with its oil production at the lowest point in many decades, down from some 4mn bl/d to around 2mn bl/d today. Iran closed 2019 with oil exports at their lowest level in decades, averaging below 500,000 bl/d since May—when the US ended sanctions waivers—compared with a high of around 2.7mn bl/d in April 2018. This systemic change has greatly impacted the Iranian economy, with estimates of around $3bn per month in lost oil revenue, and the economy expected to contract by 10pc this year, according to Verisk Maplecroft. 

In the country’s last major poll, the 2017 presidential election, Hassan Rouhani won a majority, mobilising the young Iranian vote with his moderate political stance and the promise of a new nuclear deal which would open up the country. But voters will cast their ballots next month amid disillusion among younger Iranians and moderates—a political mood which has helped light the touch paper for deadly protests across the country, including in the oil-rich Khuzestan province. 

The serious socio-economic implications of the fall in oil revenues pose the risk of further civic unrest. Analysts warn Petroleum Economist that, if this domestic pressure continues to mount, the attraction for the Islamic Republic to dangle the distracting carrot of international adventurism against the US will only grow—with potential further upward impact on the oil price. 

Reformists isolated 

The stick has already been in evidence. Since protests against the government fuelled by a 50pc hike in domestic fuel costs began in November, a harsh crackdown on the protesters has resulted in over 180 estimated deaths. The uncompromising response demonstrates how hardliners are back at the forefront of government decisions.  

“The real reformist is more or less excluded from the political process, and Rouhani’s moderate camp has lost its political capital,” says Soltvedt. “Given how violent the crackdown was, it is quite a worrying development.” 

In 2017, voters were offered a fairly binary choice between hardline and moderate positions. But analysts say the picture is less clear this time round. In the past, protests in Iran have had a reform or traditionalist narrative, but the current wave of protests is different in that it seems to be united against the Iranian system as a whole. 

There are increasingly unpredictable fault lines around Iran’s presence in neighbouring Iraq

Thus, it is not clear that either camp will reap the benefit of the protestors’ grievances. “It is really hard to see what the obvious story of the election is going to be,” says Soltvedt. But, in the absence of a clear signal from this domestic unrest, on a foreign policy agenda “if anything, hardliners will be strengthened by the recent attacks”, he warns. 

On the moderate side, the May collapse of the nuclear deal means Rouhani has lost important political support with his previous voters. And, even though it will damage the, at least theoretically, more US-friendly Iranian political faction, there are scant signs of the US letting up, with Trump—who has, of course, electoral matters of his own on his mind— having repeatedly stated that his administration’s goal is to bring Iranian oil exports to zero. 

Economic gloom 

Despite this promise, Iran has forecast some 1mn bl/d of crude exports to balance its 2020 budget, around double current levels, says Mohammad Darwazah, Mena geopolitical analyst at institutional investors’ analysis firm Medley Global Advisors. In other words, Iran is banking on being able to continue and increase oil exports. Recent events make it nigh on impossible to contemplate how that scenario could play out through dialogue alone. 

“Our view is that between now and the 2020 US election, it is highly unlikely that a [diplomatic] breakthrough between Washington and Tehran will materialise,” Darwazah adds. “We expect further challenges to Tehran both at home and abroad in 2020.” Iran may then be tempted to pursue a potential game-changer through non-diplomatic means, although Darwazah also suggests Tehran could wait, though, opt to change its approach dependent on whether Trump wins or loses a second presidential term in November. 

In the meantime, oil markets will need to live with heightened geopolitical risks in the region. There are also increasingly unpredictable fault lines around Iran’s presence in neighbouring Iraq, as well as Iran-linked militia elsewhere in the region. 

“There could be a nuance to this game too,” says Vakshouri. “Since the destructive impact of the conflict escalation on the US allies in the Gulf is high, these countries might force the US not to retaliate and to descale the conflict.” 

In light of the US’s killing of Soleimani in Baghdad, Iraq’s parliament voted to expel the US military, a significant move from a country which has long been home to a power struggle between both the US and Iran. Iran and Iraq’s economies are closely linked, and Iraq imports significant amounts of gas and electricity from Iran; but the US has also been financially supporting Iraq in the rebuilding of its economy, supporting it against the Islamic State and offering incentives for the country to decrease its reliance on Iranian imports. 

“We are in uncharted territory, it is a bit more of the same but with even higher risks,” concludes Soltvedt.

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