Iran, OPEC, and the future price of oil

Brandeis economist Nader Habibi discusses the leading role of oil on the stage of Middle East politics.

Photo/Mike Lovett

Nader Habibi

The interim agreement reached on the Iranian nuclear program late last year was viewed widely as an important step in reducing Middle East tensions, but the deal also created a new set of challenges.

In exchange for Iran halting the development of key facets of its nuclear program, the five permanent members of the UN Security Council - the United States, China, France, Russia, and the United Kingdom - plus Germany (or the P5+1) have temporarily eased some economic sanctions on Iran, including a restriction on oil exports.

Nader Habibi, the Henry J. Leir Professor of the Economics of the Middle East in the Crown Center for Middle East Studies, says a significant increase of Iranian oil into the global market could turn up the heat on a number of issues simmering in the Middle East, especially between Iran and Saudi Arabia.

Habibi spoke with BrandeisNOW about the potential economic and political implications of Iran increasing its oil exports.

What impact did international economic sanctions have on Iran’s oil production and its economy?

Since the introduction of a new round of sanctions in 2011 that targeted its oil exports, Iran has been unable to find new customers for its oil, and existing buyers have been forced to reduce their purchases by 10 to 20 percent every six months. As a result, Iran’s daily oil exports declined from 2.5 million barrels per day in December 2011 to less than one million barrels per day by November 2013.

Iran’s declining oil exports sharply reduced government oil revenues and caused considerable economic hardship for its citizens. The revenue shortfall led to an exchange rate crisis in late 2012 and a sharp devaluation of Iran’s currency, the rial. Inflation and unemployment reached record high levels last year. This severe economic pressure finally convinced Iran’s government to make concessions on its nuclear program and to seek a solution to reduce tensions with the international community.

So the sanctions have been effective?

To the extent that economic sanctions led to the successful negotiation of an interim agreement they have been successful, but it is yet to be seen whether a final agreement can be reached before the six-month interim agreement ends in July.

How will reintroducing Iranian oil affect relations among OPEC members? How will it affect world oil prices?

In the past two years some OPEC producers, such as Iraq, have exported more crude oil as Iran’s exports were declining. If Iran reaches an agreement with the Western nations ending oil sanctions, it will demand that other OPEC members cut back their excess production to keep the overall production level of OPEC steady. Other OPEC members will likely resist this demand, making negotiations difficult.

If OPEC members cannot agree on a new set of production quotas and Iran manages to boost its output, OPEC’s total output will rise and exert downward pressure on oil prices. Keep in mind that Libya’s output suffered a setback in 2013 because of political instability and lack of security. Libya might also be able to overcome these obstacles and raise its output. Iraq’s production capacity is also rising and is likely to result in even more crude oil entering into the market.

How will Iran’s larger role in the oil market affect the political landscape in the Middle East?

Tension already exists between Iran and Saudi Arabia on several fronts. The two oil-exporting countries have been indirectly involved in Syria’s civil war, and they are also engaged in proxy wars in Lebanon and Iraq. Geopolitical competition between Iran and Saudi Arabia, the largest OPEC oil producer, is likely to intensify if they cannot reach an agreement over production quotas inside OPEC. Saudi Arabia is the only oil-producing country with spare production capacity of one to two million barrels per day, so it could threaten to start a price war by increasing its output.

How might the influx of Iranian oil in the global market impact the United States?

It depends on how other OPEC members respond to higher exports from Iran. The likely scenario is that total OPEC output will increase, starting in the last quarter of 2014, and continue during the next two years, coinciding with a continuous increase in oil production from non-OPEC countries, including the U.S.

Additional oil output by OPEC, the U.S. and other producers will help moderate oil prices and benefit consumers. However, lower-priced oil will reduce the potential economic benefit for U.S. oil-producing regions. American oil firms are lobbying the U.S. government to lift the ban on crude oil exports in effect since the 1970s, to take advantage of currently high oil prices in in the international market.