TOKYO () - "If necessary, Iran will use any weapon to defend itself," Minister of Petroleum Kazem Vaziri-Hamaneh was quoted as saying by the Fars news agency. He was responding to the United Nations imposition of sanctions in December 2006 that restricts the transfer of nuclear materials or technology to Iran.
Quoting the minister of petroleum, the semi-official news agency was transmitting to the world an implied threat that oil was to be employed as a weapon of mass economic disruption; and that requires us to ask a question. Could Iran cause the economic dislocation that they want the world to believe is possible?
Iran is the fourth largest producer in the world and the second largest in OPEC. Their position near the top of the list still places them substantially below the top three, which are Saudi Arabia, Russia and the U.S. Out of the 85 million barrels pumped per day in the world, Iran contributes 3.7 million barrels, of which 2.6 million are exported.
As crude prices began dropping from the July high of $78.40, the Organization of Petroleum Exporting Countries (OPEC) reduced shipments to bring inventories in line with production and to keep the price from collapsing. If Iran carried out the threat, OPEC could revert to the October quotas and replace all but one million barrels. In order to fill the short fall, production by some of the OPEC and other producers would have to be raised.
It would mean a tight market for a while, until increasing shipments from Angola and other new sources add their contribution to the global inventory. Meanwhile, we likely would see higher prices. As long as no other disruptions occur, the global economy can survive without Iranian oil.
The real victim that could not survive such an event is Iran. The fourth largest exporter is the second largest importer of refined oil products. A third of needed refined products are imported and vulnerable to an embargo in an economic conflict.
Just as important as the refined petroleum products is the revenue. About 80% of foreign exchange and two thirds of the income for the national treasury come from the sale of the 2.6 million barrels per day (bpd). Of the $45 billion that Iran earned through exports, twenty-five billion was spent to support a broad welfare system.
The public is addicted to the welfare payments and the subsidized prices of essential commodities. When crude prices rose in 2004, the government fixed prices of gasoline at 2003 levels. While the rest of the world was struggling with higher prices, Iranian drivers were filling their tanks with 35 cent per gallon gasoline. Their consumption increased in a year by 10%.
The same higher cost of oil that prompted the Mohammad Khatami government to roll back gasoline prices contributed to a resurgence of nationalism. For the first time since the end of the devastating war with Iraq, Iranians recovered their revolutionary self-confidence. Their hated enemy, Saddam Hussein, had been defeated; the U.S. that dominated the region was floundering in the Iraqi quicksand; and the world was willing to pay any price for the oil that was the foundation of the economy.
The Iranian election of mid 2005 was held in this atmosphere. About 70% of the population was too young to have experienced the revolutionary spirit that had pulled down the previous regime. What they did know was that something had gone very wrong with the experiment; and it was time for a change.
Akbar Hashemi Rafsanjani, who had been president from 1989 to 1997, was the poster politician of the moderates and liberals, but he came with a tainted reputation. Among the more conservative elements, he represented everything that had gone wrong with the revolution. From outside of the circle of power, the public saw Rafsanjani and the other members of the elite as corrupt. They had enriched themselves and had betrayed the revolution.
The candidate of the conservatives was Mahmoud Ahmadinejad, the mayor of Tehran. He had none of the suspect elitist credentials of his opponent. In fact, few people had ever heard of him. His only qualification for the presidency was the support of the conservative clergy, especially the unelected Supreme Leader, Ayatollah Ali Khamenei.
He campaigned on the populist platform of political reform and sharing the benefits from the export of oil. It was the Iranian version of "a chicken in every pot;" and the voters liked what they heard.
After his victory in June of 2005, he shared the wealth; and he had far more to share than his predecessor. Between 2004 and 2005, oil revenue climbed from $32-$45 billion. Ahmadinejad raised government spending by 21%. The central bank was pressured against the advice of economists to reduce interest rates and to loosen credit. As proof of his nationalist credentials, he limited severely the profit margins of foreign oil companies.
About $50 billion rushed out of the country, most foreign companies suspended negotiations for projects, and inflation rose. More than a year and a half after Ahmadinejad took office, the unemployment rate remained at 12%, inflation was officially at 16% and likely doubles that, and 6% of the population was still living below the poverty level, which is calculated at two dollars per day.
The general discontent with his performance was expressed during the December 2006 election. Many of his supporters were defeated, and followers of Rafsanjani won a large percentage of the municipal offices and seats on the Council of Experts. Even Rafsanjani with his tainted reputation won a seat on the Council that oversees the Supreme Leader.
Before Ahmadinejad returned from a visit to Latin America in January, the political atmosphere in Iran had shifted abruptly. Khamenei abandoned him and unleashed a chorus of criticism. The parliament began impeachment proceedings against four of Ahmadinejad's ministers for incompetence and is moving to impeach the president.
The Supreme Leader charged him with endangering the very survival of the Islamic Republic. Ayatollah Ali Khamenei accused the president of stirring up international conflict by turning the nuclear issue into his personal cause that could result in war or severe sanctions.
"In case of sanctions, whether self-imposed or imposed by the United Nations, the president's prosperity program will collapse. Our people are not ready to endure strong sanctions," said Saeed Laylaz, a political analyst and a former economist at the Ministry of Industry and Mines in Tehran, as reported by Bloomberg.
Whether Mahmoud Ahmadinejad stays in office or is removed, the problems that plague the society will remain. Firstly, gasoline consumption must be reduced through rationing or higher prices. When it does happen, the government is certain to face a severe reaction from the general public. Similar potentially violent reactions can be expected if subsidies or payments are reduced.
The long-term solution is to diversify the economy and to construct additional refining facilities, but it has been the failure of the government to invest in the petroleum industry that is at the core of economic stagnation. Over the thirty years of the Islamic Republic, oil production has declined from 6.1 million bpd to the current 3.7 million bpd.
According to a study by Roger Stern of the Department of Geography and Environmental Engineering at John Hopkins's University, the production will fall by half again in five years.
Only through a massive infusion of capital will the process be reversed, but the Iranian constitution poses an obstacle to development by prohibiting foreign ownership of natural resources or production sharing. At best, foreign investors can arrange buy-back agreements with fixed rates of return. The system discourages foreign investment; and the Iranians lack the domestic capital or technology to develop the resource without foreign assistance.
Nuclear energy is one way that Iran can redirect natural gas and oil away from domestic use to the export market, but nuclear energy is a distant possibility. Iran is running out of time. At its current rate of decline, it will cease to be in a few years any part of the petroleum pool in the world. Then, their threats will be even more meaningless, and the very survival of the present political system will be in doubt.
Felix Imonti is the Director of Investment Strategy for the privately held investment corporation, Early Continental SA. E-mail: firstname.lastname@example.org.