Oil Prices and the Gulf War

If the Persian Gulf war ends, can an oil glut be far behind? Wishful-thinkers among oil traders would like to think not. Their first response to news that Iran had finally accepted a cease-fire with Iraq was to bid up oil prices by about $1 a barrel. Behind this optimism was the notion that peace in the gulf area could make it easier for the 13 members of the OPEC oil cartel to stick to rigid limits on production, thus firming up the floor under prices. Maybe. But what seems more likely is that as the conflict ends oil production by the combatants will rise, and that should send prices down.

Iraq has run up a war debt estimated at $60 billion to $80 billion, and its creditors expect to be repaid. Since it lost its only outlet to the Persian Gulf early in the war Iraq has added significantly to its pipeline capacity, some of which is only now about to be opened. Iraq has been sending as much oil to market as its transportation system permits. An armistice that once again let it ship oil through the gulf would be an incentive to further expand its output.

Iran has always fought within OPEC to maintain high prices by keeping production down, but its main priority now is holding its Islamic Revolution together. Among other things, that requires boosting the morale of war-weary Iranians, and the surest way to do that is by easing war-imposed austerity. That means increasing the supply of affordable imported consumer goods, something that takes hard currency and plenty of it. In addition, Iran has a lot of war damage to repair. Its need for capital will probably prompt a boost in its own oil sales.

The odds, then, seem to favor a growing surplus of oil if in fact peace comes to the Persian Gulf, and that should keep prices down. That’s good news for most of the world, since cheaper oil helps hold the price line on everything from gasoline to plastic toys, from farm produce to airline fares. But for a major oil consumer like the United States, cheaper oil is a mixed blessing. It is a plus to the extent that it keeps prices of a lot of goods from rising, but it is a clear minus to the extent that it encourages more oil demand. More than 40% of U.S. oil already comes from overseas--a dependence destined to rise as domestic production shrinks because of aging oil fields and declining investment in new energy sources.

The United States and the rest of the world have been pretty lucky these last eight years; the Persian Gulf war failed to produce the kind of supply shortages that it once seemed likely to do. When major oil supplies are threatened again by war or internal upheaval, the world may not be so lucky. That’s why the next President would be doing his country a favor if he started thinking now about what kind of energy conservation policy his Administration should be ready to adopt.