Oil Flow and Global Economy: The Path to Recovery After Conflict

The provisional agreement aimed at ending the conflict in Iran and reopening the Strait of Hormuz offers positive insights for the global economy. Despite a drop in oil prices on Monday, many uncertainties linger about the timeline and methods for restoring the flow through this crucial channel for energy shipments. Before the conflict, the strait carried one-fifth of the world’s crude oil. Currently, it will require time for hundreds of ships trapped in the Persian Gulf to exit through the strait. Oil-producing countries that reduced output will also need time to resume operations.

Analysts highlight that ship captains may take their time assessing the safety of passage and ensuring that the threat from Iran has diminished. Overall, oil prices, inflation, and energy flows will not revert to pre-war levels quickly; this will take weeks or even months. This assumes the agreement, expected to be signed on Friday, proves sustainable.

Timeline for Recovery

Even if the strait fully reopens, entering ships, loading cargo, and traveling to Asian countries will take time. Asian countries are key clients of states like Saudi Arabia, Iraq, Bahrain, the UAE, Kuwait, and Oman. A round trip to Japan might take 45 to 50 days. Captains, insurers, and ship owners might be cautious about venturing through the strait due to the volatile situation.

“Operationally, the sector is not rushing back,” said Richard Meade, editor-in-chief at shipping data and analysis company Lloyd’s List. He noted that many warn that mine clearing and safe passage through internationally recognized transit lanes are prerequisites for safe navigation.

Ships have gradually been leaving through an Iranian-controlled verification lane in the north of the strait, while others have taken covert measures, navigating under the guidance of U.S. forces through a southern route along Oman’s coast. Iran had threatened attacks on vessels using internationally recognized transit lanes in the central part of the strait. Currently, around 500 commercial vessels remain in the Persian Gulf, according to maritime and energy intelligence firm Kpler; these cannot all exit at once.

Challenges with a Reopened Strait

The clarity over whether the U.S. and Iran agree on what constitutes an ‘open’ strait remains missing. Iran has demanded fees from ships using the strait and, in some cases, requested payments for ships to leave. Former President Trump claimed on a social platform that the deal intended an ‘open without toll’ situation, but Iran hasn’t confirmed this.

The period between announcing the agreement and its signing provides room for both parties to make conflicting statements about the deal, particularly regarding Iran’s management of traffic and fee demands, stated Torbjorn Soltvedt, lead analyst for the Middle East at risk intelligence company Verisk Maplecroft.

Navigation, Liability, and International Law

Paying tolls poses dilemmas for shipowners, given the U.S. and EU’s designation of Iran’s Revolutionary Guard as a terrorist organization and U.S. sanctions on the entity managing the tolls. Absent changes in these sanctions, payment exposes shipping companies and banks to sanctions. Legal experts argue that allowing Iran control of the passage would infringe on international law about navigation rights as outlined in the United Nations Convention on the Law of the Sea, which mandates countries to allow peaceful passage through territorial waters.

Restarting Oil Production

Middle Eastern oil producers halted oil extraction from the ground when storage space ran out. Getting these operations back up can be slow. Nations like Saudi Arabia and the UAE, which managed some exports via pipelines or alternative routes, could restart production more swiftly, noted Alan Gelder, Senior Vice President of Refining, Chemicals, and Oil Markets at analysis firm Wood Mackenzie. Iraq, which hasn’t exported oil for longer spells and has more complex fields, may take up to a year to resume production, expressed Gelder.

Claudio Galimberti, Chief Economist at Rystad Energy, highlighted in an email comment that “the mood has clearly improved. But mood is not supply.” He added that increasing production, normalizing logistics, and lowering risk premiums built into crude prices will take time.

Producers will not restart until they’re confident the strait is durably open and a ceasefire will last over 30 or 60 days, remarked Daniel Sternoff, Senior Researcher at the Center on Global Energy Policy at Columbia University. Economists from Capital Economics project energy flows might reach 80% of pre-war levels by September.

Inflation Concerns

Reopening the strait won’t instantly reduce inflation, economists say. Inflation will “remain above desired targets in most major economies for the rest of this year and the first half of next, even as growth stays relatively weak,” predicted Neil Shearing, Economist at Capital Economics.

He warned that inflation might even increase when government measures easing the energy shock expire. In a speech Monday, Joachim Nagel, President of Germany’s Bundesbank, cited the temporary reduction of fuel taxes in Germany by 17 euro cents per liter, in effect until June 30, as one such measure. “It will take months for oil supplies to return to normal,” Nagel stated.