Resolving Iran Oil-Price Risk

It hasn't been easy keeping up with all the recent developments related to Iran's nuclear program, which still looms as a large, unresolved risk embedded in the global price of oil--though you would never know it from the behavior of oil markets in the week since Iran's hidden nuclear enrichment site was revealed. It's not clear whether traders have concluded that the exposure of the Qom site strengthens the hand of the US, Britain, France and Germany sufficiently to make a diplomatic solution likelier--and conflict correspondingly less likely--or the impact of this story has been overwhelmed for the moment by weak market fundamentals. After all, this is merely the latest phase of a crisis that has been simmering for a number of years; a wait-and-see attitude looks prudent, particularly in light of the market's current capacity to adjust for the temporary loss of Iran's oil output, should that ensue. However, I believe that we are also approaching the point at which much of this uncertainty resolves, because fairly soon the US and its allies must choose either to act decisively to prevent Iran from acquiring nuclear arms, or relinquish those options and focus on containing the threat.

Our relative torpor on the subject of Iran's nuclear enrichment program and that country's ultimate nuclear ambitions has been jolted by a succession of events this month. First, President Obama announced his intention to abandon the development of land-based anti-ballistic-missile sites in Central Europe, the main purpose of which was to intercept Iranian ICBMs on their way to targets in Europe or the US, in favor of a sea-borne strategy focused on shorter-range missiles. Then came the announcement at the G-20 meeting in Pittsburgh that Iran was building a secret uranium enrichment site that could start operations as soon as next year, potentially capable of producing roughly one atomic bomb's worth of weapons-grade material a year. Neither the fact that the US and its allies have apparently known about the Qom site for several years nor the last-minute disclosure of the facility by Iran to the International Atomic Energy Agency seemed to dampen the shock effect of the announcement. After customarily glib excuses, the Iranian regime's next step was to test-fire short- and medium-range missiles. The US has demanded immediate inspections of the new facility, and the UN Security Council meets tomorrow to take up these matters.

So where does this leave us, other than with nerve-wracking reminders of the pre-war situation with Iraq? If we've been paying attention, the latest revelation shouldn't have come as much of a surprise. As I explained at length in 2005, the arguments that Iran's enrichment efforts were aimed at anything other than a nuclear weapons capability were always pretty weak. Stripping away the diplomatic language of the US and its allies and the lame obfuscations from Tehran, the uncovered Qom facility leaves scant room for doubt concerning the determination of the Iranian government to militarize its nuclear program. Whether or not it is also currently developing warheads that would use the uranium enriched at sites like the one at Qom, there is no other plausible reason for building a nuclear facility in secret under a military base. And common sense tells us that, as with mice, where there is one there are very likely others.

What I conclude from all this is that we are approaching a set of distinct decision points, after a long and intricate dance that probably served the interests of both parties. The passage of time has allowed Iran to make steady progress on enrichment and missile technology, but it has also opened up options for us. As I noted last fall, lower oil prices have created a window for a set of actions--truly crippling sanctions, a naval blockade, or air attack on the facilities in question--that would have been unthinkable when oil was marching steadily toward $100/bbl and beyond. That window will begin to close once the global economy resumes growing rapidly enough to erode the healthy cushion of spare global oil production capacity that now stands at 5.5 million barrels per day--a buffer that would also erode from the other direction if new oil projects fail to keep up with oil's intrinsic decline rates. In other words, if the situation isn't resolved one way or another within the next year or so, the strategy of containment of a nuclear-armed Iran in a new kind of Cold War could become the only viable option left to us.