The tension between Russia and Ukraine is pushing oil prices to record highs over fears of supply outages and prompting countries dependent on Russian oil to look for alternative supply sources, the most likely being Iran.
The growing prospect of Iran’s return to the market is seen as the most immediate alternative source, and the global oil market has already started pricing in such a possibility.
Experts believe that if US sanctions on Iranian oil exports are removed and Iran starts pumping crude to the strained market, it may stabilize the highly volatile and fragile oil prices.
New sanctions imposed by Western countries against Russia, as well as possible counter-sanctions by Russia, both of which are heightening concerns of supply disruptions in an already stretched market, drove the Brent oil price in early March up to $120 a barrel.
Russia, as the world's third-largest oil producer and one of the largest oil exporters, plays a pivotal role in global energy markets.
However, the supply crunch in global markets has actually begun long before concerns from the geopolitical risks in Eastern Europe.
- Markets in grip of supply contraction since last year
Oil-producing countries, which had to cut supplies in the early days of the pandemic in 2020, had difficulties in restarting production at the same pace in 2021 when demand was on the rise and supplies were depleting due to insufficient investments and technical problems.
Undersupplied oil markets are now faced with supply concerns instead of demand concerns.
When the Organization of Petroleum Exporting Countries (OPEC) and its allies, known as OPEC+, insistently refused to increase production, the barrel price of Brent crude, which decreased down to $16 in 2020 due to weakening demand, shot up to $87 in 2021 over depleting global supply.
- Barrels from Iran may reduce the supply-demand gap significantly if not completely
In the current market, where the contraction in supply is getting deeper and oil prices are at record levels, major oil-importing countries, mostly in the West, are desperate to find alternative crude oil sources in the face of the unresponsiveness of the OPEC+ group.
The proposal of the International Energy Agency (IEA) for EU countries to use alternative fuels, including oil, for natural gas-fired power plants to reduce dependence on Russian gas, may further narrow the supply-demand gap and accelerate the search for alternatives.
Iran is now widely seen as the best alternative to change the supply-demand balance to the extent that Iranian barrels are expected to significantly reduce the supply-demand gap this year, if not completely, should OPEC+ producers refuse to ramp up production.
Positive developments on the complete resumption of the Iran nuclear deal in the talks in Vienna are strengthening expectations that approximately 1 million barrels per day (bpd) of Iranian oil will return to the market by the end of the year.
To further cement a positive outcome in the talks that are nearing completion, International Atomic Energy Agency President Rafael Mariano Grossi will visit Iran on Saturday.
- Return of Iranian oil has greater impact than OPEC+, US production rise
The return of Iranian barrels to the market is anticipated to intensify competition within the OPEC+ group. However, the latest data reveals that the OPEC+ group will not be able to produce fast enough to cover the supply gap that will occur if Russian oil exports face sanctions.
Due to technical issues and other capacity constraints, the OPEC+ alliance has been only able to pump 280,000 barrels per day (bpd), relative to the planned increase of 400,000 bpd in January, according to the IEA.
The group’s loss reached around 800,000 bpd since the start of 2021 and its production capacity is currently around 900,000 barrels behind monthly output targets.
The OPEC+ group currently has 5.1 million bpd of spare capacity, excluding shut-in Iranian crude, but in an emergency, only 2.2 million bpd of physical crude oil from Saudi Arabia and the United Arab Emirates would be made available.
The world's largest oil producer, the US, has still not reached pre-pandemic production levels. Having an average production level of 12.3 million bpd in 2019, production in the country only reached 11.2 million bpd last year, and this year production is expected to reach 12 million bpd.
In the meantime, the International Energy Agency (IEA) member countries agreed Tuesday to release 60 million barrels of oil from storage to provide some market relief in the event of supply shortages. However, experts say the move may offer only temporary market relief and would limit price upticks only in the short term.
Based on these market dynamics, the impact of Iranian oil on global oil markets is considered stronger than a production increase from Saudi Arabia or the US.
- Iranian oil countdown for return to market
Iran, once known as one of the largest OPEC producers, was only able to pump 2.4 million bpd of crude oil last year, which dropped its ranking to the fifth-biggest worldwide. And of this output, almost all was consumed domestically and not exported due to sanctions.
According to IEA, Iranian crude production in January held steady at 2.5 million bpd, with oil exports hovering around 800,000 bpd.
However, Tehran has been steadily preparing its oil network, allowing it to ramp up relatively quickly once sanctions are lifted. By the end of this year, crude production could rise towards sustainable capacity of 3.8 million bpd, up roughly 1.3 million bpd from current levels.
Iran has been increasing its oil storage in tankers in hopes of ramping up exports on reports that talks in Vienna were on the verge of concluding. The country holds about 80 million barrels of crude oil and condensate stored on tankers, and IEA said it will move to clear that stored amount as quickly as possible.
The Persian Gulf country needs several months to increase its production in fields that have been operating in low capacity for more than three years. However, the Iranian Oil Minister Jawad Owji told Iran's Energy News Agency (SHANA) on Thursday that his country is ready to increase oil production..
According to data from the Iranian oil ministry, the country had been producing 3.8 million bpd of crude oil and condensate and exporting 2.8 million bpd of oil before the US withdrawal from the nuclear deal in 2018.
During this time, Iran faced difficulties in selling its oil and had to reduce its production by less than 2 million bpd. The country’s crude exports also fell below 500,000 bpd.
By Sibel Morrow and Firdevs Yuksel