What made US allow India and others to continue buying crude from Iran?

modi putin trump What made US allow India and others to continue buying crude from Iran?

When the US sanctions on Iran decision came up on November 05th, there was a sense of trepidation in world markets. After all, if Iran was banned from the global oil market then India would lose out on an important source of cheap oil and also the world oil market would find itself in a deficit situation. It was this fear of a supply shortfall that had driven Brent crude prices up to $86/bbl in late October 2018. Why did the US suddenly decide to dilute the sanctions and exempt the key importers of oil like India, Japan, Korea and China plus 4 other nations from adhering to the sanctions? There were some key reasons for the same; but first a look at the oil price movement around the Iran sanctions decision.

Untitled What made US allow India and others to continue buying crude from Iran?

Chart Source: Bloomberg

As can be seen from the above chart, it became clear around October that the US would not insist on India, China and Japan (the biggest buyers of Iranian oil) adhering to the sanctions. That was when the fall in oil prices started. What led to Trump’s change of heart?

Resistance from India and China

While Japan and Korea had already started adhering to the proposed sanctions on Iran by reducing their imports from Iran, India and China has played hard ball with the US. China and Russia had refused to cut trade ties with Iran even after the sanctions. Trump realized that he was also gradually loosing goodwill among the EU nations and most of the Western European nations had already indicated that they would continue to import oil from Iran. India had agreed to reduce, although not entirely eliminate imports from Iran. Trump realized that he was already loosing goodwill with China on the trade war and his situation would have become more untenable if India and China had refused to adhere to the sanctions. That was the principal reason for the dilution of the sanctions.

There really was no alternate supply

For the last few years, Iran had been the swing producer. With a daily oil output of 4.5 million barrels and a daily contribution of 2.5 million barrels to the global oil market, there were no immediate alternatives. While Saudi Arabia and Russia had promised to fill up the gap, internal OPEC considerations would have made that impossible. As per the OPEC constitution, one member was not allowed to take advantage of another member’s sanctions. Saudi Arabia was worried that any such action would have endangered the very idea of OPEC. With OPEC loosing its commanding position in the oil market, a total dilution of OPEC was something that Saudi Arabia could not afford.

Fears of a global slowdown were growing

In the light of the trade war between the US and China, the IMF and the World Bank had predicted a 30-40 basis points fall in the growth of world GDP in 2019. Normally, oil demand is the most vulnerable to this kind of a slowdown. If oil demand slowed down and the prices had gone back to the 2016 levels, then all oil producers would have ended up in a loss. That is something none of the large oil producers could really afford. The problem with a global slowdown is that the slack takes much longer to revive and that may lead to a prolonged price correction in oil.

Too many defence orders at stake

For the US, sanctions were more of a quid pro quo to arm-twist its partners. But there was a problem. Countries like India, Saudi Arabia and Japan had committed billions of dollars in terms of arms purchase. If sanctions had caused oil losses to these countries, then these orders would have been in trouble. That is something the US can ill afford at this point of time. That was also a key consideration.

Finally, the US wanted to avoid a Suez moment

More than 6 decades ago, the UK had blundered by threatening war on Egypt for blocking the Suez Canal. That had led to US intervention and UK had ended up with loss of face. That also was the point when the US effectively became the superpower. Trump realizes that a delicate situation would have arisen if China and Russia had just ignored the sanctions and if India had followed suit. It was perhaps to avoid such a Suez moment that the sanctions on Iran were actually diluted.

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