More poverty, less travel and fewer jobs: what the world would be like with oil at $200

“The war in Iran is the greatest threat to energy security in history,” warned Fatih Birol, president of the International Energy Agency (IEA), last week. “An Armageddon,” was the word heard among Wall Street analysts, according to the Financial Times. “Apocalypse” and “nightmare,” according to The New York Times.

With oil trading around $120 a barrel and natural gas above $60 per megawatt, economists are hoping for a de-escalation in the Middle East. “Prepare for the price of oil to reach $200 a barrel,” warned Ebrahim Zolfaqari, spokesman for Iranian militias, a week ago. “We will not allow a single liter of oil to reach the United States, the Zionists, or their allies. Any ship heading for them will be a legitimate target,” he added. What seemed like bravado is now closer to becoming reality.

Scott Modell, CEO of Rapidan Energy, an energy sector consultancy, warns: “We could see oil prices reach $200 a barrel if the fighting continues for another month and Iran continues to use the same tools at its disposal, such as rockets, missiles, drones, and even mines, to attack some of the region’s most important oil facilities. This is a very likely scenario that should not be ruled out.”

The Iran war has awakened the specter of an energy crisis like the one experienced in the 1970s, when the embargo by several Persian Gulf countries against the United States and other countries that supported Israel in the Yom Kippur War caused the greatest disruption known to date in energy markets and a deep economic crisis, which is studied today in history books.

The U.S. and Israeli airstrikes on Iran since February 28 have triggered panic in financial markets. Tehran’s retaliatory blockade of the Strait of Hormuz has convulsed energy markets and fueled a surge in oil and natural gas prices. The situation worsened this week with attacks on critical infrastructure. Israel bombed the world’s largest gas field in Pars South, Iran, and in retaliation, the Tehran regime attacked targets in Saudi Arabia, Kuwait, and Qatar, most notably the Ras Laffan refinery in Qatar, the world’s largest liquefied natural gas refinery.

The escalating war has inflated energy prices. Oil is trading above $110 a barrel, 70% higher than a month ago; and natural gas has become even more expensive, almost 100% since the start of the bombing, reaching $60 per megawatt.

Experts no longer rule out the possibility that the price surge could push Brent crude, the main benchmark in Europe, to $200 a barrel, shattering all records. The highest price for a barrel of oil this century was reached in early July 2008, when it traded at $146.08. Analysts at Wood Mackenzie assert that the price of Brent crude could soon reach $150 a barrel, and that $200 is not an unreasonable possibility by 2026. Qatar’s Energy Minister warned last week that oil could climb to $150 a barrel if the conflict persisted.

Pessimism is also widespread in Saudi Arabia. Although high prices benefit them in the short term, because they are major producers and their economies are based on oil and natural gas, in the medium term it could be disastrous for their interests.

In the hypothetical scenario where oil exceeds $150 a barrel or even reaches $200, the economy would enter a recession, triggering an inflationary crisis that would severely impact citizens’ finances and businesses’ bottom lines. The world would become poorer, and economic activity would grind to a halt until the situation recovered. Under these assumptions, this is how the economy would react.

The International Monetary Fund, the Washington-based multilateral organization, estimates that every 10% increase in oil prices, sustained for a year, would correspond to a 0.4% increase in global inflation and a 0.15% reduction in economic growth. According to these calculations, if crude oil were to remain at $150, the world would experience a relapse into inflation, with prices rising by around 6% and the global economy slipping into recession. The outlook would worsen with even higher prices for oil.

“Rarely in history has a global recession occurred that wasn’t preceded by a surge in oil prices,” recalls Modell, a former CIA agent with extensive knowledge of Iran and the Persian Gulf region. “Oil price surges are always present at the scene of the crime, so to speak, when recessions occur,” he adds. He concludes: “There is no way that oil prices can remain at $150 a barrel for an extended period without posing a serious risk to the global economy,” warns this energy expert.

The Strait of Hormuz is a transit point for one-fifth of the world’s oil, one-quarter of its gas, and one-third of its fertilizers, as well as petroleum products and chemicals essential to the pharmaceutical industry. If the conflict continues, with crude oil prices exceeding $150, inflation will drive up fuel costs.

The impact would be immediate for households and businesses. In the United States, gasoline prices have increased by more than 30% since the conflict began. And complaints are mounting about the increased cost of filling up the tank. The same is happening in other parts of the world.

Grit your teeth and spend it

If citizens and businesses spend more on fuel, resources for other needs are reduced, especially if the electricity they need to power their homes and businesses also becomes more expensive; much of it is generated by gas-fired power plants. “Fuel demand is fairly inelastic, meaning it’s difficult for consumers or businesses to reduce the amount they buy when prices rise,” notes Katherine Rampell. “People have to buy gasoline to get to work or take their children to school. Businesses have to buy fuel to run their factories or keep the lights on. This means that when fuel prices rise, buyers have to grit their teeth, spend the money, and then cut back on other things.”

The oil crisis will also drive up food prices. In addition to the increased cost of transportation, the rise in fertilizer prices will make it harder for families to put food on the table. Businesses will sell less and their profits will fall, creating a dangerous spiral. With the global economy in the red, many companies will seek to cut costs and will be tempted to reduce their workforce.

The Dallas Federal Reserve says that a disruption in oil shipments through the Strait of Hormuz until June will reduce global economic growth by 2.9 annualized percentage points in the second quarter and practically plunge the world into a recession.

The inflationary crisis will cause a loss of purchasing power for workers, who will reduce their consumption and dip into their savings to cope with the price shock. The economy will suffer.

Travel will be more expensive. Airlines will have to raise ticket prices to cope with the increased cost of fuel. As a result, people will limit their travel, and the trips they do take will be shorter. With jet fuel prices above $150 a barrel, major European airlines will undoubtedly pass on the additional costs to passengers.

Fatih Birol, the president of the International Energy Agency, has issued several recommendations to weather the initial storm of this upward spiral in energy prices: three more weekdays of working from home, a 40% reduction in business flights, and making public transportation free to discourage private car use, as well as lowering speed limits on highways by at least 10 kilometers per hour. He also proposes promoting the use of public transportation over private vehicles and restricting traffic in major cities. These temporary measures to address the current price crisis could become permanent if the situation worsens and oil prices remain above $150.

Countries would come to the rescue of their citizens and businesses with public aid and fuel tax cuts. The drop in revenue resulting from the crisis would exacerbate their deficit and public debt problems.

Central banks would face a difficult dilemma: how to deal with a global recession, whose usual remedy is to cut interest rates, while simultaneously facing an inflationary episode, which is tackled with rate hikes. Stagflation is one of central bankers’ greatest fears. The emergence of this scenario would put financial institutions to the test.

“Four years ago, we modeled two scenarios that were considered impossible at the time: a seven-day closure of the Strait of Hormuz and a 30-day closure. In that study, we reached a very clear conclusion: market expectations that the war would end within days of U.S. military intervention were wrong,” recalls Scott Modell of Rapidan Energy. He continues: “Instead, the trajectory of oil prices in a conflict of this nature would follow an M-shaped curve: the price of crude would surge when war broke out, suffer a rapid sell-off once U.S. military forces entered the Gulf, but then rise again as Iran proved capable of keeping the strait blocked for weeks or months, before finally falling again once the conflict was over.”

Sign up for our weekly newsletter to get more English-language news coverage from EL PAÍS USA Edition