Although markets continue to price in a short-term resolution of the conflict in the Middle East and high levels of stocks global temporarily offer protection to economies, the economic costs are destined to increase as the interruptions continue. Il risk is that the markets, initially focused on temporary inflationary effects of the crisis, already pricing in a worsening of the monetary policy in the interest rate markets of developed countries, will soon have to deal with a increasing risks of global recession and with one demand destruction, with negative impacts on stocks and credit and a increase in the premium recognized for bonds as a safe haven. One says so Pimco report by Tiffany Wilding, Economist, and Andrew DeWitt, Portfolio Manager.
An unprecedented disruption
Un'20% disruption of global supply of oil it would be unprecedented in modern history, he says pimco. For context, the decline in global oil and energy consumption during the peak of the lockdowns related to Covid was also around 20%, according to OECD data. In the same period, in the first half of 2020, global GDP contracted by more than 10% on an annualized basis. Both global GDP and oil consumption then recorded a quick recovery with the reopening of economic activities.
Other notable historical episodes include the Arab oil embargo and the Iranian revolution among others. 70 years, which have led to a contraction in global production of between 5% and 7%, according to theInternational Energy Agency, coinciding with recessions in the United States and sharp slowdowns in global growth. The Gulf War in the early 90s led to an 8%-10% disruption in production, with real GDP growth in OECD countries falling from 3,6% to 1,4%.
Markets geared towards rapid resolution
How can we explain the relative calm in global financial markets? One plausible explanation is that traders are expecting temporary interruptions. Oil futures prices reflect this expectation: while the spot price has risen to about 125 dollars per barrel of North Sea Brent, contracts with delivery in December 2026 exchange around 80 dollars per barrel, showing a significant discount.
Furthermore, before the conflict the world had large supplies of oil, which are temporarily mitigating the impact of disruptions. It should also be emphasized that the storage capacity in the Middle East has allowed continue production Despite transportation difficulties, of the approximately 20 million barrels per day that used to transit the Strait, just over 10 million are currently blocked in terms of production, while the remainder continues to be produced and stored in storage.
Growing risk of a prolonged supply shock
Expectations of a swift resolution, combined with these economic buffers, have so far limited the tightening of financial conditions. However, these buffers are not infinite: as the conflict continues and the closure of the maritime route, the markets will increasingly have to ask themselves when la situation will turn into a real shock negative supply, and no longer in a simple redistribution of income between energy producers and consumers.
Le Logistical timing is crucial: With the last tankers leaving the Strait of Hormuz at the end of February, cargoes are only now arriving at their destinations. It takes about 10-20 days to reach Asia, 20-35 days to Europe and Africa, and 35-45 days to reach the US Gulf Coast.
Le stocks they exist but they are unevenly distributed and the quality of the data – especially for China – is limited. According to the IEA, stocks in OECD countries they could cover about 140 days demand at last year's levels, but with strong differences: some Countries including Mexico, Australia, Ireland and the United Kingdom have less than two months of autonomy.
India and Australia they are already adopting measures to address potential shortages, while Asian refiners are preemptively cutting production to manage the situation.
In the meantime, the storage capacity in the Middle East it is happening quickly running out. With production already reduced by around 10 million barrels per day and residual capacity estimated at between 150 and 300 million barrels, the available margin covers only two or three weeks before further production cuts become inevitable.
Macro implications: recession risk
Some producers have partially diverted flows through oil pipelines, but time is limited. Furthermore, once stopped, production cannot be restarted quickly: It may take weeks or months.
Increasing production outside the Middle East will take time and appropriate pricing conditions. In the United States, for example, a forward WTI price of around $70 a barrel does not appear sufficient to incentivize a significant increase in shale production in such an uncertain environment.
Economic policies have limited margins. monetary policy is constrained by high inflation, while fiscal measures such as fuel price controls risk being counterproductive. In the presence of a 20% shock to global supply, the prices they should rise enough to compress the demand to the same extent, effectively implying a recessionInterventions that limit price adjustment risk amplifying imbalances and burdening public finances.
Markets will soon have to confront the prospect of a more protracted conflict
In summary, says Pimco: although the picture remains highly uncertain, each passing week increases the economic costs of the conflict with Iran. With the'stock erosion, the effects of persistent disruptions could soon intensify, with recessionary implications for the global economy. The energy shortages, initially concentrated in Asian industry, they could propagate along global supply chains, generating widespread shortages and cost pressures. In the absence of de-escalation, the economic policies will have limited effectiveness and financial conditions could tighten significantly. Although i markets continue to face a scenario of temporary disruption, the risk is that they will soon have to face the prospect of a more protracted conflict and much higher economic costs.
