Brad Setser

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Cross border flows, with a bit of macroeconomics

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Confronting Iran would be a lot easier if the Saudis had more spare capacity

by Brad Setser
September 26, 2004

David Sanger looks at Iran and North Korea’s nuclear ambitions in today’s New York Times. Sanger suggests it will be hard to stop Iran’s quest for nukes, no matter what the nature of Iran’s regime — the refomers in Iran argue that if a secular Pakistani government can have nukes, why not a more secular Iranian government? Nouriel has beefed up his site’s coverage of geopolitical risks, including Iran. Iran, afterall, offers the potent combination of nuclear proliferation, political islam, oil and transatantic tensions over what to do.

Energy economist Philip Verleger has emphasized that with oil markets tight, any confrontation with Iran risks triggering a sharp upward spike in oil. Iran could cut its exports to retaliate for UN sanctions, or the world could try to stop buying Iranian oil to punish Iran. Consequently, it would be a lot easier to confront Iran successfully if another producer — and that almost always means oil’s central banker and swing producer, the Saudis — was able to make up for any fall in Iranian production. The Saudis did so during the 03 Iraq war, but it now seems doubtful that the Saudis have sufficient spare capacity to make up for any shortfall in Iranian production.Two other points are worth making. First, the Saudi Arabia’s position in the oil market traditionally stems not just from the scale of Saudi production, but from the Saudi’s resevoir of unused production capacity. Spare supply gave the Saudis the ability to add supply/ remove supply to influence price. Second, the set of countries whose oil firms have invested in Iran’s oil fields includes countries like France that did not support the US in Iraq, but also countries like Italy and Japan that did. The globalmacro Iran page includes a paper by Carnegie’s Perkovich and Manzanero that tries to look at how an economic confrontation over Iran’s nuclear program might play out. It provides a useful overview of FDI in Iran, and Iran’s trading partners — though any interruption in oil would impact on the global oil price, not just those countries who currently import oil from Iran.