The week in energy: The threat to oil exports from the Gulf

The crisis that has gone down in history as the Gulf of Tonkin incident was actually two separate events. On August 2 1964, the USS Maddox, a US Navy destroyer on a surveillance mission in the Gulf of Tonkin, was attacked by three North Vietnamese torpedo boats, but fought them off easily with the help of air support, escaping unscathed except for a single bullet hole. President Lyndon B Johnson was initially reluctant to escalate the situation, but sent a warning to North Vietnam threatening “grave consequences” for any further acts of aggression.

Then on August 4 it appeared that Hanoi had defied that warning, as reports came in of further attacks on the Maddox and the USS Turner Joy, another destroyer in the area. The events of that day were confusing, with the two US ships apparently firing wildly without hitting anything, but a 2001 article by a US National Security Agency historian concluded that there had in fact been no second attack, and NSA officials had “skewed” their reports on the intelligence, exaggerating their certainty that North Vietnamese forces had struck again.

Johnson saw an opportunity, reviving a planned resolution authorising him “to take all necessary measures to repel any armed attack against the forces of the United States and to prevent further aggression”. The resolution passed on August 7, with a unanimous vote in the House of Representatives and only two opponents in the Senate. It was a critical step in the escalation of a war that killed more than 58,000 Americans and an estimated 1.7m Vietnamese.

Memories of the Gulf of Tonkin incident were revived this week, after the attacks on ships and oil installations in the Persian/Arabian Gulf region. Saudi Arabia said on Monday that two of its oil tankers were among the four commercial vessels that were attacked off the coast of the United Arab Emirates over the weekend. The attacks appeared to have used underwater drones each carrying 30-50kg of high-grade explosives, and there was a high likelihood that the attackers were helped by Iran’s Islamic Revolutionary Guard Corps, according to a report by Norwegian insurers seen by Reuters on Friday.

Then on Tuesday Saudi Arabia reported that drones had attacked pumping stations on its east-west pipeline, which runs from its eastern oilfields to the port of Yanbu on the Red Sea. Houthi rebels fighting against the Saudi-backed government of Yemen said they launched the attacks, saying they were a response to “the crimes [the Saudis] are committing every day against the Yemeni people”. Al Jazeera television commented that the drone strikes showed a “new level of sophistication” for the Houthis.

The Saudi government accused Iran of having been behind the attacks, a charge denied by the Houthis. Prince Khalid bin Salman, the Saudi vice-minister of defence, tweeted that the strikes showed that the Houthis “implement Iran’s agenda”, and were “an indivisible part of Iran’s Revolutionary Guard Corps”. The attacks come after mounting tension between the US and Iran, as the Trump administration implements its strategy of “maximum pressure” on Tehran, designating the Revolutionary Guards a foreign terrorist organisation, imposing new sanctions on metals exports and ending the waivers from sanctions on oil exports. On Wednesday the US ordered the departure of all non-essential staff from its diplomatic missions in Iraq, warning of an “increased threat stream”, without giving further details.

On Thursday President Donald Trump said he hoped the US would not go to war with Iran, and The New York Times reported on Thursday that he had told Patrick Shanahan, the acting defence secretary, that he did not want a war. However, some commentators have argued there is a case for military action against Iran. Noah Rothman in Commentary wrote that “the threat to international commerce and global maritime navigation” posed by the attack on the Saudi tankers “is more than enough to justify a retaliatory response”. The Saudi government-controlled newspaper Arab News ran an editorial calling for a “surgical strike” on Iran, to demonstrate that “no sinister act will go unpunished”. US B-52 bombers, deployed from Louisiana to Qatar last week, have this week been flying what have been described as “deterrence missions” across the Gulf region.

Hamid Baeidinejad, Iran’s ambassador to the UK, said that while his country would not escalate the situation, its armed forces were “fully ready for any eventuality”. He warned the US and its allies that “they should not try to test the determination of Iran to confront any escalation in the region”.

Through the attacks and the threats of retaliation and counter-retaliation, oil markets have remained remarkably quiet. Brent crude was trading at about $72.20 on Friday, less than $2 above its level at the start of the week. Khalid al-Falih, Saudi Arabia’s energy minister, described the strikes on tankers and the pipeline as being aimed not only at the kingdom, but also at “the security of world oil supplies and the global economy”. The Strait of Hormuz has been described by the US Energy Information Administration as “the world’s most important chokepoint” for oil supplies, a route for almost 20 per cent of global consumption.

However, history has shown that it has to be a very large disruption in the region to have a significant impact on world oil markets. It is not in the interests of any of the countries in Gulf region to have their principal export route cut off, and despite some sabre-rattling from Iran, none of them really want to see the strait closed. The US Naval Institute magazine noted in 1988 that the “tanker war” then being fought between Iran and Iraq as part of their wider conflict “has yet to significantly curtail Gulf oil exports or substantially increase world oil prices”, because only a small minority of shipping traffic in the region was targeted. Despite the US attempt to use sanctions to cut off all Iran’s oil exports, some crude does seem to be getting through still.

Worries about possible disruptions to oil supplies have been largely offset by concerns about a weakening in demand. John Kemp of Reuters described oil prices as “trapped” by the bad news from emerging markets, including the escalation of the US-China trade dispute and downgrades to growth prospects in India, Brazil and Turkey.

For the members of the Joint Ministerial Monitoring Committee of Opec and its non-Opec allies, who are gathering this weekend in Jeddah to discuss their current restrictions on production, the market is not giving any clear signals. The International Energy Agency argued in its latest monthly oil market report that Opec and its allies might need to agree increases in production when ministers meet next month. However, Herman Wang of S&P Global Platts suggested that Saudi Arabia would prefer to see the current curbs on output, which are scheduled to expire at the end of June, extended through to “at least the end of the year”.

Fossil fuels power down

Last week I wrote about the IEA’s warning of a “deeply worrying” slowdown in growth in renewable electricity generation capacity. This week the agency published its full Energy Investment 2019 report, showing that investment in fossil fuel power generation was falling even more dramatically. The charts here show total new capacity in coal-fired and gas-fired plants that received final investment decisions since 2011; you can see how sharply it has slowed for both. The shaded bars at the end refer to the IEA’s scenarios: NPS means the new policies scenario, which reflects known government commitments, while SDS means the sustainable development scenario, which would be consistent with the Paris climate agreement goal of keeping the rise in average global temperature to “well below” 2C. You can see that investments in gas-fired plants last year were almost in line with the SDS, although investment in coal-fired plants would still have to slow quite a bit further.

That does not mean the world is on track to reach the sustainable development scenario easily, however. It will still require a steep increase in investment in renewable energy and the grid.

In oil and gas, meanwhile, the trend for shale resources to take an ever-increasing share of global investment appears to be stalling this year. Shale is on course to take about a quarter of total investment in oil and gas production worldwide this year, about the same as in 2018.

There are many more useful charts in the report that I don’t have space for here, and the whole thing is really well worth a look.

In brief

Britain’s electricity and gas networks would be nationalised by a future Labour government, and investors paid compensation at less than market rates, according to a policy paper launched by the party’s leader Jeremy Corbyn this week. National Grid, which owns and operates the UK’s electricity and gas transmission networks, said Mr Corbyn would face “significant” legal challenges if he attempted to implement his plan.

EU countries are not generally adding much hydro power capacity. But in Portugal Iberdrola is building the €1.5bn Tâmega project: three plants that will have a combined generation capacity of 1,158 megawatts.

Solar cells produced at Tesla’s factory in Buffalo, New York, are generally being exported, not going into the company’s much-hyped “solar roof” systems in the US. The MIT Technology Review commented that the news made Tesla’s 2016 acquisition of SolarCity for $2.6bn look “worse and worse”.

“Fire sales” of fossil fuel assets in an energy transition to renewables could threaten Canada’s financial system, the country’s central bank has warned.

In the Global Times, the Chinese Communist party’s English-language outlet, Jin Canrong argued there were three “trump cards” that China could play to win a trade war with the US. The first: “a total ban on the export of rare earths to the US”.

Perovskite solar cells, widely seen as the next big step forward for the industry, could be on the market by the end of next year.

And finally: the word “fracking” has been on quite a journey in the past 15 years, from a jargon term for a specific operation used to bring an oil or gas well into production, often spelt “fraccing” or “frac'ing”, to a synecdoche for the entire industry, often in a perforative sense. An example that its usage in popular culture has cropped up is the new Jim Jarmusch movie The Dead Don’t Die , in which something called “polar fracking” has shifted the earth off its axis and brought about the zombie apocalypse.

One striking fact is that worldwide interest in fracking has fallen off sharply since 2013; at least judging by Google searches.

Other views

Nick Butler — We need a carbon tax to change consumer behaviour

Edward Luce — US sets course for its next Middle Eastern war of choice

David Gardner — Iran and the US risk igniting the Middle East tinderbox

Demetri Sevastopulo — Person in the News: John Bolton, Donald Trump’s foreign policy bad cop

Lex — UK nationalisations: calculated to hurt

David Allen Green — Why Labour’s plans for nationalisation will be legally tricky

Brooke Masters — National courts have global companies in their sights

Colby Smith — Stakes rise for Venezuelan assets stateside

Anjana Ahuja — The world is in danger of blowing its sand budget

Anil Agarwal — India needs to unlock its natural resource potential

Adam Bendell — Impact investors fail to measure negative outcomes

Bill Gates — A critical step to reduce climate change

Tim Buckley — Asian banks are joining the trend away from coal

Quote of the week

“You know: we work with other countries, and we work with their energy, and we take their energy. We buy it, we produce it. But we don’t need to if we don’t have to, if we don’t want to. It just works out pretty well that way. But anytime we want, we can stop. The energy we produce here in our country is better, cheaper and cleaner than our foreign competitors’, and it’s not even close.”

— President Donald Trump, speaking at the new Cameron LNG export plant in Louisiana, set out his views on the meaning of “American energy dominance”.

Chart of the week

This is from a recent International Monetary Fund working paper on energy subsidies, showing the breakdown between different fuels. The key point to notice here is the distinction between pre-tax and post-tax subsidies. The pre-tax amounts reflect the differences what consumers pay and the cost of supplies. The post-tax figure reflects a broader view, reflecting the difference between the prices paid by consumers and the total cost of the fuel, including both the cost to supply and its environmental impact. That means that coal, which is not directly subsidised much, still shows up as having very large post-tax subsidies, because its price to consumers does not generally reflect its costs in terms of local air pollution and its greenhouse gas emissions. On that basis, the total subsidies for energy worldwide are enormous: $5.2tn, or about 6.5 per cent of global gross domestic product, in 2017.