The Iran Nuclear Agreement and Iranian Energy Exports, the Iranian Economy, and World Energy Markets

Much of the examination of the Iran nuclear agreement has focused on the funds that would be released once Iran complied with the terms of the agreement. Some estimates of the near term cash benefit that Iran will receive have gone as high as $150 billion – although U.S. experts put the total at $100 billion and note that some $50 billion of this money has already been obligated.

The other side of the story is how relieving sanctions would affect Iran’s oil and gas exports, Iranian export income, the overall Iranian economy, and global oil markets and prices. This will be a function of how soon Iran complies with the terms of the agreement, how the agreement affects the lifting of sanctions, how much capacity Iran can bring back on line at a given time, Iran’s ability to increase future production, the demand for Iran’s exports, and the nature of the world oil market.

It will also be affected by the strategic competition between Iran and Saudi Arabia and other crises in countries like Libya and Iraq, as well as by the growing uncertainties in the global economy and demand for oil.

During August, the Energy Information Agency (EIA) of the U.S. Department of Energy, World Bank, and other organizations updated both their analysis of the impact of sanctions, and the potential impact of the new P5+1 nuclear agreement with Iran if it is fully implemented.

This not only involved estimates of the energy export and economic trends within Iran, but of the impact of the nuclear agreement on the overall trends in global oil production and consumption, as well as Iran’s potential role in altering the demand for exports in other states like Saudi Arabia. It also involved the use of different methods of forecasting and measuring the complex uncertainties in Iran’s oil production, and the political, economic, and oil export levels of Iran and other oil exporting states.

The Burke Chair has developed a new analysis that summarizes and compares the data and key reports on the energy and economic impact of The Iran Nuclear Agreement and Iranian Energy Exports, the Iranian Economy, and World Energy Markets. It is available by clicking on this title, the PDF above, or at the following address on the web: http://csis.org/publication/iran-nuclear-agreement-and-iranian-energy-exports-iranian-economy-and-world-energy-marke

Table of Contents

The presentation is largely in summary chart and table form, and has the following key sections:

• Key Aspects of the Iran Deal
• The World Oil Market and the Broader Context for Evaluating the Energy Impact of Sanctions and the Agreement
• The Impact of Sanctions on Iranian Oil Exports
• The Impact of the Sanctions on the Iranian Economy
• The Impact of the Nuclear Agreement on Iranian Oil Exports
• The Impact of the Nuclear Agreement on The Iranian Economy
• The Impact of the Nuclear Agreement on Global Oil Supply and Demand
• Key Trends in Saudi Arabia, Iraq, and Libya: “Oil Wars” to Come?

The presentation does not attempt to resolve the uncertainties and differences in the estimates of how these variables will interact in a climate as volatile as today’s Middle East, much less the broader mix of uncertainties that shape the world oil market. There is no clear way to do this.

It instead focuses on bounding the range of possible impacts, highlighting key trends and facts, explaining the important areas of uncertainty, and looking beyond the security impact of the nuclear agreement. It does so by drawing directly on the work of U.S. Energy Information Agency (EIA), World Bank, the CSIS Energy and National Security Program, and other experts.

The end result reveals some major changes in estimates made as late as June and July of this year, and earlier estimates are sometimes provided for comparison. It is also important to note that analysts are now becoming more realistic about the time it may take Iran to fully comply with the agreement – if it does go into force – and that the so-called “Implementation Day” could slip into the spring of 2016. It also shows that the rise in Iran’s exports and export income – and Iran’s ability to adjust its economy to take fully advantage of its new wealth – could take several years.

Views of Administration Experts

The Administration and the White house have not provided an official view of the economic and energy impact of implementing the agreement, but its experts have provided some key estimates. These estimates have not been supported by the in-depth analysis present in the EIA and World Bank studies, but the key conclusions are that Iran face a wide range of serious pressures that will lead it to spend its added revenue on domestic needs.

These estimates indicate that Iran will be able to freely access slightly more than half – a little over $50 billion. of approximately $100 billion in overseas foreign reserves after sanctions relief.

Over $20 billion is dedicated to projects with China, where it cannot be freely spent, and tens of billions in additional funds are effectively non-performing loans to Iran’s energy and banking sector that are unlikely to be repaid, at least not in the next few years.

U.S., UN, EU, and other sanctions imposed with the international community, have had a major impact on Iran’s economy:

• Iran needs about half a trillion dollars to meet pressing investment needs, including at least:
  o Energy: $170 billion to develop oil and gas potential and replace lost capacity
  o Agriculture: $100 billion for agricultural rehabilitation, irrigation, and environmental remediation
  o Infrastructure: $100 billion to complete unfinished infrastructure projects
  o Power: $50 billion over next seven years to satisfy anticipated demand and invest in renewable energy
• Iran needs about $100 billion to satisfy pressing government obligations, including unfunded state and military pensions, debts to the domestic banking sector and government contractors, and to plug shortfalls in the National Development Fund.
• Iran’s economy remains 15-20 percent smaller today than it would have been had it remained on its pre-2011 growth trajectory.
• Even if Iran returns to its pre-2012 growth trajectory, it would take until 2020 for Iran’s GDP to reach the level it would have been last year had it not been for our oil sanctions.
• The $100 billion in Iran’s reserves now restricted overseas is unlikely to be repatriated to Iran. As a matter of prudent economic management, Iran will need to keep most of this money overseas to facilitate foreign trade and avoid making its currency too expensive.
• Moreover, Ad ministration experts feel the Iranian people – and its leadership – are desperate to see the economic benefits of a deal. Rouhani was elected on a platform of economic revitalization, and faces a political imperative to live up to his promises. When Iran get funds earlier that were released after it agreed to the JPOA, Iran mostly used them to buy gold, prop up its currency and hedge against inflation rather than using them to support terrorists,.
• They also feel that Iran’s ability to support terrorism relies less on monetary funds, and more on military and other political influence. Terrorism and Iran’s efforts to support non-state actors and win influence in Syria and Iraq are not expensive. The constraints on greater Iranian activities in the region are primarily non-financial.

Energy Information Agency Estimates of Impart on Oil Exports and Global Supply, Demand, and Prices

The key points in the Energy Information Agency (EIA)’s estimate of the energy impact of the nuclear agreement are:

• These additional Iranian supplies, along with relatively higher global oil production and comparatively slower global oil consumption growth, will contribute to large inventory builds next year, resulting in lower oil prices than previously expected. The North Sea Brent crude oil price, which averaged $57 per barrel in July, is expected to rise to an average of $59/barrel (b) in 2016, according to EIA's August 2015 Short-Term Energy Outlook (STEO). The previous outlook, published before the Joint Comprehensive Plan of Action (JCPOA) was announced on July 14, had anticipated 2016 prices at $67/b. Crude oil price forecasts are subject to significant uncertainty, as described in EIA's Market Prices and Uncertainty Report.
• The initial effect of the JCPOA on oil markets will come from the release of Iranian inventories. Of the estimated 30 million barrels held in storage, more than half is condensate, and the rest is mainly medium, sour crude oil. The volumes in storage could boost total global supply by about 100,000 barrels per day (b/d) by the end of 2015. This estimate reflects the difficulties of finding buyers for the stored condensate, although much higher volumes may be sold should Iran provide discounts to encourage purchases.
• The pace of the sales of oil from storage remains highly uncertain and will depend on the pace of sanctions relief and the availability of customers for Iranian oil and condensate. Iran may find it challenging to find buyers for the condensate, as current condensate prices indicate that consuming markets, particularly in Asia, are well supplied. By contrast, the crude oil held in storage could be sold more quickly, as price differences currently indicate more demand for medium, sour crude compared to lighter, sweeter crude. There is evidence that initial volumes are already moving out of floating storage.
• Iran is also expected to increase production as sanctions are lifted. EIA estimates that Iran has the technical capability to increase crude oil production by about 600,000 b/d by the end of 2016 . The pace and magnitude at which additional production volumes reach the market depend on how quickly Iran meets conditions triggering sanction relief and how successful Iran is in production and marketing operations. EIA expects most of this increase would occur in the second half of 2016. These additional Iranian volumes are expected to put downward pressure on global oil prices in 2016, as Saudi Arabia and the rest of producers in the Organization of the Petroleum Exporting Countries (OPEC) are not expected to make production cuts to accommodate additional Iranian volumes in a well-supplied global oil market.
• Lower world oil prices in 2016 likely will result in lower non-OPEC production and slightly higher consumption, largely offsetting the higher Iranian production. Non-OPEC producers are expected to see their output fall as a result of high inventory builds and lower prices. In particular, EIA's outlook for U.S. crude oil production was revised downward by about 400,000 b/d in 2016. Internationally, producers operating in high-cost areas, such as the North Sea and deep offshore in the Americas, are also expected to reduce output in 2016.

World Bank Estimates on Agreement’s Economic Impacts

The key points in the World Bank’s estimate of the nuclear agreements economic impact are:

• The most significant change will be Iran’s return to the oil market. The World Bank estimates that the eventual addition of one million barrels a day (mbd) from Iran, assuming no strategic response from other oil exporters, would lower oil prices by 14 percent, or $10 per barrel in 2016.
• Oil importers, including the European Union (EU) and United States (US), will gain while oil exporters, especially the Gulf countries, will lose.
• Secondly, once sanctions and restrictions on financial transactions are relaxed, Iran’s trade, which had both declined in absolute terms and shifted away from Europe towards Asia and the Middle East, will expand. The World Bank estimates that sanctions reduced Iranian exports by $17.1 billion during 2012-14, equivalent to 13.5 percent of total exports in that period.
• …the countries that will see the largest post-sanctions increase in trade with Iran include Britain, China, India, Turkey, and Saudi Arabia.
• Thirdly, the Iranian economy, which was in recession for two years, will receive a major boost from increased oil revenues – conservatively estimated at about $15 billion in the first year – and lower trade costs.
• In addition, there are estimates that Iran holds about $107 billion worth of frozen assets (including LCs and oil exports earnings) overseas, of which an estimated $29 billion will be released immediately after sanctions removal.
• Finally, foreign direct investment (FDI), which had declined by billions of dollars following the tightening of sanctions in 2012, is expected to pick up. There has already been some interest shown by foreign multinationals since the April 2015 framework agreement, especially in the oil and gas sectors.
• The World Bank expects FDI to eventually increase to about $3—3.5 billion in a couple of years, double the level in 2015 but still below the peak in 2003.
• In addition to slowing down, the Iranian economy underwent a structural shift during the sanctions era, with the oil, automobile, construction and financial sectors declining the most.
• As sanctions are lifted, these sectors are likely to see an expansion of output. All these changes to the economy involve shifting resources from one use to another. The most significant aspect of sanctions relief is that it enables resources to be shifted to where they are more productive, that is, for the economy to produce more efficiently. For example, Iran can now produce and export those goods in which it has a comparative advantage, and import goods in which it does not.
• In short, sanctions relief can be thought of as an economic windfall to the Iranian economy. The World Bank estimates the size of this windfall as a welfare gain of $13 billion or 2.8 percent of current welfare.
• Like all windfalls, however, they have to be properly managed in order that they sustainably benefit the population. In particular, as oil revenues enter the economy, the exchange rate will appreciate. While this will make imports cheaper, it will also make nonoil exports less competitive

Broader Global Impacts

The data show that there are major uncertainties in what global oil demand will be, what oil prices will be, and how other states will alter their production and prices to complete with Iran.

It also seems likely that Iran will need several years in which to begin major increases in its oil production and gas exports. It has the reserve capacity to make major increases over time, but this depends on Iranian compliance and stability, regional stability, world markets, and attracting sufficient outside technology and investment.

Anthony H. Cordesman holds the Arleigh A. Burke Chair in Strategic at the Center for Strategic and International Studies (CSIS) in Washington, D.C.