Turmoil in Yemen As a Long-Term Oil Market Factor
An armed member of Houthi militia stands over
the rubble of houses which were allegedly
destroyed by a Saudi air strike, in Sana'a,
Yemen, 26 March 2015
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Analyst on Russia and its Middle East policy, MPhil International Relations, University of Cambridge
Oil prices have recently been gaining some momentum due to a multitude of factors, including the slowing of rig count declines in the US, a possible decline in production as well as Saudi Arabia raising the oil price for Asian customers for a second consecutive month. Questions arise, however, as to where the ongoing crisis in Yemen fits in this equation.
Oil prices have recently been gaining some momentum due to a multitude of factors, including the slowing of rig count declines in the US, a possible decline in production as well as Saudi Arabia raising the oil price for Asian customers for a second consecutive month. Questions arise, however, as to where the ongoing crisis in Yemen fits in this equation.
Yemen is a minor-league oil producing country; its oil production peaked at 440 thousand barrels a day in 2002 and has been declining ever since, to about 126 thousand barrels a day in 2014, less than 0.2% of global oil output. Analysts agree that even a total suspension of production by Yemen should not affect oil prices. The crisis in the country is marked by an exodus of petroleum companies: in March-April, French Total, Austrian OMV, US Occidental Petroleum Corp, Norwegian DNO ASA and others evacuated their expatriate staff and significantly scaled back or completely shut down production in Yemen.
On March 25, when a Saudi Arabia-led coalition launched airstrikes against Shia Houthis in Yemen, oil prices rallied with Brent increasing by $3 in one day. The effect of a surprise military campaign was short-lived and didn’t produce much change in the market. Yet for as long as the security situation remains uncertain in Yemen and Saudi Arabia is involved in the crisis, volatility in the oil market will remain.
The effect of a surprise military campaign was short-lived and didn’t produce much change in the market.
In the case of Yemen, a minor oil producer strategically situated in a region where more than half of world oil reserves are located, geopolitics becomes a long-term market factor. Price hikes there have more to do with a possible standoff between Saudi Arabia and Iran, rather than Yemen itself.
Disruption in oil transit
Yemen controls part of the strait of Bab el-Mandeb, a bottleneck that separates the Red Sea and the Arabian Sea. In 2013, 3.8 million barrels of crude oil flowed through the strait every day, making it the third busiest oil transit chokepoint in the world. In late March-early April, the Iran-backed Houthi militia effectively seized control over the strait, first by capturing a coastal military base and later by deploying missiles, long-range cannons and rapid boats against two islands in Bab el-Mandeb. The strengthening of their position in this strategically important area gives the Houthis the option of shutting off the strait and preventing oil tankers as well as other cargo ships from reaching the Mediterranean.
A new stronghold for Houthis in Bab el-Mandeb has the potential to spark a standoff between the Saudi-Egyptian alliance and Iran. Riyadh and Cairo both want to ensure that the strait is kept open for the passage of oil tankers, some of which later unload crude oil at the Red Sea Ain Sukhna terminal for the SUPAM pipeline that runs across Egypt to Alexandria.
Price hikes there have more to do with a possible standoff between Saudi Arabia and Iran, rather than Yemen itself.
For Iran, the possibility of blocking the strait is another lever against Saudi Arabia, which is why reports saying that Tehran had sent two naval task forces to Bab el-Mandeb to fend off a possible attack against the Houthis appeared in the media in late March. Egypt matched this move by deploying six warships and at least 1,000 marines in the region. Several reports suggested that Egyptian vessels fired warning shots at Iranian warships near the strait.
A more extreme scenario would also see Iranian and Saudi warships engaging in fighting off the coast of Yemen. The disruption of an oil supply through the most direct shipping route between the Gulf and Europe will be immediately reflected in the price of crude, not due to large volumes of oil being delayed but primarily due to geopolitical risks.
With Operation Decisive Storm aiming at destroying Houthi military installations, the targeting of their stronghold in the strait bears its own risks. Oil tankers that are now moving unimpeded through the strait will have to be looking for alternative routes if air strikes reach Bab el-Mandeb. Diverting tankers around Africa is the only existing option, but this would increase the travel time to European destinations by 10-15 days. This alternative route would significantly elevate shipping costs and consequently commodity prices. A more extreme scenario would also see Iranian and Saudi warships engaging in fighting off the coast of Yemen. The disruption of an oil supply through the most direct shipping route between the Gulf and Europe will be immediately reflected in the price of crude, not due to large volumes of oil being delayed but primarily due to geopolitical risks.
Saudi domestic dissent
Large Shia communities with whom the predominantly Sunni Saudi Arabia is at odds with live in the oil-rich Eastern Province of the Kingdom. Ever since the Arab Spring began in 2011, the Saudi Shia has been demanding democratic reforms and an end to discrimination. More than 20 Shia protesters have been killed by security forces in Saudi Arabia since 2011, all of them in the Al Qatif region close to strategic oilfield developments in Eastern Province.
In April, renewed clashes between Shia residents and security forces drove tensions in Al Qatif to new highs when a protest against Saudi air strikes in Yemen had to be cancelled. As a result of a police raid, one security officer died, three were wounded, and four locals whom authorities labeled “terrorist elements” were arrested. In Awamiya, a village where the incident took place, authorities seized large quantities of firearms, ammunition and communication equipment, which means that the Shia militancy and attack capabilities are growing in Saudi Arabia.
The unrest in Yemen is being used by Saudi Arabia to justify a hardened crackdown on protests at home, which creates a backlash from more Saudi Shia ready to take to the streets.
Shootouts between police and Shia militants in oil rich Al Qatif were reported on a monthly basis in the second half of 2014. In September, a pipeline in Awamiya was targeted by an improvised explosive device causing minor damage, and in November, another pipeline exploded near Riyadh. Both blasts on Saudi Aramco facilities briefly sent oil prices up, but markets shrugged off the fear of oil supply shortage.
A ground intervention would mean that Saudi Arabia is going to actual war. This psychological factor is likely to trigger a strong reaction in the markets around the globe, causing oil prices to shoot up.
The unrest in Yemen is being used by Saudi Arabia to justify a hardened crackdown on protests at home, which creates a backlash from more Saudi Shia ready to take to the streets. This turn of events may play into the Houthis’ hand, who in late March, promised to launch suicide attacks in Saudi Arabia if Riyadh doesn’t end its military operation. These attacks would first of all target the Kingdom’s oil infrastructure in the Eastern province where anti-Riyadh sentiment is on the rise and where it would hurt the most. The effect of these strikes would be similar to that of the explosions that happened in 2014, with a sudden oil price spike and panic in the markets.
Boots on the ground in Yemen
Just like direct confrontation between Iran and Saudi Arabia over the Bab el-Mandeb strait, a possible ground operation in Yemen may seriously affect oil prices. Recent reports suggest that a decision on sending ground forces to Yemen has been made, but the exact date remains unknown. A ground operation will likely last longer than Operation Decisive Storm, may reduce production of Yemeni oil to zero, and may provoke a harsh response by Iran.
Tehran’s reaction is hard to predict: it could opt for covert support to the Houthis and refrain from direct involvement because of ongoing nuclear talks. Alternatively, Iran could go further and block the strait of Hormuz, thus preventing most of GCC’s oil transit. Regardless of Tehran’s strategy, the impact of a ground operation itself on the oil market could be dire.
As of now, oversupply fears outweigh the events in Yemen whose effect is patchy, pushing prices up briefly and later causing them to reverse. A ground intervention, however, would mean that Saudi Arabia is going to actual war. This psychological factor is likely to trigger a strong reaction in the markets around the globe, causing oil prices to shoot up.
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