What would be the economic fallout of any Iran-Israel escalation

As Iran attacked Israel on April 13, policymakers in countries in the neighbourhood of the two rivals must have watched the escalation with growing concern.

The lingering fallout of the Covid-19 pandemic, the Ukraine-Russia war and a trade tussle between the United States and China, which has upended the global free-trade order, were already weighing heavily on the global economy.

Both Tehran and Tel Aviv have themselves been under financial strain.

The United States and its allies have tightened sanctions on Iranian companies in the last few years and made it hard for Tehran to make the most out of its major export - oil.

On the other hand, Israel’s large-scale war on Gaza, which involves hundreds of thousands of troops, has badly affected the Jewish state’s economic growth.

The Iranian authorities were quick to dial down tensions with the government as they told the UN that the operation was concluded hours after the drones and missiles were launched.

“Iran has also been at pains to highlight that it is finished and considers the matter closed. The United States is also pressuring Israel not to respond, or do so in a limited manner. But it’s unclear just how restrained Israel is prepared to be,” Dina Esfandiary, Crisis Group’s Senior Adviser for Middle East and North Africa, tells TRT World.

One of the biggest fallouts of Iran’s attack could be on the energy market - something that has a drastic impact on countries that rely on the imports of oil and gas.

Any escalation in the Iran-Israel conflict can disrupt energy supplies from the Middle East, sending crude prices skyward.

The reaction to Iran’s April 13 attack on Israel in the global energy markets has been muted so far, with the price of crude oil registering no meaningful change over the subsequent days.

But a sigh of relief over the relative calm in the energy markets after the first-of-its-kind attack by a major energy producer on the Jewish state seems premature.

Analysts look to Israel with bated breath as its response – kept in check partly by the United States so far – will largely determine the direction of the global energy markets going forward.

The Israeli cabinet has yet to decide on when and how it’d respond to the barrage of over 300 drones and missiles that Tehran launched in retaliation for an alleged Israeli strike on an Iranian diplomatic complex in Syria on April 1.

The International Energy Agency (IEA), a Paris-based multinational agency tasked with monitoring the energy sector, said on April 15 that Iran’s attack provided “a fresh reminder of the importance of oil security” while noting that it has increased the risk of volatility in oil markets.

According to Goldman Sachs, the crude price currently hovering around $85 per barrel already includes a risk premium of $5-10 due to potential supply disruptions. As such, crude prices are susceptible to spikes in response to any escalatory developments.

Likely target

Analysts say one of the threats to the energy markets is Iran’s possible blocking of the Strait of Hormuz, a narrow passage of water between the Persian Gulf and the Gulf of Oman.

More than 25 percent of total global seaborne traded oil passes through this trade corridor. Cargoes from energy-producing countries like the United Arab Emirates, Qatar, Bahrain and Iraq use the waterway to export their shipments to the rest of the world.

Some analysts say Iran retains the capability to attack oil tankers passing through the strait using drones, missiles or submarines.

According to Simone Tagliapietra, a senior fellow at Brussels-based think tank Bruegel, the worst-case scenario would entail a “total blockade” of the strait by Tehran.

However, Esfandiary of the Crisis Group says Iran is unlikely to block the straits unless “things really get out of hand”.

“Blocking the straits would also affect Iran’s ability to trade… it would be a significant escalation and concentrate all the world’s eyes on it, all of which Tehran wants to avoid,” she says.

With crude oil production of around 3.4 million barrels a day, Iran accounts for a 3.3 percent share in global oil supplies.

Western sanctions on Iran mean there’s a blanket ban on the sale of Iranian oil using Western banking and shipping channels.

Yet Iran has been able to circumvent these sanctions by sending oil to Beijing in ‘dark-fleet tankers’ against payments in the yuan via second-tier Chinese banks.

Small, independent refineries in China—known as teapots—buy as much as 90 percent of Iran’s total oil exports since large-scale state refiners like Sinopec and PetroChina stopped lifting Iranian crude in 2019.

In case the West opts for further tightening its sanctions on Iran, the resultant cut in Iran’s oil exports will have a “massive” impact on the global energy markets, according to Richard Bronze, co-founder and analyst at Energy Aspects.

China, which is the second-largest global consumer of oil with a 15 percent share, would look for other oil suppliers, thus driving up crude prices globally.

A costly attack

The weekend drone and missile attack took a heavy financial toll on Israel, even though the estimates vary significantly.

For instance, a senior researcher at the Tel Aviv-based Institute for National Security Studies put the cost of Israel’s defence against the weekend attack by Iran at $550 million. This included the cost that Israel incurred on keeping 100 warplanes in the air for six hours.

However, an Israeli general said the cost to Tel Aviv ranged between $1 billion and $1.3 billion, given that each Arrow missile used for intercepting an Iranian ballistic missile cost $3.5 million.

Israel claims Iran launched as many as 170 drones and 30 cruise missiles, though none of them reached Israel. In addition, it launched “at least 110 ballistic missiles” but only a small number of them entered Israeli territory.

As for Iran, it mainly used its Shahed drones, also known as AK-47s of Tehran given its mass production at a low cost of $20,000 each. The unmanned aerial vehicle can carry warheads of up to 50kg to an operational range of 2,500 km. Iran has been exporting these drones to its allies for their use in conflict zones like Ukraine and the Red Sea in the recent past.

In addition, Iran incurred a cost of nearly $100,000 on launching each of the 110 ballistic missiles, according to The Guardian.