It’s difficult to ascertain what non-OPEC, and even some OPEC members will do about future supply cuts and how this will affect the California economy. According to energy trader Martin Tiller, “90 percent compliance is a good sign for OPEC, but Venezuela, UAE and Iraq aren’t following commitments.” Contrary signals are also coming from Nigeria and particularly Libya. New specters of doubt have also been raised whether Nigeria will be able to deliver vast amounts of new oil to the market. This is all good news for OPEC though prices are still struggling to reach the $60-70 a barrel range because of oversupply problems. The market is having a tough time finding equilibrium, and U.S. shale producers are ramping up production, causing prices to stay in the mid 50s. These are all interesting aspects of energy markets, but there are other factors for California to consider moving forward with the state’s energy and economic portfolios.
What California policymakers should begin concerning themselves with more than President Trump’s energy policies, shale producers and OPEC compliance are the two dynamics that could make oil jump significantly in the future – the geopolitical rumblings coming from Iran and North Korea.
These geopolitical-investment risks are financial pieces not being mentioned enough by state agencies responsible for energy regulation, large energy companies such as Chevron based in California, the Legislature and Gov. Brown. Both countries have upped their belligerence towards the world community, and that doesn’t bode well for consumers, which could add further hardship onto California’s economic fortunes.
Recently, the National Iranian Oil Company (NIOC) reported the discovery of multiple new fields with 30 billion barrels of crude reserve, and the Iranians are ramping up production to Europe in spite of other OPEC members cutting back production. NIOC also wants to boost oil production up to 4 million barrels a day.
Higher exports and increased oil production gives Iran billions in additional resources to cause global disruptions. However, the major uncertainties for California and world energy markets are whether the Iranians continue flouting United Nations ballistic missiles sanctions. These actions by a powerful nation and member of OPEC reveal the underlying significance and implications of future California energy developments. With California being one of the largest economies in the world, the economic forecasting entities (whether private or public) need to begin analyzing the Iranian dynamic.
California decision-makers also need to understand that Iran is not the pre-sanction weakling they once were, but instead is a rising global energy powerhouse with the means and capability to develop any type of military weapon system they deem necessary for the regime’s survival.
The western world led by President Obama, with California’s backing, and Iran began pursuing détente towards normalizing relations in 2015 with the nuclear weapon agreement between the P5 + 1. California markets welcomed those stabilizing signals, but that isn’t the case anymore. Iran is now a Middle East hegemonic force that has to be recognized by California citizens, public officials, energy investors and firms.
Nicholas Hereas of the Center for a New American Security believes:
“In order to confront Iran or push back more fiercely against it, you may find you’re in a conflict far more far-reaching and more destructive to the global economy.”
This plausible scenario could cause California gas prices to return to the days when wars in Iraq, continued Sunni-Shiite tensions and Hezbollah (an Iranian military proxy) fighting Israel in Lebanon caused oil to rise above $100 a barrel. Only focusing on supply and exploration & production (E&P) profitability without considering geopolitical-investment risk is either a boom or a curse for California. Hedge funds have taken historic long bets on oil rising, but wars and conflicts cause markets and governments to move in unforeseen ways. And with companies such as PIMCO and other investment management firms based in California this could open up our economy to a host of unforeseen risks.
This is why the Institute for the Study of War in a recent report said:
“For the first time in its history, Iran has developed the capacity to project conventional military force for hundreds of miles beyond its borders. This capability, which very few states in the world have, will fundamentally alter the strategic calculus and balance of power within the Middle East.”
These are turbulent winds to not take Iranian threats seriously. Having state investment pension risk equations that don’t account for how Iran acts in the Middle East now that their influence stretches from Tehran to Mediterranean while simultaneously fighting conflicts in Syria, Iraq and Yemen seems misguided. Moreover, they command tens of thousands of proxy militias, and without factoring these real-world facts into the price of servicing California’s trillions of dollars of debt doesn’t seem prudent either. Unfortunately, political risk and production are now equal partners when it comes to Iran and California’s economic stability.
North Korea is never mentioned in relation to California oil prices, but could very well be the biggest reason gasoline prices skyrocket at the pump. Thae Yong-ho one of the highest-ranking officials in the North Korean government to ever defect ardently believes Kim Jong-un would attack the U.S. with nuclear weapons if his regime were on the brink of failure. Mr. Yong-ho further elaborated the North Korean leader lives a secretive, isolated life that includes no one having the location of where he even lives. Kim Jong-un is further painted:
“His ability to wreak harm should not be underestimated if his very survival were threatened he would lash out and destroy whatever he could and once there was an effective nuclear arsenal the leader would be prepared to use it.”
In early February, North Korea tested a ballistic missile, which could be used to further its quest for an intercontinental ballistic missile (ICBM) that could eventually strike California. A U.S. Pentagon spokesman, Navy Captain Jeff Davis stated:
“North Korea openly states that its ballistic missiles are intended to deliver nuclear weapons to strike cities in the United States, the Republic of Korea (South Korea), and Japan.”
For California officials to not imagine a scenario where North Korea has the ability to strike major oil producers and consumers doesn’t seem shrewd. The difficult part for California energy regulators, energy firms, and consumers are how to measure the likelihood of North Korean belligerence into our economy?
Additionally, China is now angered that North Korean and Iranian sanctions placed on those countries have now affected Chinese firms. China has close economic and diplomatic ties with both countries, but particularly North Korea whom they share a border with on the northeastern part of China. North Korea needs China since they are its biggest trading partner along with its main source of food, arms and energy. Despite all this, China has allowed North Korea to continue multiple nuclear tests, and doesn’t appear likely to stop them anytime soon. This seems a perfect opportunity for Gov. Brown to push for closer ties between China and California to counter this risk.
Long-arching trends have been building up between North Korea and western-aligned nations for decades. At least Iran has OPEC to constrain them, but seemingly North Korea only has China to keep them from having a negative enduring impact on the global economy. Therefore, would China allow North Korea to fire off an ICBM towards California if that would have a lasting impact on their ability to grow their economy without abundant fossil fuel availability? The South China Sea standoff is just one example when confrontational geopolitics and economic trade collide – and the results can be disastrous – unless properly managed.
Relative oil and gas price stability has returned since prices have risen the last few months, but 2017 could see energy upheaval. Likewise energy asset prices for California could swing wildly, not at all, or somewhere in between. But geopolitical tumult could cause everything within the California energy value chain to wildly escalate; catching the state flat-footed the way the housing crisis in 2008 caught many banks off guard. The economics of oil and gas can manifest frustration in many ways, but what California officials at the local, county and state level shouldn’t overlook are how Iran and North Korea are shifting global conditions and energy markets.
Todd Royal is a geopolitical risk and energy consultant based in Los Angeles.