Israel damages economies of its Western allies with attacks on Iranian energy sector

Having opened the spigot of all-out war against Iran, Benjamin Netanyahu’s government took a further step last weekend. It crossed one of the last remaining red lines: direct attacks on energy infrastructure, such as fuel depots and natural gas processing facilities. This move not only jeopardizes Tehran’s export base, which is heavily dependent on fossil fuels; it also threatens to exacerbate the upward spiral in prices, thus hitting most of Israel’s traditional partners in the West. Europe depends almost entirely on oil and gas imports, and its economy is tremendously sensitive to their costs. And the United States, despite having become a major crude oil producer in recent years, needs cheap gasoline to ensure private consumption does not suffer.

The rise in energy commodity prices comes at a difficult time for the West. The eurozone has already experienced several quarters of stagnation and needs, more than ever, the European Central Bank (ECB) to continue lowering interest rates. This will only happen if inflation continues to moderate. Across the Atlantic, the change of course further diminishes the possibility that Federal Reserve Chairman Jerome Powell will lower the price of money, as Donald Trump has been unsuccessfully demanding for months.

“Obviously the impact on the region of the Middle East is immense, but the impact on all of us is immense,” British Finance Minister Rachel Reeves warned on Sunday, just hours after the first Israeli attacks on Iran’s energy sector. “We’ve seen it in recent years: what happens far from our borders has enormous implications for the United Kingdom.”

Immediately afterward, however, Reeves reiterated the UK’s support for Israel in its defense against Iranian retaliation: “We have, in the past, supported Israel when there have been missiles coming in.” A statement that could easily be endorsed, almost word for word, by the other major Western foreign ministries: despite calls for restraint, neither the EU, nor France, nor Germany, nor — of course — the U.S. has made even the slightest attempt to withdraw their massive financial and military support for Netanyahu. This is despite the damage this war could inflict on their own economies.

In October of last year, then-U.S. President Joe Biden managed to extract from Netanyahu a promise not to attack nuclear and energy infrastructure. Eight months later, Trump has not only done nothing to stop his counterpart and close Israeli ally: on the contrary, he has encouraged him, raised the possibility of direct involvement in the war, and even threatened to assassinate Supreme Leader Ayatollah Ali Khamenei, whom he called an “easy target.”

There is, however, a reasonable doubt about how far the Israeli prime minister will go in his offensive: attacking warehouses or processing centers, as has been the case up to now, is not the same as bombing oil wells or gas fields. If he crosses that second Rubicon, the impact on prices would be exponentially greater, given that, in the last two weeks, the price of a barrel of Brent crude has soared by almost 20%. The main continental gas index, the TTF, has risen by more than 15%. In both cases, of course, they are starting from historically low levels. And they are light years away from the levels reached in the early stages of the Russian invasion of Ukraine.

In the spotlight

Israel and Iran “have fought a shadow war for decades, but the current conflict is the most severe, with energy infrastructure also targeted for the first time,” International Energy Agency (IEA) experts emphasize in their latest oil report, published Tuesday. “While there was no impact on Iranian oil flows at the time of writing, fears of widening regional disruptions to oil traffic through the crucial Strait of Hormuz drove oil prices higher,” reads the document, which has been forcibly converted into a quasi-monograph on the Islamic Republic.

Crude oil supplies from the Middle East “face increasing risk as long as the war continues,” warns Helima Croft of the Canadian investment bank RBC Capital Markets. “It’s worrying that energy infrastructure was attacked from the second day of fighting.” One possible scenario, she fears, is that the Israeli army will attack the island of Kharg, through which virtually all of Iran’s oil exports pass. “The White House has probably tried to dissuade Netanyahu, but the likelihood [of escalation] increases the longer the conflict lasts.”

In the euro area, the ECB estimates that each percentage point increase in the price of crude oil has an impact of two-tenths of a percentage point on GDP. With the cumulative increase so far in June, the impact on the 20 economies that share the single currency would be around three-tenths of a percentage point of GDP. This figure does not include the equally significant blow from the rise in natural gas prices, which is still essential for industry and households.

The eurozone economy, however, has a powerful cushion that it didn’t have a few years ago: the U.S. dollar, the currency in which oil is priced, is currently at four-year lows, artificially lowering the price of crude oil.

Mitigating circumstances

If the rise in crude oil prices hasn’t been greater, it’s largely because — whether or not it sensed what was coming — the undisputed leader of the Organization of the Petroleum Exporting Countries (OPEC), Saudi Arabia, has been reopening the oil tap for weeks, injecting more supply into a market where consumption is beginning to show growing signs of weakness. China, embarking on a process of massive electrification of transportation, long ago left its peak demand behind. A similar earthquake, although of much lesser intensity, is taking place in the European Union, also with electric vehicles as its epicenter.

Other factors explain this impact. Current prices remain manageable: problems begin at $90 per barrel, still a long way off. The global economy is much less dependent on oil today than it was a few decades ago: during the second oil crisis in the late 1970s, generating one unit of GDP required more than twice as many barrels of oil as today. This is largely thanks to improved efficiency, the substitution of gas in industry, and the rise of renewable energy.

Iran is a heavyweight in the global energy market. It’s not Russia or Saudi Arabia, but its participation remains crucial to supplying the global fossil fuel market. In May, its production reached a seven-year high, according to the IEA: with the third-largest oil reserves on the planet, it contributes almost 4% of global supply. Last year, it was OPEC’s seventh-largest exporter. It is also the world’s third-largest gas producer, behind the U.S. and Russia and ahead of a major sector power like Qatar.

Even with production volumes still intact in the Middle East, there are already some tangible effects: some shipowners are already withdrawing orders in the region, where freight rates have been rising for days. “The price increase is largely a reflection of the increased risk of transporting oil in a conflict-ridden region,” summarize Henning Gloystein, Gregory Brew, and Babak Minovi of the risk consultancy Eurasia in an analysis for clients.

The greatest fear, however, is that Tehran might be tempted to use its strongest card: closing the Strait of Hormuz, the world’s largest passage for oil tankers, through which a third of the world’s crude oil flow passes every day. A move, however, with clear suicidal overtones, as it would mean giving up most of its own oil revenues, which are vital to its economy.

Closing this body of water, barely 34 kilometers (21 miles) wide at its narrowest point, would be lethal for the West and, even more so, for the global economy as a whole. Asia would suddenly lose its main supplier of oil — the Middle East — and Eurasian economists estimate that a barrel of oil would jump from the current meager $75 to over $100. A scenario, they qualify, which is “unlikely,” but one for which the U.S. and the rest of the Western powers have already begun to prepare, with naval escorts for oil tankers. It is, in short, something that — on paper — no one can afford. Not even Israel.

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