There won’t be a ‘war’ with Iran

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Oil is up and stocks are a bit down on some fears of escalating hostilities between the United States and Iran. But the U.S. killing of senior Iranian official Qassem Soleimani, and the Iranian retribution likely to follow, won’t become a traditional war between the two nations. Instead, Iran is likely to pursue “asymmetrical” actions against American interests that fall short of outright military provocation and may be hard to pin on Iran’s theocratic regime.

The U.S. strike targeted Soleimani, who headed Iran’s terrorist command,  he has planned many attacks against American forces in the Middle East and was probably involved in the violent protests at the U.S. embassy at the end of 2019. Those protests followed a U.S. strike on an Iranian backed militia in Iraq on Dec. 27, which was itself a response to a militia attack that killed a U.S. contractor. So the Soleimani killing was itself part of a cycle of tribal warfare between the United States and Iran that will no doubt continue.

Iran would be foolish to attempt a traditional showdown with the U.S. military. Iran can attack U.S. ships in the Persian Gulf, and probably cause some damage. The Iranian navy could probably shut the Strait of Hormuz, the entrance to the Gulf, a key transit point for about 20% of the world’s oil. That would undoubtedly send oil prices far higher than the 4% spike that hit after the Soleimani killing, causing temporary distress in global economies.

 Iran can’t defeat the U.S. military or close the Strait of Hormuz for more than a few weeks, and it knows that. “Leaders in Tehran have a healthy respect for U.S. power and likely recognize they have little to gain from an all-out war,” writes analyst Henry Rome of the Eurasia Group. Iran’s economy is in trouble, and a full-out war with the United States would make everything worse. It could also weaken internal support for a regime already on shaky ground and end with the destruction of much of Iran’s military.

The odds of a military conflict

Eurasia Group estimates a 28% likelihood of a short, limited conflict. It puts the odds of a broader war involving attacks on oil infrastructure at just 12%. Overall, that’s a 40% chance of some kind of war.

The outlook for the other 60% is hardly rosy, however. That is likely to involve more Iranian attacks on U.S. bases in Iraq and an effort to push U.S. forces out of Iraq completely, they have been pushing that goal for years now. “Some U.S. soldiers could be killed,” Eurasia Group predicts. “The U.S. will retaliate with strikes inside of Iraq.”

Financial markets are exposed to this geopolitical tribalism almost exclusively through oil prices, and through uncertainty about where oil prices are headed. Shale oil drilling in the United States has made the U.S. economy less vulnerable than it used to be to a Middle East oil shock—but not impervious.

Research firm ESAI Energy warns against complacency. “Statements that the oil market has tremendous spare capacity and can easily weather a new disruption are glib and misleading,” the firm advises. “An extended period of conflict in the region will support prices by fueling uncertainty, even as alternative suppliers step up.”

Like Eurasia Group, ESAI thinks the escalation between the United States and Iran will play out mainly in Iraq, where the government is weak and Iran has become deeply influential. Iran could target oil facilities in Iraq, which account for about 5% of world production. And of course it’s always possible Iran could attack oil infrastructure outside Iraq, as it apparently did with a missile attack on Saudi oil facilities last September. But any such attack traceable to Iran invites U.S. retaliation, and with the strike on Soleimani, President Trump has signaled he’s willing to act.

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