The Next U.S. Clash with China Will Be All About Iran's Oil
As if they needed it, U.S.-China relations face a new flashpoint on Nov. 4, when Washington's new sanctions on Iran take full effect with the stated objective of cutting Tehran's oil exports to zero, from a current 1.7 million barrels a day. China, which buys about one-quarter of Iran's crude, is shaping up as the center of global resistance to this unilateral action. "I don't expect China to acquiesce to Washington's demands, given the worsening relations between the two nations," says Stephen Brennock, oil analyst at top global broker PVM Oil Associates.
That looks like a setup for the mother of all trade disputes. Both sides have incentives to give ground quietly¡ªChina as a salve to already stressed U.S. relations, Washington to avoid an oil price shock. But the looming deadline does add more uncertainty to an emerging markets outlook that was fragile enough without it.
All of Iran's big oil customers oppose its being blackballed again. But Europe's hands are likely tied because its oil trade is dominated by big private companies that need to protect their interests in the U.S. and dollar-denominated financial transactions. China is in a better position to evade, says Peter Harrell, who worked on Iran sanctions for Barack Obama's State Department and is now a fellow at the Center for a New American Security.
"They have tons of midtier and smaller refiners who are not directly exposed to the U.S.," he says. Beijing also has a bit of experience buying crude in its own currency, having established "petro-yuan" contracts earlier this year.
An ad hoc playbook for not sweating some of these smaller sales was written from 2012 through 2015, when the Obama administration gradually whittled Iran's exports down to one million barrels daily. Harrell suspects President Donald Trump's team will be satisfied if it beats that record, zero-tolerance rhetoric notwithstanding.
China looks willing to follow the slow-noose template again, cutting imports via big state-owned refiners like Sinopec as a sop to Washington. "Our base case is that the two sides avoid a major confrontation over Iran sanctions, but it will be a potential source of conflict," says Michael Hirson, who leads China coverage for Eurasia Group.
The Trump administration's forbearance depends to a considerable degree on whether Saudi Arabia and other Middle Eastern producers increase output to replace Iran's, a move Trump has openly encouraged. Greater Saudi supply would spell greater leverage over Iran's rogue customers. But Riyadh won't rush to oblige, analysts say.
"OPEC doesn't want to add 1.5 million barrels and maybe push the market back to surplus for 2019," says Edward Bell, lead commodity analyst for Emirates NBD in Dubai. "And now there's some face to be saved, not to be seen doing a favor to the U.S."
The surest prognosis is that Trump's hard line on Iran and China is unlikely to produce the concessions he wants from either target. Tehran's leaders are hunkering down and hoping for a more dovish successor to Trump, says Ariane Tabatabai, who follows the country for RAND. "They're trying to wait it out and see what happens in 2020," she says. China's hierarchy has made a similar decision, implies JPMorgan in an Oct. 4 note, declaring, "A full-blown trade war becomes our new base-case scenario for 2019."
Few investors will want to dig in and endure pain for two years, though. The Iran sanctions face-off is one more thing to worry about.