Iran is threatening to close the world's most important transit lane for crude oil

Key Points
  • Iranian officials are threatening to shut down the Strait of Hormuz, the world's most important sea lane for crude oil shipments.
  • The strait handles about two-thirds of the world's seaborne cargoes of crude oil and other petroleum liquids. 
  • The Iranian threats are in response to President Donald Trump's attempts to swiftly wipe out much of Iran's crude oil exports through sanctions.
Foreign tourists in veils seen on a passenger boat with the Iranian flag amass in the waters of the Strait of Hormuz on May 2, 2017 near Hormuz Island, Iran. An oil tanker is seen on the move in the background.
Kaveh Kazemi | Getty Images

Rising tensions between the United States and Iran are resurrecting long-held fears that the Iranian military will attempt to disrupt much of the world's crude oil shipments by shutting the Strait of Hormuz.

President Donald Trump's decision to abandon the 2015 Iran nuclear deal and restore sanctions on the Iranian economy have stoked geopolitical risk and fueled an oil price rally. The administration escalated the situation last week when the State Department revealed it is pushing oil buyers to cut off all Iranian crude imports by Nov. 4, sooner than many anticipated.

Now, Iran is suggesting that if the United States succeeds in sidelining its exports, it will use its position along the Strait of Hormuz to stop other Middle Eastern countries from shipping their barrels to the world.

What is the Strait of Hormuz?

The Strait of Hormuz is a narrow waterway between Iran and Oman that connects the Persian Gulf to the Gulf of Oman, the Arabian Sea and the Indian Ocean.

The Persian Gulf is ringed by some of the world's biggest oil and natural gas producers, including Iran, Iraq, Kuwait, Saudi Arabia, Qatar and the United Arab Emirates.

Why is it important?

The strait handles about a third of the world's seaborne oil traffic, making it the most important chokepoint for shipping crude. In 2015, it handled roughly 30 percent of the world's crude oil and other petroleum liquids traded by sea, according to the latest data from the U.S. Energy Information Administration.

In 2016, a record 18.5 million barrels per day passed through the Strait of Hormuz, the EIA estimated. That year, global oil demand was 96.6 million bpd, according to the Paris-based International Energy Agency.

It's also a critical passageway for liquefied natural gas, a form of the fossil fuel super-chilled to a liquid state for export. Top LNG exporter Qatar sent 30 percent of the world's supply through the Strait of Hormuz in 2016, according to BP.

Why is the oil market worried about the Strait of Hormuz?

The strait has featured in a war of words between Iran and the United States in recent days. It's the latest escalation since Trump abandoned the nuclear deal, which lifted sanctions on Iran in exchange for its leaders accepting limits on the nation's nuclear program.

The withdrawal means Washington is restoring sanctions on Iran's oil exports. The sanctions are opposed by much of the world, except a handful of U.S. allies including Israel, Saudi Arabia and the UAE.

What has Iran said about it?

Iranian President Hassan Rouhani made a statement earlier this week that some are taking as a veiled threat to shut down the Strait of Hormuz.

“The Americans have claimed they want to completely stop Iran’s oil exports. They don’t understand the meaning of this statement, because it has no meaning for Iranian oil not to be exported, while the region’s oil is exported,” the official website of the Iranian presidency quoted Rouhani as saying.

The market read that as "They're not going to sit idly by while Saudi tankers go sailing through the Strait of Hormuz," said John Kilduff, founding partner at energy hedge fund Again Capital.

On Thursday, a senior official in Iran's powerful Islamic Revolutionary Guard Corps put a fine point on Rouhani's somewhat vague statement.

"If they want to stop Iranian oil exports, we will not allow any oil shipment to pass through the Strait of Hormuz," IRGC commander Ismail Kowsari told Iran's Young Journalists Club, according to Reuters.

Also on Thursday, the head of the IRGC, Mohammad Ali Jafari, told Iranian news agency Tasnim, "We will make the enemy understand that either all can use the Strait of Hormuz or no one," Reuters reported.

Has the United States responded?

On Thursday, the U.S. Central Command told Reuters the nation's navy is prepared to defend freedom of navigation and the free flow of commerce.

The Strait of Hormuz
Source: Google Maps

Who would be hurt by the closure of the Strait of Hormuz?

The top destinations for crude oil passing through the Strait of Hormuz are China, Japan, India, South Korea and Singapore. EIA estimates 80 percent of the oil went to Asia in 2016.

Threats to shut the strait have typically sent oil prices higher. If those threats finally become a reality, crude prices would likely rise significantly, potentially hurting average consumers such as U.S. drivers.

Is there another option to transport oil out of the region?

Saudi Arabia and UAE are the only two countries with the ability to pipe crude oil and natural gas out of the region, but their pipelines can handle just a fraction of the volumes that pass through the Strait of Hormuz.

The two countries had the ability to pipe 6.6 million bpd at the end of 2016, according to EIA. They were only using 2.7 million bpd of that capacity at the time.

So how likely is it that Iran will actually close the strait?

It's hard to tell. The Iranian regime has never actually shut down the passageway, but it has tried.

Toward the end of the nearly eight-year Iran-Iraq War, Iran targeted merchant ships in the Persian Gulf and began mining its waters. In response, U.S. warships set Iranian oil platforms ablaze and sank or damaged half of Iran's fleet.

Iran most recently threatened to shut down the Strait of Hormuz in 2011 and 2012, as President Barack Obama marshaled support for international sanctions on Iran over its alleged research into nuclear weapons development. The closure never came to pass, as the Obama administration's pressure campaign ultimately brought Iran to the negotiating table, yielding the 2015 nuclear accord.

Trump's unilateral withdrawal from the agreement has outraged Iran, which has few avenues for recourse as major oil companies prepare to cut off Iranian oil imports to avoid U.S. sanctions. It remains to be seen whether Iran will make another attempt to disrupt the Strait of Hormuz.

If it did, Iran would face a significant threat from U.S. forces. The U.S. Navy's Fifth Fleet is based in Bahrain, and Qatar's Al Udeid Air Base is home to the U.S. Central Command's operations for the region.