Iraq and the Oil Market

How Much Will Prices Rise?

A U.S. Geological Survey satellite image shows smoke rising from the Baiji refinery near Tikrit, June 18, 2014.
A U.S. Geological Survey satellite image shows smoke rising from the Baiji refinery near Tikrit, June 18, 2014. (Courtesy Reuters)

It stands to reason that one of the effects of the turmoil in Iraq will be a change in oil prices. Indeed, the violence in OPEC’s second-largest producer has already sent oil prices to ten-month highs. A recent report from the International Energy Agency (IEA) put it well: “while Iraq’s production is huge, so are the political hurdles it is facing -- and nothing provides a clearer example of that risk than the military campaign.”

Yet this is no time to panic. For one, Iraq is not the only dark cloud hovering over the world oil market. Libya, with its 48 billion barrels of reserves, is pumping a mere ten percent of what it can, the lowest level since September 2011. Sabotage has significantly reduced the flow of oil out of Nigeria as well. And, if Iran and the West can’t reach a deal on Iran’s nuclear program in July, Iran could soon be facing renewed sanctions on its oil industry. In other words, Iraq might be the least of the world’s worries.

Further, despite some weaknesses in production, world oil supply is actually fairly healthy at the moment -- up a million barrels a day over just a year ago. It isn’t because of OPEC. (At a recent meeting in Vienna, OPEC members decided to keep producing 30 million barrels a day, as they have for nearly three years.) Rather, supplies are up because of North American production. In addition, China has diversified its sources of oil imports and stockpiled sizeable amounts of oil in recent months, mitigating the risk of a global shortage from the loss of Iraqi oil production.

That said, if Iraq sees a major supply disruption for a prolonged period -- one that wiped out nearly all of its export capacity over multiple months -- and if other countries in the region continue to see falling production, there are several things that Saudi Arabia, OPEC, and the United States can do to fill the void. Saudi Arabia, the country with the most surplus production capacity, could revert to its traditional role of bringing up extra oil. And, in case of market panic, the United States could release additional oil via its own strategic reserve. Of the two options, Saudi Arabia’s role is more important.

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