Why Gaza war has not yet caused an oil price spike


A member of Putnam's Fixed Income team since 2007, Onsel Gulbiten analyzes macroeconomic issues, including inflation, interest rates, and policy developments.

  • Continuing violence between Israel and Hamas leaves open the potential for Hezbollah and Iran to become involved and has added a risk premium to oil prices.
  • Despite the turmoil, energy prices overall fell in October, partly on concerns about demand.
  • Even if the war does not expand across the Middle East, it already has implications for global oil supplies.

The calamity of war in Gaza since early October has so far had a more muted impact on oil prices than might have been expected given the severity of the violence. Prices have moved less than at the outbreak of the Russia-Ukraine war in early 2022. While we are mindful of the enormous human toll of the war, we will focus this commentary on the broader context of the conflict and energy markets.

Before the Hamas attack at the beginning of October, oil prices were falling along with the global risk appetite in response to higher interest rates. Oil prices jumped after the initial violence of October 7, but the impact on oil markets was short-lived. By the end of October, energy prices overall were lower than at the end of September. Markets may have been relieved that the rapidly rising tensions had not disrupted production. Global oil inventories rose in October, though the rise is less noticeable in U.S. inventory data, as U.S. exports have trended higher.

The drop in prices might also have signaled the market’s growing concern about demand for oil. One factor that might have reduced oil demand was unseasonably warm weather, although gasoline demand tends not to be affected by weather changes. Instead, we think it’s important to observe that U.S. gasoline demand has been trending below the last five years’ average since early July. Demand for other petroleum products has not shown the same noticeable weakness.

Lower U.S. demand is helping keep gasoline prices down

2023 demand (blue line) has fallen below the five-year average (black line) since July

Lower U.S. demand is helping keep gasoline prices down

Source: U.S. Energy Information Administration. Data as of 10/29/23.

Demand trends vary by product and country

Weaker-than-expected gasoline demand likely reduced the price spreads on gasoline, which, in turn, reduced the impact of temporarily higher crude oil prices on the U.S. consumer. Spreads on other petroleum products have not declined as much as the gasoline spreads. In other countries, wider spreads along with depreciating currencies — which increase the price of oil in local currency terms — might have reduced final demand, or at least slowed its growth rate.

China’s oil consumption, on the other hand, seems to be rising. Also, global jet fuel demand, as measured by the increasing number of commercial flights, has been growing at a fairly steady pace (when adjusted for seasonality) since April of this year.

The outlook for supply

The main concern for markets since fighting began has been the potential for warfare to spread beyond Palestine and formally involve Hezbollah and Iran. This possibility has already added a risk premium to oil prices, which is likely to remain in place for a while and could increase.

The war might not expand to include Hezbollah or Iran, as the fighting might have already achieved the objective of halting the effort between Israel and Saudi Arabia, backed by the United States, to achieve a diplomatic rapprochement. But possible implications for oil markets do not end there.

  • First, Iranian oil supplies may still be constrained. The U.S. administration had been turning a blind eye to larger volumes of Iranian oil exports since late 2022. Going forward, the U.S. is likely to maintain a harsher stance, preventing Iranian oil from finding its way to Western markets.

Rising oil supplies from Iran may have eased the price impact of Middle East conflict

Iran’s exports in October were more than twice as high as a year ago

Rising oil supplies from Iran may have eased the price impact of Middle East conflict

Source: Bloomberg estimates. Data as of 9/30/23.

  • Second, the Saudi-Israeli dialogue has been delayed by Saudi Arabia. Speculation suggested the proposed deal would have also increased Saudi oil supplies. With the deal on hold, the probability of Saudi production increases has significantly declined. An increase in Saudi production might depend on whether war-related supply concerns worsen and oil prices inflate.

Alternative sources in the Americas

In the event of disruption to Middle East oil supplies, the Americas offer other supply options. While the Biden administration might be closing the door on Iran, it seems to be opening the door for Venezuela. The U.S. and Venezuela have reportedly made progress in talks that would ease current U.S. sanctions and increase Venezuelan production. The situation is ambiguous, as the U.S. is tying sanctions relief to the government’s willingness to allow opposition candidates in national elections. But if recent progress continues, Venezuelan output could increase from 600,000 barrels per day to 800,000 in a relatively short period of time. Also, in the United States itself, rig count expectations have been rising, which can add to supply. U.S. shale production has been surprising to the upside. Last, releasing oil from the Strategic Petroleum Reserve remains an option.

U.S. shale production is adding to global supplies

Recent U.S. output eclipsed the pre-pandemic record

U.S. shale production is adding to global supplies

Source: U.S. Energy Information Administration. Data as of 10/31/23.

Oil prices could stay in a range

If the tensions do not escalate and Middle East oil supplies are not disrupted, the Saudis, in cooperation with Russia, are likely to continue with the current strategy of maintaining crude prices in a range of between $80 and $100 per barrel, in our view. Inventory dynamics will determine if they extend the production cut to the first quarter of 2024. The recent rise in inventories raises the odds that voluntary cuts will be extended.

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