The War in Iran Shifts to the Strait of Hormuz

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From the opinion pages of the Wall Street Journal,

this is Potomac Watch.

Is Donald Trump caught in a straight jacket

in the Strait of Hormuz as the Warren Iran enters?

It's third week, the Middle East choke point for 20%

of the world's oil is still largely closed.

Oil prices are up to $100 a barrel.

President Trump is calling an American allies

to help the United States patrol the straight

against Iran's mines and drones.

What are the options to reopen the Strait of Hormuz?

And what happens if it stays closed for an extensive period?

That's our subject for today.

I'm Potomac Watch, the daily podcast

of Wall Street Journal opinion.

I am Paul Gigo and I am here with my colleagues,

Alicia Finley and Joe Sternberg,

to inveterate watchers of the energy markets.

Let's listen first to Energy Secretary Chris Wright talk

about the oil prices on ABC on the weekend.

The conflict will come to the end in the next few weeks

and we'll see a rebound in supplies

and a pushing down a prices after that.

But yes, we were very aware, very aware

that we would have short-term disruption.

We would cause a little bit of increased prices on Americans.

Prices today are still far below what they were

in the Biden administration,

where they were begging, bartering, and bribing Iran

to behave better.

We had $5 gasoline in the middle of the Biden administration.

We hope we don't get there this time.

But at least this increase in gasoline prices

is for something that's going to change

the geopolitical situation in the world forever.

A couple of important points there to unpack, Alicia.

First, the point about relative prices.

Oil price at $100 a barrel now is high compared to the $65

of barrel it was before the conflict in Iran started here,

the latest conflict in Iran.

But that's not nearly as high as it was

during much of the Biden administration.

So that point by the energy secretary, is that correct?

Well, that's exactly correct.

And especially if you were to adjust the prices

for inflation going back to 2021 or 2022,

now they start to creep up in 2021

and that was actually before the Russia invaded Ukraine

and then they really spiked and went up $120 a barrel.

And stayed above $100 barrel for most of 2022.

But the result was higher gasoline prices

and it wasn't just an issue of crude.

It was also an issue of refining capacity

and the actual refined products

that you saw big spikes in,

which we're seeing in some extent now,

more so in the jet fuel space and diesel space,

which actually relies more on the supply

from the Middle East than actually merely gasoline

or crude products.

But comparatively, so you did see going back to,

you know, the 2008 or 2011-2014 period

when prices rose above again and above $100 barrel

and they stayed high, long,

much longer than they're expected to do so now.

And of course, that is hugely important, Joe,

because it reflects on how well the economy can continue

to do both of those price spikes

that Alicia refers to did not lead to a global recession

or recession in the United States.

And of course, that would be a big concern here

about whether rising oil and gasoline prices

will have a recessionary effect.

How do you look at that?

Well, I think the key thing I've been reflecting on here

is that although there is a global market

and a global price for oil,

it is not a global calamity

if you have a sudden spike in oil prices

even as Alicia pointed out,

a relatively modest spike in real inflation-adjusted terms

compared to previous episodes.

So what I'm observing so far is that the US economy

I think is in a position to be pretty resilient

in the face of this kind of modest energy price shock.

And I think that that is a testament

to the fact that US production has increased.

And so a big part of the economic story here

that we've discussed in recent weeks

is the decoupling over the past couple decades

of the US from the Middle Eastern energy supply.

Now, the problem from the perspective

of the global economy is that a lot of other important regions

have not decoupled in that way.

So I'm based in London and the United Kingdom.

Europe is having a very different experience

of this kind of energy price spike at the moment

because they had never resolved a lot

of the energy market vulnerabilities

that they first had to confront in 2022

after the Ukraine invasion.

And I think that Asia is in a position

where they have been much more dependent

on Middle Eastern oil and gas than the US.

So I think we're going to have a situation

where the oil price increase itself

is going to be a global story.

The effects of that are likely to be much more regional

at least for the time being.

We are going to take a break

and when we come back we'll talk about Trump's attempt

to rally the allies to come help the United States

keep the straight of hormones open when we come back.

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What we built today will help secure

a more affordable, reliable future.

Let's make it possible.

Visit permittingreformnow.org to learn more.

Paid for by the American Petroleum Institute.

Welcome back.

Apology go here on Potomac Watts, the daily podcast

of Wall Street Journal opinion

and I'm here with Alicia Finley and Joe Sternberg.

The Asian countries, South Korea

and Japan in particular are vulnerable

to mid-east oil supply shocks.

China, to some extent, although China

has had big stockpiles built up of oil for a while

so they have a little longer running time here.

But they also could be vulnerable

over time to a shortfall in mid-east oil exports.

So the big question then,

when can the straight of hormones reopen

on a regular basis where you don't have this threat to oil supplies?

Now, Iran is saying that the only tankers

that are blocked are in the straight

are anything associated with America and Israel.

So anybody else can go through it says,

not really true in practice as a couple of tankers

have been attacked and have been set aflame.

And of course, that means that insurance prices

for the ships, the tankers, they soar,

the shippers don't want to take the risk and traverse the straight

so that you don't get the same kind of traffic.

Now Donald Trump can see that.

And he is calling on allies to send ships

to help the U.S. patrol the Gulf.

That he's calling on our NATO allies.

He's calling on Japan, South Korea, even China.

He wants to come in and send some ships to help patrol the straight.

Let's listen to the President on Air Force One on Sunday.

I would really recommend that these countries

come in and protect their own territory

because it is their territory.

It's the place from which they get their energy

and they should come and they should help us protecting.

You could make the case that maybe we should leave

there at all because we don't need it.

We have a lot of oil.

We have with the number one producer anywhere in the world

times too.

By double, at least double.

Now I think it's much higher than that.

But we do it.

It's almost like we do it for happen.

But we also do it for some very good allies

that we have in the Middle East.

Well, we also do it because the President started this.

This most recent time and said, you know,

we're doing it for the reasons he has stipulated to strip

Iran of a nuclear program,

reduce its ability to threaten the region through proxies

or through missiles and so on.

But we are in this position now where we can certainly use some help

in the Gulf if we got some ships.

What do you think about this idea, Alicia, particularly in the context

that the President is banging on a lot of these allies

with tariffs and other demands?

Well, I think I don't know if you want to insist or demand

that they assist the US,

but I think they do have a vested interest.

They are much more exposed than the US to the energy price

shocks and it's not just crude.

It's LNG.

Our Asian allies get a substantial share of their LNG

from Qatar whose LNG plant has been essentially shut down

because of the conflict.

So they do have an economic interest in helping the US.

Now to your point, I think Trump has

to some extent alienated allies with his tariffs.

The emergency tariffs were recently struck down by the Supreme Court

but he has promised to impose 15% or is actually going ahead

and imposing 15% tariffs under this section 122 authorities

as now has begun section 301 investigations into many of these countries.

Allied countries, South Korea, Japan, Europe for committing unfair trade practices

against the US which could permit him to similarly impose large tariffs

on these countries much higher than above 15%.

So he's now threatening any of them and I wouldn't be surprised

if you see him now use that section 301 authority

to threaten them into trying to assist the US.

Again, I think they have their own strategic and economic interest

for doing so.

Yeah, I don't know if the Allied ships would actually make

all that much difference, Joe.

I say this because we have the anordinate fire power there anyway

and the problem is asymmetrical threat from Iran.

So that is drones and mines.

Now where the allies could really help is in demining ships.

Some of the NATO allies in particular have ships

that are specifically geared to getting rid of mines in a waterway.

And so that would be good.

You still have the drone threat which is an issue going forward

because all you need is just one drone swarm or just one drone

to bomb a tank or set it aflame and destabilize the Gulf.

So I think it may be, and I wonder what your view of this is,

it may be that the US is going to have to go in with troops.

And I say that in particular around Kharg Island

which is the main Iranian oil export platform.

That's the aisle just off the coast of Iran.

The president ordered that to be bomb,

that it's military installations on that island

to be bombed on Friday.

Pretty big news.

And I think that is a possible prelude to the deployment of US troops

to occupy that export terminal and put even more pressure on Iran

because it is the oil exports that Iran has still been relying on.

Oil going out of the Gulf through the strait to China, for example,

that they have been gaining some income on.

And is Trump were to occupy Kharg Island.

It would be risky because the troops would be on the ground there

and would be targets.

But if he did do that, that would put a lot more pressure on the regime.

Yeah, I mean, going back briefly to the question of the Allies first

and where are they.

I think that a big part of the story is actually the embarrassment

that is starting to simmer up in Europe or for the fact that actually

they may not be properly equipped to be participants in this conflict

in ways that would be helpful, which is really embarrassing for them

because you have all of these NATO countries that have been investing

much more heavily in their military build up over the past couple of years.

But they're not there yet.

And I think that certainly domestically, at least in the UK and potentially in France,

it starts raising some very awkward questions about why it is that these countries

that years ago used to be able to project military power around the world

in some form or another are now struggling to think of ways

that they could do so here.

And that is unfortunately going to create exactly the kind of dilemma

Paul that you suggested for Trump and the US at this point

because we may be reaching a point where particularly because we are not

getting more support from allies than we might have hoped for,

you have to start having a conversation in the US about troops on the ground.

You know, you can have a discussion about whether that makes sense.

I think the key point is the administration is probably going to have to work harder

than they have to date to explain this or and what it is all about

to the American electorate in order to get support behind boots on the ground

because I think that right now what you're talking about

is essentially aerial bombardment.

People feel one way about that.

It's going to become a much more complicated and fraught discussion

if you're starting to talk about putting troops on the ground directly in harm's way in that way.

And it isn't entirely clear to me that Trump is doing the right kind of communication

yet to bring people on board with that.

Well, I think the answer to that is he isn't.

That is not his main strength is explanation.

That's for sure.

Now, I think there is a little bit of jumping to conclusions on the part of the press corps in particular

that somehow the US was caught unaware of that.

Oh, my God, there's a straight-of-form moose.

It's a choke point. It's a potential choke point.

We've known that for years.

That's one of the reasons that American presidents,

at least before Donald Trump, never decided to act against Iran

because there was always that risk the straight would be closed.

Now, Reagan did back in the 80s with his flagging operation,

but presidents since then have always been too worried about the oil price.

So this president has acted and there is a strategy that has been put in place

that is sort of a staggered plan.

Well, first you have to take out their air defenses in Iran.

Then you have to go take the missiles on the launchers and the drone production facilities.

And you also go after command and control early as they did.

Then you can go after the IRGC, Islamic Revolutionary Guard Corps,

and the Bashis para militaries, and now start to go out,

by the way, you also went after their Navy.

But you have to now go after the shoreline defenses that could be particularly effective against tankers.

And you have to go after the mines and you have to go after these swift boats that the IRGC has.

So you have got a lot to go after.

And that is still going forward.

Okay, we don't know the exact military plan,

but it seems that that is now the stage at which we are at.

And we will see how that proceeds.

All right, but I want to talk to you, Alicia, about the political impact here at home on gas prices.

What is the average 368, a gallon nationwide, or maybe a little higher than that?

That's up from before the war.

And Democrats are making a big issue out of it.

How big a political risk is this for the president and the Republicans as we are in a midterm election year?

Well, I think the political risk is that one of Trump's main selling points has been that he was able to bring gasoline prices down

from where they were under the Biden administration.

They were at, I wouldn't say record lows below four or five year lows since early in the pandemic going into this many places of the country.

They are well below over $3 a gallon.

And still believe it or not in some places that the country along the Gulf Coast, they are still below $3 a gallon.

But the rise in gasoline prices, especially if they persist, are going to hurt a lot of middle class consumers, Americans who rely on

personal transportation, less so on the coast actually in places like New York City where you get around by, you know, subway and such.

Or don't get along as the case might be depending on whether the subway is operating.

True that.

It's going to undermine one of his major strengths going into the midterm elections, especially as we've seen other sources of inflation and be somewhat sticky, especially in the services categories.

And so it does to some extent undermine his affordability message.

Even though I think his message of this, we need a little bit of pain right now to have earned a bigger pain down the road if Iran were allowed to continue to build it up.

It's military and its missiles and wardrobe capacity, which could allow to do even more harm.

Right. You wrote a bracing column published today, Alicia, on California's experience with gas prices and how governor Newsom is blaming Donald Trump for it.

The gas price increase yet California gas prices are what a buck eighty a dollar eighty cents on average higher than the nationwide average because of governor Newsom's policies that are hostile to fossil fuels.

And one of the, I think the amusing facts, frustrating facts if you're in California, but amusing if you appreciate political irony is that basically California is in a position where the California's are paying so much more for energy and they are importing foreign oil as other parts of the country don't have to do it.

Right. Well, that of course increases the emissions, but about 60% of California's crude that supplies in state refineries comes from overseas and about a third of that actually comes from the Middle East.

And then you got another 15% because of refinery closures and state 15% gasoline that gets imported much of that actually is now coming from Asian refineries that rely on truth from the Middle East.

One reason why it's prices have actually increased much more so than in the rest of the country.

And again, this is a confluence of all the policies, some of which did predate Gavin Newsom, but that he has ratcheted up including the state's cap and trade standard low carbon fuel standard limitations on, you know, where companies can frill wells.

And it's all coming home to roost and now he's tried to deflect the public or deflect attention from his own policies by blaming President Trump.

And he probably will get away with it here because the press doesn't want to cover that except for one Alicia Finley.

All right. We are going to take another break and when we come back we'll talk about the Federal Reserve meeting this week and whether or not that august body is going to move interest rates as it looks at the impact on inflation and the economy from rising energy prices when we come back.

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Don't forget you can reach the latest episode of Potomac Watch anytime. Just ask your smart speaker. Play the opinion Potomac Watch Podcast. That is play the opinion Potomac Watch Podcast.

From the opinion pages of the Wall Street Journal, this is Potomac Watch.

Welcome back. I'm Paul Gigo here on Potomac Watch with Joe Sternberg and Alicia Finley. Joe, we have here this week also the Federal Reserve Open Market Committee is meeting to consider interest rates again.

The signals are it's going to stand pat not make a change but it's an important meeting in the context of the Iranian War and the soaring gas prices because it'll be interesting to see what the Fed's view of the impact of the war and rising energy prices is number one on the economy and number two is on inflation.

Exactly. There are going to be red hearings all over the place. So folks tread carefully as you're looking at a reporting around this week's Fed meeting.

One important point on the inflation thing is that a rise in prices for one good within the economy even a particularly important good or category like gas or energy in general is not by itself inflationary.

A lot depends on how the rest of the economy reacts to that which other prices might end up offsetting in various forms as people change their behavior.

So remember inflation is not a phenomenon of a handful of prices increasing. It's a broader phenomenon of loss of confidence in the currency and ratcheting up prices for everything.

And from that perspective one of the really interesting stories that's going on here that I don't think people are talking enough about is the extent to which the US economy is maintaining its resilience and maintaining the faith of global investors.

So I mean while everyone else out there has been looking at oil prices I took a moment this morning to look at things like the gold price which certainly has ratcheted up in recent months but has not spiked as a result of this conflict in Iran and certainly surging prices for gold or precious metals are often an early warning sign that there is inflationary danger ahead.

You know the dollar maintaining its strength relative to other currencies in the world as we're seeing the flight to safety I think that that has implications for prices in the US on inflation because a stronger dollar will tend to be disinflationary.

So I think that you have all of these indications that for now this is a shock and the economy will have to absorb it in the same way that the economy is a giant machine for absorbing all kinds of developments whether it's technological progress in AI or an oil price shock or tariffs the marketplace exists to absorb all of this and find its way to a new equilibrium.

And I think that a key point would be for the Fed to not get so excited about oil prices in particular I mean they want to be vigilant as should we all but not necessarily panic about that and they also should probably resist the temptation to intervene to fine tune the economy either by trying to offset oil price increases or by trying to preempt some kind of decline in employment that may or may not ever materialize.

If you look at where inflation has been before the conflict in Iran it was pretty sticky at about upper levels two or three the personal consumption expenditure price level which is the one that the Fed watches most closely particularly the core PC as it's called without food and energy is sticky at about three three point one I think maybe but so over the last 12 months.

So that's not a signal that the Fed should suddenly ease on the other hand they'll also be watching for signs of slow down in the economy and on that score one of the interesting signals here since the conflict began is the long bond rate the 10 year treasury bond has actually popped up something like 30 basis points which you don't usually see if people are worried about a recession for example Alicia I mean that's usually a signal for the market.

It's usually send long rates down and I wonder if the long rate popping up here is in part a signal that the investors know that there's going to be an awful lot of spending going on to rebuild the Middle East and also to rebuild oil infrastructure supply lines to kind of outflank the

trade of hormones going into the future. Well maybe I think there's also the flight to safety component and maybe they're also you know markets seem to have this belief that high oil prices breed inflation and therefore inflation is going to be higher and so interest rates are going to stay higher for longer than they had expected they were expecting the Fed to start cutting I think this month and that seems to be off the table now and that's not being just because of the war oil prices.

Because I think you know inflation has proven stickier so there are a variety of reasons that the long bond rate you know maybe higher has ticked up my concern just from a policy perspective is Trump is very sensitive to these rates in part because they affect the mortgage rates and that this could end up breeding more bad policy to try to reduce mortgage rates and to make housing quote more affordable.

When you get big events like the Iran war which have all kinds of other consequences the temptation to buy policy is always there and we have to watch that carefully one other point before we close on the political risk point.

I was talking to a Republican senator who's going to win the Senate in this election year and I asked how long do you think the president has to conduct this war before there's real

political damage that lasts through the election and interesting that the senator's response was about 60 days which is longer than I think many people suspect now and this assumes of course that the oil price comes down after the hostilities and the economy shows resilience like Joe said I thought that was interesting Joe briefly because it gives the president more running room than I thought.

Yes I'm actually surprised to hear that as well although it does make sense because 60 days gets us to just before the memorial day holiday which is you know particularly whenever you're talking about the politics of gas prices that's an important event in the summer.

So I think that a lot of this though is not going to be just about the duration of the war it is going to be about how Trump and Republicans communicate about it and if he wants to minimize or mitigate any of the potential

negative political consequences of this he is going to have to do a much better job of explaining exactly what the purpose of this conflict is how we are measuring success and whether we are succeeding I think that that's the kind of leadership that people look for when we are in this kind of a war situation and they will punish Republicans if they don't deliver it.

Today we're going to leave it at that for today thank you Joe Sternberg thank you Alicia Finley we are here every day on Potomac Watch thanks for listening.