Corporate Debt Review

The Chinese Oil Play against US Iranian Sanctions

The Beijing-Teheran Connection

There has emerged more than anecdotal evidence that Beijing is intent on using crude oil as a weapon in the developing tariff fight with Trump.

China has indicated it would place American oil exports on its list for probable levees, a move that is intensifying following a second White House threat to include all ~$500 billion worth of Chinese exports on the US penalty list.

In the past several days, numerous well-placed international oil trading contacts have confirmed that middlemen based in Singapore, Hong Kong, and Switzerland have begun structuring counters to the US moves against both China and Iran.

It now appears quite likely that crude oil contracts will be featured in a combined move to offset impending US sanctions against Iran and trade tariffs against Chinese goods.

I had initially discussed the oil play a month ago here in ECRG Intelligence. Then, I suggested that sources were indicating a network of coordinated trading responses were in the works:

China has been structuring its own response [to the threat of renewed US Iranian sanctions]. Under the guise of its reaction to American tariff threats, Beijing has done two things: placed US crude oil and processed oil products on its own tariff list, and begun using greater consignments of Iranian exports as a weapon of its own.

China may not actually want to import massive new volumes of Iranian oil, but it can incorporate the moves into a broader network of contract swaps. Given the substantial trade surplus with Iran, this also allows product to be paid for in kind.

…[E]vidence now exists for a wider usage of future contracts and other derivatives by actors in several

trading markets to underpin support for the Iranian oil trade and an opposition to US sanctions.

[S]hould the US move to operationalize a sanctions regimen, there exist tangible signs that London, Paris, Berlin, Brussels, Moscow, and Beijing will provide sovereign cover for a rejection and concerted opposition.

Insured to be Trouble Ahead

Sources now tell me that two additional essential factors have been added into the mix by Beijing. First, a consortium of Chinese tanker companies has agreed to provide transit for Iranian crude bound for ports other than China. Second, these same companies are prepared to utilize an insurance holding under their effective control.

This latter matter was a decisive turning point in the effectiveness of US sanctions last time around. A mid-2012 decision extending secondary sanctions to insurance companies covering Iranian oil consignments effectively prevented Teheran from coverage by any underwriter worldwide.

In response, Iran hastily set up an alternative scheme involving the state-held domestic insurance holding, attempting thereby to provide support for foreign involvement. But given that shipping companies were now also subject to sanctions, the flow of Iranian crude into the global market collapsed significantly. My estimates at the time (November 2012) suggested the decline had been upwards of 70% (about 2.7 million to 800,000 barrels a day).

The final straw emerged in late 2012 when the five main Chinese tanker companies were advised by their insurance carrier (established and administrated by those same companies) that it would no longer cover Iranian consignments. That was tantamount to signaling that Beijing would no longer support direct importing of Iranian crude on Chinese-registered vessels.

The same five Chinese tanker companies and the same Chinese insurance underwriter are now moving to support Iranian exports in defiance of any renewed US sanctions.

Euron Eurown

The main difference between what was underway in late 2012 and the situation today involves the position of Europe. At that time, the European Union had introduced a complete embargo of oil imports from Iran.

This time around, the EU is a party to JCPOA (the Joint Comprehensive Plan of Action), as were the governments of Germany, France and the UK. JCPOA was the agreement to eliminate sanctions in response to an Iranian pull back from nuclear weapons development. It was a Trump decision in May to remove the US from JCPOA that precipitated the current crisis.

And Europe is unanimously opposed to the US sanctions move.

The EU, along with member countries Germany, France, and the UK, and treaty signatories Russia and China, has held two summits with Iran since the Washington action. In mid-May the parties met in Sofia to declare continued support for JCPOA. That summit indicated European central banks are prepared to establish direct payment channels to Bank Markazi (the Iranian central bank), thereby both providing sovereign cover and allowing a bypass of any US sanction renewals.

Second, earlier this month (July 6) the JCPOA foreign ministers met in Vienna. At the time, I was meeting in parallel with Iranian oil officials in Lausanne, Switzerland. In Vienna the EU accepted in principal to drop any remaining sanctions against Teheran in return for an Iranian continuation of International Atomic Energy Agency (IAEA) oversight of nuclear facilities.

IAEA just happens to be headquartered in Vienna. While meeting in Lausanne, we received confirmation that the agency had briefed the European JCPOA members on Iran’s continued compliance with the agreement’s dictates.

This is why all of what has transpired on the JCPOA front is important when we turn our attention back to the developing Chinese actions. Unlike previous moves to stymie American policy objectives, the current environment provides Beijing with significant global support and flexibility.

After all, both China and the EU are also confronting threats of widening trade tariffs from Washington.

What happens next will go far to telegraphing how concerted the international opposition to US action will be. As I have noted previously, the Chinese are now well along in fashioning a broadening and increasingly sophisticated network of contract swaps and access to finance allowing Iranian exported oil access to a number of Asian ports. This approach is attracting some interest in Europe as well.

There is much emerging around such moves. As we move forward in this unfolding drama, I shall have much more to say about what my network is saying.

The underlying problem in all of this is the need for Iranian oil exports to access foreign banking. That was the Achilles heel ultimately in attempts to avoid US sanctions last time. There are some indications here as well that there may be some support in Europe to buttress what is taking place in China.

But that access to banking remains the main concern. As we approach the November 4 self-imposed Trumpian deadline, this will be the focal point.

There have also been statements from Washington that some countries may be provided exemptions in the first phase of the sanctions roll out. I would suspect that Japan and India would be on that list. Exports to both would have the additional effect of providing contracts for the wider approach China has in mind.

The acrimonious weekend exchanges between Iranian President Hassan Rouhani and Trump served to ratchet up the heat somewhat. But if the US expected Iran would capitulate in this war of threat and counter-threat, it hasn’t taken place.

My entire network of sources in the Persian Gulf are agreed. There are no indications either from the ruling ayatollahs or among the political (but not religious) opposition in Iran that there is any movement toward a pullback.

As one contact in the region put it: “Iran does not respond favorably to coercion.” He then added: “One does not obtain compromise with a stick in this part of the world.”

About the Author

KentMoors

Dr. Kent Moors is an internationally recognized expert in oil and natural gas policy, risk management, emerging market economic development, and market risk assessment.

He serves as an advisor to the highest levels of 27 countries, including the U.S., Russian, Kazakh, Chinese, Iraqi, and Kurdish governments, to the governors of several U.S. states, and to the premiers of two Canadian provinces. He’s served as a consultant to private companies, financial institutions and law firms in 29 countries, and has appeared more than 2,300 times as a featured radio-and-television commentator. He appears regularly on ABC, BBC, Bloomberg TV, CBS, CNBC, CNN, NBC, Russian RTV, and the Fox Business Network.

A prolific writer and lecturer, his six books, more than 2,700 professional and market publications, and over 650 private/public sector presentations and workshops have appeared in 47 countries.