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Here’s Iran’s Best Option Following an Oil Freeze

Smiles all round from Saudi's Naimi (l.) and his Russian counterpart Alexander Novak (r.)

The recent accord between Russia and Saudi Arabia, which is a preliminary agreement to freeze oil production, has been widely acknowledged as an “agreement to do nothing” as almost all the countries that may be involved in any OPEC/non-OPEC co-operation are already producing at or near full capacity. The one major exception is Iran, where the government has been placed in an awkward position, perhaps deliberately, because of its stated intention to increase oil output in order to recover its oil market share following the lifting of sanctions. In effect, the Saudis have placed responsibility for the success or failure of the new production agreement in the hands of the Iranian authorities.

The Iranian response has been suitably ambiguous, for obvious reasons. Since the imposition of sanctions in mid-2011, Iranian oil exports have fallen by almost 1.5 mmbpd (million barrels per day), and so it is not surprising that the country has now set itself a target to recover its lost volumes while not unnaturally expecting its fellow OPEC members to make space for it in the market. Initial statements have asserted that production and exports will increase by 500,000 bpd in the coming months, with a target to recover 1 million bpd by the end of 2016. As a result, it is clear that any form of production freeze at January 2016 levels is not in Iran’s interest and completely contradicts its stated policy. However, the difficulty of Iran’s position is reflected in the fact that it also needs higher oil prices to help its ailing economy, with the IMF having forecast that GDP in the current economic year is likely to fall back to zero as a result of low prices. In addition, the country’s latest budget, which relies on oil for 25% of its revenues, is based on an oil price of $40 per barrel. Unfortunately for Iran, its own production growth could be one of the main risks to this level being achieved in 2016.

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Consequently, the Iranian authorities have a difficult balancing act to perform in trying to maintain their stated policy while not undermining oil prices. For the time being, it seems to be achieving this goal, though, as its oil minister, Bijan Zanganeh, has achieved the remarkable feat of providing positive news for the oil market without conceding that Iran will comply with the agreement to freeze production. Despite being put under significant pressure by the arrival in Tehran of the oil ministers from Qatar and Venezuela, Zanganeh managed to offer his support without committing Iran to anything. Indeed, his statement that “the proposed production ceiling should be the first step towards stabilizing the market” managed to achieve what the actual Saudi-Russia agreement did not, namely a 7% jump in oil prices.

Having offered his backing, though, he also added that “our situation is totally different to those countries that have been producing at high levels for the past few years” and that “Iran will not overlook its quota”, effectively refuting the idea that Iran would join a production freeze. This dichotomy of responses underlines that Iran had little incentive to come out and reject the deal, as it could have sent prices spiraling lower, but equally it has no reason to join an output freeze which would effectively keep Iranian production at broadly pre-sanction levels. As a result, the Iranian oil minister has encouraged the oil market to believe that Iran will not be overtly obstructive, but has emphasized that in any further negotiations, it also has a strong opening bargaining position. And it seems clear that further negotiations will be needed, as a number of other OPEC countries have also been setting out their stall. Both Iraq and Kuwait appear to have exaggerated their January production figures, while Libya has offered support for a freeze but, like Iran, has claimed the right to return production to levels seen before its political crisis.

See also: Why a Production Freeze Won’t Fix the Oil Collapse

An interesting question, then, is who can act as a useful intermediary between Iran and Saudi Arabia, given the clear political differences that the two countries have across the Middle East. One answer is the smaller OPEC countries, such as Qatar and Venezuela, where officials flew to Tehran last week. Another more intriguing option is Russia, which despite its arguments with Saudi Arabia over the conflict in Syria, appears to have become an ally in the oil market. It has also become much closer to Iran since the announcement in 2015 that sanctions would be lifted, making great efforts to position itself as a significant commercial and political partner by offering weapons, nuclear power facilities, and export credits in order to consolidate the relationship. Furthermore, it already appears to be involved in discussions over production levels, with Russian Energy Minister Alexander Novak commenting “Iran has a generally fairly constructive attitude to those proposals that our four countries are making.”

Importantly, Novak is expected to visit Iran on Feb. 29 in his role as co-chairman of the Russian-Iranian inter-governmental commission, and there is some speculation that he may use the visit to discuss the production freeze. The current agenda for the visit includes a broad range of economic co-operation matters between the two countries, but it is hard to believe that Russia will not use the opportunity to further discussions with Iran on the oil output issue. Having demonstrated its own willingness, as the largest non-OPEC producer, to encourage co-operation with OPEC, Russia could certainly hope to bolster its position in the Middle East by becoming an intermediary in negotiations with Iran over oil production issues.

Dr. James Henderson is a senior research fellow at Oxford Institute for Energy Studies.

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