Center for a New American Security

Chatham House published a new study last week examining the implications of maritime choke points for the global energy market. The study, Maritime Choke Points and the Global Energy System: Charting a Way Forward, is timely considering tensions in the Persian Gulf where Iran has hinted at the possibility of closing the Strait of Hormuz in response to recent threats (economic and military) against its nuclear program.

The study generally provides a great overview of the challenges associated with seaborne oil transportation through several vulnerable straits and canals. For those interested in understanding the nature of China’s Strait of Malacca Dilemma, the international waterway through which it receives approximately 65 percent of its oil imports, the report offers some useful insights. In particular, the authors make an important distinction between the Straits of Hormuz and Malacca, noting that, “Whereas there are no alternative maritime routes to the Strait of Hormuz for oil exports from the Persian Gulf, shipments through the Straits of Malacca and Singapore could be re-routed, though at additional cost, through other waterways such as the Lombok Strait.” Such a distinction may seem insignificant, but it could have an effect on China’s strategic calculus over what role it might decide to play in helping keep the Strait of Hormuz open in case of a closure, including, perhaps, by supporting UN Security Council resolutions or other policies that may seem anathema to Beijing.

The report also reinforces the national security rationale behind ratifying the Law of the Sea Convention (UNCLOS). According to the authors, “The UNCLOS bargain accepted twelve nautical miles as the maximum extent of a state’s territorial sea but, in order to ensure freedom of navigation through key international straits, UNCLOS established a regime of ‘transit passage’ applicable to ‘straits used for international navigation’.” What is more, the authors note that “In signing UNCLOS in December 1982, Iran claimed that the benefits of UNCLOS, such as ‘transit passage’, did not apply to non-signatory states.”

There are several trends that are worth watching as they develop because they could affect the price of oil. 

Friday’s U.S. jobs report contributed to higher oil prices, in part due to predictions that demand for energy will continue to rise as the U.S. economy recovers. “U.S. benchmark crude increased by $1.48 on Friday to end the week at $97.84 per barrel,” CBS News reported. “It was the first time since Jan. 26 that the price of crude ended the day higher. Brent, used to price international varieties of crude, rose by $2.51 to finish at $114.58 per barrel.” The report added:

Prices rose after the government reported that the U.S. economy added 243,000 jobs in January. That was the biggest increase since April of last year, when 251,000 jobs were created. The unemployment rate fell to 8.3 percent — the lowest in three years. The positive U.S. jobs data added to evidence that the world's largest economy — and biggest user of gasoline — is growing stronger. 

Elsewhere in Nigeria, militants with the Movement for the Emancipation of the Niger Delta claimed responsibility for an attack against an Eni SpA oil pipeline. “A Rome-based spokesman for Eni, speaking on condition of anonymity per company policy, acknowledged that either a fire or attack had happened on the pipeline, cutting about 4,000 barrels of crude oil production a day,” The Wall Street Journal reported on Sunday. Nigeria, it is worth noting, is America’s fifth largest oil supplier.

Last Thursday the Environmental Law Institute (ELI) hosted a panel on “Offshore Oil & Gas in the Arctic: The Next Five Years.”   The event was focused on planned lease sales by the Bureau of Ocean Energy Management (BOEM) for the Chuckchi and Beaufort Seas in the coming five years.   BOEM is one of three new agencies created within the Department of Interior to replace the former Minerals Management Service.  BOEM is responsible for developing and managing the nation’s offshore energy resources, including the leasing of oil and gas blocks on the outer continental shelf.  In November 2011, BOEM published its Draft 2012-2017 Oil and Gas Leasing Program requesting comments from the public.  Read the notice here.  The comment period closes February 8, 2012.  Though the ELI program focused on the Arctic - the area likely to draw the most intense comments - the draft covers all proposed U.S. offshore lease sales through 2017.   The proposed lease sale dates off Alaska’s coast are 2013 for the Cook Inlet, 2015 for the Beaufort Sea and 2016 for the Chukchi Sea.  You can view the draft in its entirety as well several other related documents here. 

Among the key thoughts I took away were that the later dates for the Beaufort and Chukchi Seas locations reflect a desire to continue to study the region as well as to afford the opportunity to learn from the drilling slated to occur in these areas in 2012.  These leases present significant challenges such as the remoteness of the locations, the lack of supporting infrastructure close by and challenges in conducting spill response in this harsh environment.  However, the leases are located in much shallower water than the deepwater drilling currently occurring in the Gulf of Mexico. 

Yesterday, The Wall Street Journal reported that the Obama administration has decided to withdraw its demand for countries pursuing nuclear energy development to relinquish their right to produce nuclear fuel domestically. This is a significant shift from a 2009 agreement between the United States and the United Arab Emirates (UAE) that prohibits the UAE from enriching uranium domestically or reprocessing spent nuclear fuel.

According to The Wall Street Journal report, administration officials cited concerns that U.S. nuclear plant developers could lose a share of the market with a stringent requirement attached to nuclear-cooperation agreements that bound countries from developing domestic sources of nuclear fuel. “U.S. companies once controlled at least 50% of the world market for building nuclear reactors,” The Wall Street Journal reported. “This share has dwindled to around 20%, U.S. officials say, with Russian, French and South Korean companies gaining dominance,” and officials have cautioned that “Washington risked losing business for American companies seeking to build nuclear reactors overseas” if the United States continued to push the nuclear-cooperation agreement requirement.

Moreover, U.S. officials cited concerns that losing nuclear plant development to non-U.S. developers could weaken U.S. efforts to encourage countries to promote stronger nonproliferation safeguards and policies. “To the extent we lose market share, we lose nonproliferation controls and hurt national security,” a senior U.S. official told The Wall Street Journal.

President Obama will deliver his third State of the Union Address tonight. With the focus on the economy and jobs creation, we’re not likely to hear much from the president on the need for the United States to get serious about the Arctic or for Congress to ratify the Law of the Sea Convention. But there are some issues I think the president has an opportunity to address, and I expect we’ll hear much from him tonight on his vision for a clean energy future as it relates to economic security.  

In particular, I think President Obama has an opportunity to make the case for doubling down on clean energy investments, despite recent criticisms of the administration’s handling of Solyndra. President Obama has many success cases to point to in making the case for why these investments are good for the U.S. economy and long-term prosperity. For example, last year the administration announced that the Departments of Agriculture, Energy and Navy would match up to $510 million dollars in private sector investments in renewable biofuel projects. This initiative has already helped develop a larger market for alternative fuels and infused confidence in investors.

I don’t believe the president should have much trouble explaining why investing in alternative fuels and renewable energy projects are good for the United States. Most Americans have fresh memories of $5 a gallon gasoline and the toll it took on the U.S. economy in 2008. Moreover, there’s a larger vision that can be achieved through investments in renewable energy and non-petroleum fuels, and the president should press this message: that these government investments will help spur continued private sector investments in alternative liquid fuels, help move the United States away from its outsized dependence on petroleum and provide the foundation for a more resilient economy. Indeed, this is especially important at a time when ratcheting tensions in the Persian Gulf and instability in Nigeria are generating some uncertainty in the global oil market - and the United States certainly cannot endure another shock to the global oil market. The faster we move away from petroleum dependence, the more resilient our economy will be.

As I wrote in last weekend’s roundup, there is a lot of uncertainty looming in Nigeria that could impact the global oil market. A weeklong row between the government and labor unions over the government’s fuel subsidy cost Nigeria about $1.3 billion dollars. Labor unions suspended the strike early last week after Nigerian President Goodluck Johnson agreed to partially reinstate his government’s fuel subsidy.

Despite the brief respite from political turmoil, the country was rocked by a series of bombings throughout the week that reportedly left 256 dead. “The militant Muslim group Boko Haram, which is fighting for rule by Islamic law in the north, said it was responsible for blasts at eight government buildings in Kano on Jan. 20,” according to Businessweek. The same report said that:

The attacks by Boko Haram haven’t affected oil from Nigeria’s Atlantic coast, where companies including Royal Dutch Shell Plc, Exxon Mobil Corp., Chevron Corp., Total SA and Eni SpA pump more than 90 percent of the country’s crude output. Similarly, the financial markets in the southwestern commercial capital, Lagos, haven’t been disrupted by the violence.

Nevertheless, Nigeria’s instability may have long-term implications for the global oil market if violence affects the country’s oil sector. Already, “Brent oil for March settlement advanced as much as 59 cents, or 0.5 percent, to $110.45 a barrel on the London-based ICE Futures Europe exchange,” according to Businessweek.

Energy analysts will need to be watchful of developments in Nigeria as the government continues to grapple with unrest. Moreover, the fuel subsidy issue may again surface as a point of tension if fuel prices rise. According to a report from The Wall Street Journal, “Analysts worry that the [fuel] subsidy cut played into Boko Haram's antigovernment stance, helping it to channel the anger of Nigeria's young disaffected Muslims.” Thus, the issue could continue to affect stability in Nigeria.  

Nigerian President Goodluck Jonathan announced over the weekend that the government would partially reinstate fuel subsidies, prompting Nigerian labor unions to suspend a strike that threatened to halt Nigerian oil production, the fifth largest source of American oil imports. The strike began on January 9 after the government ended its $8 billion fuel subsidy program on January 1, contributing to a doubling in fuel prices – from about NGN65 ($.39) to NGN141 ($.87) per liter. The government had hoped to use the savings from the fuel subsidies to invest in infrastructure, including oil refining capacity that would enable the country to curb its dependence on importing refined oil products. Instead, the termination of the subsidies triggered massive public outcry that fueled protests and paralyzed the country.

President Jonathan said that under the partial reinstatement, fuel prices would be capped at about NGN 97 ($.60) per liter. Although Nigerian labor unions agreed to suspend their nation-wide strike, some reports note that the trade unions have not agreed to the new capped fuel prices, which may suggest only a fleeting agreement between the government and the unions. Energy analysts will remain watchful of developments in Nigeria, which could contribute to shocks in the global oil market. Indeed, while it is unclear how much oil production could be affected by future strikes given that most of the production process is automated, even minor disruptions could affect global oil prices by undermining confidence in the oil market, especially if tensions in the Persian Gulf worsen.

Nevertheless, the Nigerian government seems to have bought time, helping bring a modicum of stability to Africa’s largest oil producer, which exports more than 2 million barrels of crude oil a day and provides 11 percent of American oil imports. In the long term, however, analysts will need to keep a close eye on Nigeria, especially as other developments in the Strait of Hormuz and other sensitive regions that affect global oil prices unfold. 

One of the challenges with writing a paper like “The Role of Natural Resources in the South China Sea,” one of six chapters that appears in our new report, Cooperation from Strength: The United States, China and the South China Sea, is to make it accessible to a broad audience (i.e., those intimately familiar with resource issues in the region and those who know nothing about those issues at all). To do that I chose to avoid narrow recommendations that would have distracted the reader from the broader message I hoped to convey: that despite the complexity of resource challenges in the region (and potential for conflict), the United States can encourage policies that help promote peaceful competition over resources in the South China Sea, and thereby promote regional stability.

But for those interested, I’d like to share some ideas for how U.S. policymakers can encourage cooperation around several of the issues that I explore in the paper, beginning with energy. As I argue in the paper, the United States needs to focus beyond energy and give attention to fisheries, minerals and climate change, which are important resource issues that affect geopolitical behavior in the Asia-Pacific region. But I thought it would be good to start with energy, given that that’s where a lot of attention has been and is likely to be in the near future (for better or worse). Here’s what I would propose:

First, the United States should propose that APEC measure the hydrocarbon resources in the South China Sea in order to develop more realistic estimates.

Countries in the region are growing increasingly suspicious of unilateral efforts to survey oil and natural gas in contested territorial waters, in part because they may signal that the surveying country intends to develop those resources on its own – including in contested waters. For example, in May 2011, China severed the cables of an oil and natural gas survey vessel in Vietnam’s territorial waters. A similar incident in June 2011 involved a Chinese fishing boat ramming a Vietnamese survey ship. (Visit our Flashpoints feature for more information about these and other incidents.)

This weekend, Reuters reported that China may reshuffle its cabinet in 2013 to create an energy “super-ministry” that would take control of China’s now-scattered energy policies. The sweeping reform would merge the responsibilities of agencies like China’s National Energy Administration, the state energy regulator, the National Development and Reform Commission (NDRC), the body charged with setting energy prices, and may even reign in powerful and often amorphous state-owned energy companies, like the China National Petroleum Corporation or China National Offshore Oil Corporation (CNOOC).

Experts say an energy super-ministry may help Beijing bolster is energy security policy. Indeed, a new ministry with centralized powers may enable Beijing to overcome bureaucratic hurdles that have prevented it from creating important energy policies that conflict with bureaucratic interests, such as establishing a strategic petroleum reserve or developing streamlined policy to reduce greenhouse gas emissions. Yet reshuffling the cabinet won’t be easy given the vested interests of energy bureaucrats, as well as other agencies that could be affected by the change. “A government official directly involved in Chinese energy policy said the sprawling NDRC is likely to be the biggest stumbling block in the restructuring plan,” Reuters reported. “The challenge will not merely be the NDRC, already a huge ministry with considerable powers over the energy sector, but also others with a say in policy, like the water resources, transportation or agriculture ministries.”

Oil prices rose slightly on Wednesday due to increased tensions between the United States and Iran. The price of oil jumped more than $4 a barrel after the Iranian military warned on Tuesday that the U.S. aircraft carrier USS John C. Stennis not return to the Persian Gulf. The U.S. military dismissed the Iranian threat, stating that the United States will remain committed to ensuring the freedom of access and navigation of the Strait of Hormuz, an international waterway recognized by longstanding maritime norms, as well as the UN Convention on the Law of the Sea. “The deployment of U.S. military assets in the Persian Gulf will continue as it has for decades," said George Little, the Pentagon’s press secretary.  

Despite what appears to many as saber-rattling, energy analysts have cautioned that increased tensions between the United States and Iran could have serious implications on the global price of oil. For example, if Iran were to actually blockade the Strait of Hormuz, through which nearly 20 percent of the world’s oil is shipped, the price of oil could climb by 50 percent in just a few days. “Energy analysts say even a partial blockage of the Strait of Hormuz could raise the world price of oil within days by $50 a barrel or more, and that would quickly push the price of a gallon of regular gasoline to well over $4 a gallon,” The New York Times reported on Wednesday.