It should come as no surprise that our readers are seeking clarity when it comes to many Iran-related aspects in light of the assassination of Qassem Soleimani and its consequences, with questions on their mind such as:
- How is Iran likely to retaliate?
- Will this retaliation be a calculated, tactical one, or something asymmetrical?
- How will the most vulnerable markets in this context react, for example the oil market?
- What about the other markets and bigger picture, does this situation risk bringing about something similar to the stagflation which was experienced in the past over in the US (for a China-oriented article about stagflation, albeit a speculative one, click HERE)?
These are just four examples and, again, it’s perfectly natural to be asking yourself such questions as an investor. In fact, it would be less than wise NOT to ask them and this article revolves around one potential answer to multiple questions: the Strait of Hormuz.
Why is the Strait of Hormuz a potential answer to many Iran-related questions in this context?
Let’s just say that in terms of sheer economic might, Iran is no match for the United States and its allies, with a GDP barely 100 billion dollars greater than that of Pakistan and a little over half that of Turkey. As such, Iran lacks the leverage a country such as China can put on the table, with its impressive US dollar reserves that it can (among other things) simply “dump” on the market so as to cause a chain reaction with results that are pretty much impossible to quantify.
As such, it is likely to choose carefully-calculated options, not necessarily because it wants to but more likely because there aren’t all that many choices on the table, calculated options such as:
- Leveraging its network in countries such as Lebanon and Iraq in an effort to cause damage to US interests there
- Putting its foot on the table with respect to its nuclear program, a dangerous decision which would risk generating sanctions across the board and isolating Iran internationally (even as it is and despite Donald Trump’s oftentimes less than diplomatic attitude toward allies, the US has quite a bit of them and Iran… well, doesn’t)
- “Choking” trade in areas it controls, especially the (in)famous Strait of Hormuz
Geographically speaking, we aren’t necessarily dealing with anything all that impressive, with the Strait of Hormuz simply connecting the Persian Gulf to the Gulf of Oman, enabling ships to gain access to the ocean from the Persian Gulf. The strait itself is less than 200 km long and in its most widest area, we are looking at slightly less than 100 (more specifically, from almost 40 km to slightly less than 100 km).
Again, on the surface (pun intended), nothing seems spectacular.
Economic data however speaks for itself, with ¼ of the worldwide oil trade passing through the Strait of Hormuz and approximately 1/3 of the world’s (liquefied) natural gas trade. In other words, the Strait of Hormuz is a key trade variable with respect to the energy dimension and returning to geography, it should be fairly easy to understand why it represents something one can consider a choking point.
As such, some of the textbook examples of Iranian leverage involve the Strait of Hormuz and it wouldn’t be the least bit a stretch to call the potential effects of it being rendered unusable by Iran devastating.
If no other solution that is deemed superior by their experts will be found, “choking” the Strait of Hormuz seems like one of the most obvious approaches. However, it is worth noting that from a game theory perspective, anything that hinders economic activity in one way or another tends to be quite problematic to implement in our deeply economically interconnected world.
Simply because oftentimes, implementing “sanctions” which limit trade results in you as the initiating entity essentially shooting yourself in the foot economically.
But isn’t Iran one of the most economically isolated nations?
It is… but an autarky, Iran is not, with (at best) North Korea representing the only modern-day example to that effect, a country analyzed from the perspective with its ties to China through an article which can be accessed by clicking HERE.
While Iran is more economically isolated than other nations, its relatively few allies are not and measures taken by Iran such as examples pertaining to the Strait of Hormuz risk affecting them negatively… allies including, of course, China. And speaking of China, the position it finds itself in at this point in time as far as the Strait of Hormuz in particular and the Iran situation more broadly speaking are concerned can be best described as conflicting.
On the one hand, China believes this situation and other examples contribute to the deterioration of the US worldwide position diplomatically speaking, especially in light of many of Donald Trump’s statements which include potential measures such as attacking cultural sites (something considered a war crime by current standards), even if many of them have been disavowed by high-ranking military officials.
On the one hand, China has economic challenges of its own to deal with (for example the decelerating economic growth rate and its consequences, moving toward an economic model which revolves around increased domestic consumption, etc.) and knows all too well that if things degenerate, the various economic bubbles which have been shaping up in the aftermath of the 2007-2008 Great Recession risk being pricked. Should that happen, for reasons which have been outlined in several past ChinaFund articles, China risks being affected more so than the United States and as such… let’s just say China isn’t exactly the #1 fan of volatility-inducing circumstances and decisions which risk bringing about economic calamities.
In light of how important China is in the Iranian equation, it would be fair to state that there are disincentives coming from the direction of China with respect to retaliation on Iran’s part which takes things so far that global economic turbulence scenarios become a threat. While nothing is certain and it remains to be seen whether or not unforeseen factors will pop up which change the equation, a straightforward preliminary conclusion would be this: as long as things are not taken too far escalation-wise, China stands to gain from Strait of Hormuz-related turbulence. However, as of a certain point, escalation risks tilting the balance in a manner China has issues with and as such, the message(s) from Beijing will most likely revolve around the two parties acting in a manner which at least maintains global economic stability.