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What happens if Iran blocks the Strait of Hormuz?
U.A.E. is weighing some projects

Wall Street Journal
August 27, 2007
By Matt Chambers
As tensions simmer between the U.S. and Iran, a big energy threat hangs over the world.
Iran has said that if the U.S. attacks, it will respond by disrupting trade through the Strait of Hormuz - the narrow gateway that tankers use to bring oil from the Persian Gulf to the rest of the world. About two-fifths of the world's seaborne oil passes through the Strait.
Now sheikdoms in the United Arab Emirates - the third-biggest OPEC oil producer - are looking at projects that would keep oil and commerce flowing if the Strait is blocked. The U.A.E. won't say the projects are a direct response to Iran's threats - but the plans would clearly help in the event of an emergency.
Many of the plans center on the U.A.E.'s sleepy eastern coast, which is on the open-ocean side of the Hormuz choke point. Abu Dhabi, the key oil producer among the U.A.E.'s seven semi-autonomous enclaves, is planning an oil pipeline to the eastern emirate of Fujayrah, where it can be carried to the sea without passing through the Strait. And a host of other development is being considered for Fujayrah, including a larger port and the world's biggest liquefied-natural-gas storage and trading hub.
In terms of volume, blocking the Strait of Hormuz "is probably the biggest single energy-security risk that exists in the world," says Lawrence Eagles, head of oil markets at the International Energy Agency, the Paris-based energy watchdog for the world's most industrialized nations. "There is a lot of discussion on these issues, and from an energy-security perspective, it would be very welcome to have any opportunity to bypass the Strait of Hormuz."
For the IEA, the issue is an important one. In the event of an oil disruption, the IEA will likely release emergency stocks held by member countries of the Organization for Economic Cooperation and Development. While at the end of 2006 there were 1.5 billion barrels of oil in the emergency stocks, representing about 88 days of oil output through the Strait, this would take time to coordinate and distribute.
"The issue is how much crude can be moved (from stockpiles) in how much time - there is only so much that the IEA can do," says Mr. Eagles.
About 17 million barrels of crude oil moved through the Strait of Hormuz daily last year, representing more than a fifth of the world's total supply. The oil is taken single file through the two-mile-wide shipping lanes by a steady stream of tanker traffic. While the export level has dipped this year under self-imposed production cuts from the Organization of Petroleum Exporting Countries, it is expected to grow to as much as 32 million barrels a day by 2030 as Persian Gulf countries increase production, according to the IEA's 2005 World Energy Outlook.
So far, the U.A.E., which produces 2.5 million barrels of crude oil daily, has committed to only one major oil project to bypass the Strait: the pipeline between its onshore Habshan oil field, in Abu Dhabi, and Fujayrah. The Abu Dhabi-owned International Petroleum Investment Co. this year awarded project-management and construction contracts and plans to have the pipeline finished in 2009. It is expected to move 1.5 million barrels a day.
If the pipeline is a success, it could take some pressure off oil prices that invariably rise when tensions with Iran boil over. Of course, the pipeline couldn't completely solve the problem of a blockade, since it will account for less than 10 percent of the normal amount of oil going through the Strait. "Any incremental supply helps, but quantifying what effect that would have (on prices) is very difficult" and would depend on other factors such as how long supply was disrupted, says Mr. Eagles of the IEA.
The pipeline would bring another economic advantage: sparing shippers the travel time and expensive insurance rates charged for entering the Gulf. Insurers add a "war premium" for ships heading to most Persian Gulf ports, and some analysts fear this premium will increase if Iran tries to block the Strait.
Apart from the pipeline, Abu Dhabi is studying the prospect of building a refinery in Fujayrah. And Fujayrah itself is gearing up for a host of other expansion projects. In preparation for the pipeline, it is expanding the size of its port, adding 16 new tanker berths. It also is preparing for a wave of new oil and refined-product storage capacity, which could hold about 25 million barrels, planned by producers and trading companies.
Cramped by the Hajar mountain range, Fujayrah has also earmarked an area near its port for land reclamation for industrial projects, extending about one-third of a mile into the Gulf of Oman - which sits on the other side of the Strait from the Persian Gulf - and up the coast for 2.5 miles.
Dubai, the U.A.E.'s booming commercial center, also has plans in Fujayrah - but not for oil. The emirate has seen its oil production dwindle in recent years, so it wants to lessen its dependence on the fuel. One scheme it is looking at involves profiting from the region's production of liquefied natural gas, which is cooled to a liquid so it can be transported by tankers.
As part of the plan, Dubai wants to build in Fujayrah a $2 billion LNG storage plant previously slated for Dubai, according to an official familiar with the matter. The storage hub, which will be the biggest of its kind, is intended to offer the ability to store, trade and plan supplies of the fuel. A location outside the Persian Gulf is seen as more reliable.
Dubai is also trying to create a new benchmark from which the region's crude oil can be priced. The Dubai Mercantile Exchange, which was started this year by Dubai and the New York Mercantile Exchange, has chosen to base its futures on Omani crude, which ships from the eastern port of Mina Al Fahad, on the east coast outside the Strait of Hormuz. Among other things, this would allow futures trading to continue if the Strait were blocked and Persian Gulf supplies were cut off.
Concern about the reliability of oil exports through the Strait has buoyed oil prices this year as Tehran continues to defy U.N. Security Council demands to stop uranium-enrichment work. The U.S. and some of its allies accuse Iran of using its civilian nuclear program as a cover to produce weapons, a charge Tehran denies.
Iran's threats to disrupt oil have come from as high up as Supreme Leader Ayatollah Ali Khamenei. If any country attacks Iran, "shipment of energy from this region will be seriously jeopardized," Ayatollah Khamenei said in a June 2006 speech. He also said the U.S. and its allies won't be able to provide security to all the shipments that transit close to Iran's coast. Iran's oil minister at the time, Kazem Vaziri Hamaneh, later said that if the country's interests are attacked, oil would be used as a weapon.
While most security and regional analysts doubt Iran's ability to block exports for any amount of time, recent naval exercises indicate Iran is testing its ability to do so, with antiship missiles and mines, according to the commander of U.S. naval forces in the region. But blocking the Strait would be difficult, says Vice Admiral Kevin Cosgriff, commander of the U.S. Fifth Fleet. And the U.S. and other countries that rely on trade through the passage would be forced to act.
Heinrich Matthee, Middle East analyst in London with the security-consulting firm Control Risks, says totally blocking the Strait would exhaust Iran's resources and would likely only be a last resort. But, he says, Iran doesn't have to completely block the Strait to cause trouble. It could also seriously disrupt shipping by using nonmilitary boats to lay mines in the Strait, which is 34 miles wide at its narrowest point.
"What you may end up with is a civilian vessel with a mine, laying the mine, and going away, and that could be done for a long time and done quite cheaply," says Mr. Matthee. The move could end up boosting insurance rates and oil prices.
Copyright 2007 Dow Jones & Company, Inc.
The Wall Street Journal
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