Israel-Iran strikes: What it means for South Africa

 ·19 Apr 2024

Markets are facing several shocks from escalating tensions in the Middle East. Economists at the Bureau for Economic Research (BER) warn that these global geopolitical risks will likely spill over into local markets.

Reports of an Israeli strike on Iran this week saw a significant spike in oil prices on Friday (19 April). The strike was in response to an “unprecedented bombardment” by Iran last weekend.

Iranian media appeared to downplay the impact of the strikes, but Brent crude still spiked, pushing above $90 a barrel – breaking the downward trend in pricing seen this week.

Israel launched a strike on Iran, according to two US officials, but the Islamic Republic’s semi-official Tasnim news agency denied the reports, and said the Isfahan nuclear facility was safe. The International Atomic Energy Agency confirmed there was no damage at nuclear sites.

Traders had been girding for an Israeli response to last weekend’s missile and drone attack, with the rhetoric escalating as Tehran warned against striking its nuclear facilities. The Middle East accounts for about a third of crude supply.

“Depending on the nature of strikes, we are moving closer toward a scenario where supply risks become a reality,” said Warren Patterson, head of commodities strategy at ING Groep NV in Singapore. “The market will likely have to start pricing in an even larger risk premium.”

Crude has rallied this year, with gains driven by the worsening hostilities in the Middle East, as well as OPEC+ supply cuts that have tightened the market. Higher energy prices, if sustained, would boosts risks for the global economy and pose a challenge for central bankers as they seek to tame inflation.

The supply curbs orchestrated by OPEC+, which include cutbacks in Saudi Arabia as well as Russia, mean that the producer group has a buffer of unused capacity of several million barrels a day. At present, the output restrictions are set to last through the first half of this year.

“We continue to highlight the heightened risk that this war will move up the escalation ladder,” RBC Capital Markets LLC analysts including Helima Croft said in a note before crude’s spike. “Oil supplies could be caught in the cross-hairs of this metastasizing conflict.”

Interest rates

According to the BER, Israel’s retaliatory strike was largely expected, so the impact on oil was not as big as it could have been. In fact, by mid-morning, Brent crude was again below the $90 a barrel mark, sitting at $88.

However, the geopolitical risk premium attached to prices is significant, as current demand and supply fundamentals would normally suggest a lower oil price, it said.

“There is concern that a sustained spike in the oil price would fuel inflation and reverse the expectations for rate cuts – with detrimental impacts for economic growth…Spikes, temporary or more sustained, in the oil price remain a real possibility,” the BER said.

The theme of ‘higher for longer’ interest rates has spread in the global and local narrative, but the BER said this is more concentrated in the US than in Europe, where indications are that rate cuts are around the corner.

However, given its impact on local markets, South Africa is likely to follow the US Fed’s moves more closely.

According to Investec chief economist, Annabel Bishop, the prospects for rate cuts in South Africa in 2024 are dimming, with the first cuts now only seen at the end of the year (November), if at all.

Petrol prices

The oil price tensions also risk pushing fuel prices much higher – which would also have a negative impact on inflation and, subsequently, the interest rate outlook.

Oil prices (expressed in the cost of international petroleum products) are already contributing to a significant under-recovery for petrol in South Africa, and price spikes not only risk pushing this higher, but also risk bringing diesel recoveries into the red.

The latest data from the Central Energy Fund (CEF) shows petrol prices are lining up for a 35 cents per litre hike in May (a 24-29 cents per litre drop for diesel, for now) – this is before factoring in the latest tensions between Iran and Israel.

The rand

According to the BER, these factors are all exacerbated by a weaker rand, which lost 2% against the dollar this week amid the growing tensions, and the US Fed scaling back rate cut expectations.

“Weaker currencies tend to fuel inflation, and should the (central) banks no longer see inflation slow, rate cuts will be off the table. Unfortunately for domestic consumers, this is probably more true for South Africa… as our currency is under more pressure,” it said.

With Bloomberg

Read: Petrol price double-blow for South Africa

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