Strategic Importance of the Strait of Hormuz
The Strait of Hormuz, a narrow shipping channel along Iran’s southern border, is a critical conduit for global energy and agricultural commodities. It carries approximately one fifth of the world’s seaborne crude oil, one fifth of liquefied natural gas (LNG) shipments, and about one third of global trade in urea, the most widely used fertiliser.
Recent missile attacks and escalating tensions in the region have led to an effective closure of the strait as companies quickly restricted transport through the channel. This disruption follows a long series of global economic shocks and raises concerns about potential cost-of-living pressures worldwide.
Economic Implications of the Strait Closure
Joseph Capurso, head of global economics at the Commonwealth Bank of Australia, commented on the severity of the situation:
"Of all the possible Middle East scenarios, the current state of play is one of the worst for the global economy."
"We expect the situation to escalate before it de-escalates. Iran’s leadership and military capabilities have been significantly degraded. However, what is unknown is their intent and capability to block the strait of Hormuz that would sharply push up oil and gas prices."
Despite these concerns, investors have remained relatively calm, anticipating that oil supply disruptions will be temporary and follow patterns observed in recent years. Brent crude oil prices, which reached their highest level in over a year, eased to just under $77.53 per barrel by Monday afternoon, marking a 6.4% increase from the previous week.
Asian stock markets recovered from early losses but remained 1.5% lower, while Australian stocks ended slightly higher, with increased interest in gold miners and LNG exporters. Investor confidence was bolstered by indications that the US administration might consider lifting sanctions on Iran if its new leadership adopts a pragmatic approach.
Potential for Greater Disruption
Analysts at UBS warned clients about the possibility of more severe disruptions:
"While a full physical closure of Hormuz would be challenging, Iran could attempt to disrupt traffic and push shipping companies and insurers to avoid the crossing.
We could be looking at a material disruption, potentially of a greater magnitude than the recent loss of Russian supply in 2022, which sent spot prices to [over] US$120/bbl."
However, UBS analysts noted Iran’s economic reliance on oil revenues, suggesting that as long as Iranian oil exports continue, the likelihood of a complete closure or strikes on regional energy infrastructure remains low, except as a last resort.
Impact on Fuel Prices and Inflation
Johnathan McMenamin, head of economic forecasts at investment bank Barrenjoey, highlighted the direct economic impact of rising oil prices:
"It is generally . It increases inflation directly through high bowser prices, but it can spill over into broader prices. At the same time, it tends to reduce growth through a reduction in the people’s ability to spend,"
Australian consumers are expected to feel the effects at the petrol pump. Shane Oliver, chief economist at AMP, provided a rule of thumb for estimating fuel price increases:
"Each US$1 rise in global oil prices adds 1 cent to a litre of petrol."
In a worst-case scenario where oil prices exceed US$100 per barrel, unleaded fuel prices in major Australian cities could increase by 40 cents or more, reaching $2.20 to $2.40 per litre.
The Reserve Bank of Australia, anticipated to raise interest rates again in May, faces the challenge of balancing inflation control with economic growth concerns. McMenamin noted:
"At the same time, they will want to act slowly and cautiously to ensure they don’t do any further damage to growth."
Regional Energy Security and Economic Effects
Australia’s position as a net energy exporter, due to its substantial LNG and thermal coal exports, is uncommon in the Asia-Pacific region. Richard Yetsenga, ANZ’s chief economist, explained that most Asian countries, except Malaysia, import more oil than they export. Countries such as Japan, South Korea, Taiwan, Singapore, and Hong Kong import over 80% of their domestic energy consumption.
"The reality is that this is a broader shock to the region; if higher oil prices are sustained, it is a loss of national income for these countries,"
Yetsenga described the economic impact of higher oil prices as manageable but warned of potential political pressures arising from increased energy costs:
"Asia has cost-of-living issues like the rest of the world because of the shift in price levels over the tail-end of the pandemic.
China is struggling with soft consumption, so an increase in energy prices won’t be particularly welcome.
So an increase in oil prices, coupled with weaker local currencies, would still mean that governments take steps to mitigate the impact on households."
This dynamic is already evident in Thailand, where the government recently banned all petroleum exports and announced plans to use a national fuel fund to protect motorists from rising petrol prices.
"There are obviously a range of potential outcomes and we shouldn’t lose sight of the terrible human cost of another military conflict,"
"But the global economy has shown itself exceedingly resilient to the numerous shocks in recent years, and there’s no reason to think this will be any different."
China is a major buyer of Iranian crude oil, purchasing nearly all of Iran’s daily exports of 1.6 million barrels, which accounts for about 13% of China’s total seaborne oil imports, according to TD Securities. Despite regional tensions, Iran continued loading oil tankers over the weekend, signaling an intent to maintain crude shipments even as other shipping activities slow.
International Reactions and Geopolitical Risks
Following the confirmed death of Iran’s supreme leader, Ali Khamenei, Chinese Foreign Minister Wang Yi condemned the US strikes, stating:
"It was unacceptable to openly kill the leader of a sovereign country and institute regime change."
The strikes risk undermining a fragile trade truce between China and the US and complicate upcoming negotiations ahead of a planned meeting between US President Donald Trump and Chinese President Xi Jinping in Beijing later this month.
With one fifth of global gas supplies also transiting the Strait of Hormuz, an extended conflict that disrupts shipping could trigger significant energy instability in Europe, where gas inventories are already low. Citi analysts warned:
"European wholesale gas prices could triple to US$100 per megawatt hour were the strait to close entirely for three months, or operate at half capacity for six months.
That would still be well short of the more than US$300/MWh peak that followed Russia’s invasion of Ukraine in 2022.
But analysts warned that if an extended Middle East war were to close shipping in the region, prices could potentially escalate non-linearly, similar to what happened in late 2021 and 2022.
Very high TTF [European wholesale gas] prices would have inflation implications especially for Europe, as seen in 2022,"
Patrick Commins is Australia’s economics editor.
