proposal

Destabilization in the Middle East and its Impacts on Japan's Energy Security

Amane Kobayashi
Research Fellow, The Institute of Energy Economics, Japan

Introduction

This paper will delve into the impact on Japan's energy security of increasing uncertainty in the Middle East and global energy trends.1

In recent years, the situation in the Middle East has been unstable; the countries in the region are facing mounting tensions, and unpredictable armed conflicts have begun to occur. Since Japan relies on the Middle East for crude oil and natural gas supplies, the instability in the region is bound to have a serious impact on Japan's energy security and its economy. On the other hand, under the present circumstances, it is not easy for Japan to realize in the short term a "fossil fuel-free society" or "independence from the Middle East". Consequently, Japan needs to create a system capable of responding to the destabilization of the political and security situation in the Middle East, assuming that dependence on the region for its energy resources will continue into the foreseeable future. If so, Japan's contribution to stabilizing the Middle East will become all the more important.

Increasing Uncertainty in the Middle East and Decreasing US Involvement

The strategic environment in the Middle East is rapidly changing, such as the reduction of US involvement in the region, the expansion of Russia's military presence, and China's political and economic advance. In particular, the United States under the Trump administration is reducing its involvement in the Middle East, and is abandoning its role as "mediator." These US moves have significant political and security impacts. On the other hand, Russia is increasing its military presence in the region through military intervention in the civil war and construction of military bases in Syria, and sales of weapons and military supplies. Also, the Middle East is vital for China's Belt and Road Initiative.

In this changing environment, countries in the Middle East have developed their own foreign and security policies, but their pursuit of national interests has hindered the regional stability. Furthermore, multiple structures of conflict and cooperation have emerged --- Israel versus Iran and pro-Iran powers; Iran and the Gulf Arab States; and Saudi Arabia/UAE/Egypt and Qatar/Turkey. As a result, regional cooperation framework such as Gulf Cooperation Council (GCC) failed to function. Moreover, the governments of Yemen, Libya, and Syria became fragile because of the civil wars after the "Arab Spring," and are incapable of border controls and maintaining security. In these circumstances, powerful non-state actors have emerged --- Hezbollah (Lebanon), Hamas (Palestine), the Houthi (Yemen), Kurdish militants (Iraq and Syria), anti-government forces (Syria), and Shiite militias (Iraq). They have acquired influence comparable to that of the regional states.

As described above, since countries in the Middle East prioritize national interests rather than regional stability, the mechanisms for the resolution of regional disputes do not function. While the government has weakened in some countries, the emergence of non-state actors has heightened the probability of an accidental military collision. On top of this, as the channels of dialogue between conflicting states have narrowed, the possibility of an escalation of conflicts has increased through the cycle of collisions.

There have been a lot of significant changes in US energy and Middle East policies. The Trump administration pledged "An America First Energy Plan," and has promoted: the maximum use of domestic energy resources, the termination of dependence on oil imports, the relaxation of environmental regulations on fossil fuel production, the creation of employment by the maximization of shale oil and gas production, the development of clean coal technology, and the regeneration of the coal industry.2 Thanks to the increasing of shale oil and gas production, the United States is expected to become a net petroleum exporter in 2020 and remain as such until 2050.3 The US is likely to link this superiority in energy supply and demand with its diplomatic policy, particularly toward the Middle East. In other words, as long as its energy security is maintained with the robustness against external risks, there is the likelihood that the United States will adopt a harsh or unilateral foreign policy. US's harsh policy toward Iran is an example of the linkage between its energy and the Middle East policies.4 The United States shows a keen interest in maintaining oil and gas prices but is not committed to securing sea lane for a stable energy supply, in the belief that its efforts to protect freedom of navigation is a one-sided burden on the United States. Therefore, it is demanding "burden-sharing" from its allies and partners.

The "energy independence" will diminish the strategic importance of the Middle East for the United States. Of course, US's interests in the Middle East are not limited to oil and gas but other economic interests, alliances and partnerships, US military bases and troops in the region. Although not directly related to energy security, US energy companies operating in the Middle East are also important elements. However, the necessity for the US to contribute to the stabilization of the Middle East, bearing risks and costs solely for its energy security is diminished.

At present, neither of the United States, Iran, Israel, nor Saudi Arabia wants to start war. The Trump administration does not hesitate to use force in the Middle East, as it has conducted the assassination of major general Qasem Soleimani of the Islamic Revolutionary Guard Corps of Iran, killing Abu Bakr Baghdadi of the Islamic State (ISIS), and the missile attacks in Syria. On the other hand, the administration has so far restricted its attacks on limited targets and avoided escalation to the full-scale war. If, however, Iran, Israel, or Saudi Arabia miscalculates or tries to put pressure on rivals, or if a non-state actor suddenly conducts an armed attack, a single conflict may invite an over-reaction among the parties concerned and escalates into an "unwanted war" in the region.5

Japan's Vulnerable Energy Security

With the growing uncertainty in the Middle East, Japan's energy security is becoming increasingly vulnerable, as it relies overwhelmingly for the crude oil and natural gas supply on the region.

The most important task of each country in formulating its energy policy is to maintain a desirable balance between "Stable Energy Supply," "Economic Efficiency," and the "Environment," while giving primary preference to "Safety." To achieve a stable energy supply, it is necessary to secure a constant procurement of energy resources like oil and gas and maintain the sustainable energy supply.6

Japan depends on imports from abroad for most of its needed energy resources such as crude oil, natural gas, and coal. In addition, there are technical, economic, and social challenges for introducing large-scale renewables and nuclear energy. Japan's energy self-sufficiency rate maintained a level of 20% in the 2000s. However, since nuclear power generation decreased after the 2011 Great East Japan Earthquake, it temporarily dropped to 6%. In recent years, the self-sufficiency rate has recovered due to the increase of power generation by renewables, a partial resumption of nuclear power plants, and the progress of energy-saving. Still, it remains less than 10%, as of 2020.

The Idea of 3E + S in Energy

Source: Agency for Natural Resources and Energy7

Japan's geographical and climatic conditions make it difficult to secure stable energy supply. Geographically isolated, Japan maintains no energy infrastructures connected with neighboring countries; therefore, it is almost impossible to borrow or lend energy resources and electricity with its neighbors as is the case among European or Eurasian countries. Moreover, due to recent tensions in the East and South China Seas, the security of sea lanes for transporting energy supplies may be threatened in the event of an emergency. Climatically, frequent major natural disasters coupled with the ageing of energy infrastructures caused an increase in the disruption of domestic energy supply.

Under such circumstances, the increasing geopolitical risks in the Middle East constitute a major risk to the energy security of Japan that imports more than 80% of the crude oil and about 30% of the natural gas from the region. Some could argue the option of reducing dependence on the Middle East for crude oil and natural gas imports for the avoidance of the risks. However, it seems to be difficult to decrease Japan's energy dependence on the Middle East in a short time.

First, the Middle East holds about half of the world's proven crude oil reserves and has a large export capacity. It is therefore possible for the importers, particularly international oil companies to purchase and load large quantities of crude oil efficiently. The production cost of crude oil in the Middle East is also the lowest in the world. In oil-producing countries other than the Middle East, exploration and production of the crude oil costs often fluctuate, making it difficult to secure a stable amount of the oil over the long term.8 The costs for crude oil transportation to Asian countries including Japan from the Middle East are also relatively cheaper, considering the geographical location.

Since Japan has for long imported large quantities of crude oil from the Middle East, many Japanese refineries are designed and operated to chiefly refine the Middle Eastern crude oil. Therefore, it is not easy technically and economically to increase imports of the crude oil from areas other than the Middle East. In addition, the Japanese government is legally not in a position to impose restrictions on private oil companies to reduce their dependency on the Middle East. This is not the case in China, for instance, where the government can control and order private sectors according to its policy.

Some Middle Eastern oil-producing countries, particularly Saudi Arabia, are managing their oil production capacity to balance supply and demand in the global oil market. Thus, they are ready to meet the urgent demand for additional supply. Oil-importing countries including Japan need to maintain a good relationship with Middle Eastern oil-producing countries having surplus production capacity so that they could secure a stable supply of crude oil in an emergency.

Japan's Crude Oil Imports and Its Dependency on the Middle East

Source: Made from data in "Yearbooks / Monthly Reports of Mineral Resources and Petroleum Products Statistics" published by the Agency for Natural Resources and Energy.

Japan's crude oil imports have decreased by 1.5 million barrels per day (b/d) since the mid-1990s. It is estimated that oil demand will continue to decline due to the decreasing population and the development of energy-saving technology. On the other hand, even if crude oil imports and consumption decrease in Japan, the dependency on the Middle East is unlikely to fall in the short term for the above reasons. Even if a decrease in demand for petroleum products could be set off by the reduction of crude oil imports from the Middle East, the dependency would not drop more than 70%.

Origins of Japan's Crude Oil Imports (2017)

* Crude oil imports from Iran is in suspension since May 2019.
Source: Agency for Natural Resources and Energy9

Energy Geopolitics and the Strait of Hormuz

As mentioned above, Japan's energy self-sufficiency rate is still less than 10%, and a high level of dependency on the Middle East in crude oil supply is likely to continue. Therefore, political and security instability in the Middle East would have a great impact on Japan's energy security. Japanese citizens and interests have been involved in terrorist attacks and armed crushes in the region. For example, in the "In Amenas hostage crisis" in 2013, armed groups attacked natural gas facilities in southern Algeria, and killed 10 Japanese citizens. In June 2019, a tanker owned by a Japanese shipping company was attacked while sailing near the Strait of Hormuz. These incidents highlighted the potential risks that instability in the Middle East would constitute a direct threat to Japanese interests.

Robert Kaplan pointed out that it is necessary to put a focus on the places of energy supply and consumption and transportation routes connecting them to understand the geopolitics of energy. Kaplan stressed the importance of the concepts of chokepoints and sea lanes.10 Energy geopolitics is the idea that does not necessarily assume classical strategic competition between nations, but provides perspectives combining geopolitics, international security, and national strategies, as the stable energy supply is essential for the survival and prosperity of nations.

From the perspective of energy geopolitics, it is necessary to consider not only the destabilization of oil and gas producing countries in the Middle East, but also the various risks of supply disruptions and market destabilization. Such risks include the destabilization of transportation routes, large-scale natural disasters, and armed conflicts. In the Middle East, there are several crude oil chokepoints, the Strait of Hormuz, the Strait of Bab el-Mandeb, and the Suez Canal, thus it is vulnerable to supply disruptions caused by political upheavals and conflicts. In addition, such supply disruption would easily lead to a sharp rise in crude oil prices, if the surplus production capacity of oil producing countries responsible for urgent additional production is insufficient, or international cooperation for managing stocks of crude oil is inadequate.11

Particularly, the Strait of Hormuz is extremely important as a chokepoint for global oil and gas transportation. The strait is the passing point for crude oil exports from the Persian Gulf coasts to various destinations in the world; between 2016 and 2018, 21% of global crude oil and petroleum products exports passed through the Strait of Hormuz. The transportation to Asia increased while Europe and the United States decreased their oil imports through the strait. Especially, Japan and South Korea are highly dependent on transportation via the Strait of Hormuz : 85% of crude oil and 30% of liquefied natural gas (LNG) for Japan, and over 70% of crude oil and some 40% of LNG for South Korea are passing through the strait. On the other hand, Chinese dependence on the Middle Eastern crude oil imports is about 30%, because Beijing could make Chinese oil companies diversify the sources of crude oil imports. Therefore, the risks for China's energy security being involved in a crisis in the Hormuz Strait would be relatively lower than Japan or South Korea.

Alternative transportation routes for the Straits of Hormuz include 1) the East-West pipeline (the Petroline) that runs across Saudi Arabia; and 2) UAE's Habshan-Fujairah pipeline. Saudi Arabia tried to avoid concentrating hubs for energy exports and industries in the coastal areas of the Persian Gulf facing Iran, and engage to the Red Sea for hedging risks. In 1981, the East-West Pipeline, an oil and gas route bypassing the Strait of Hormuz was completed. As of 2016, the pipeline is estimated to hold a transportation capacity of 4.8 million b/d and a surplus oil transmission capacity of 1 to 2.8 million b/d. Likewise, the UAE also started in 2012 the operation of the Habshan-Fujairah pipeline with a transportation capacity of 1.5 million b/d, which has enabled the UAE to transport crude oil without passing through the Strait of Hormuz.

However, even with these alternative transportation routes, the security risks of the Strait of Hormuz would not be eliminated. First, the total transportation capacity of the two pipelines is about 8 million b/d, which is much less than the 17 million b/d of maritime transportation through the Strait of Hormuz. Also, if a large-scale armed conflict took place around the strait, it would involve the two alternative pipelines, and oil, shipping, and insurance companies would limit their activities concerning the regional situation. As a result, oil supplies needed for the Japanese economy could not be loaded or transported from the Middle East. In addition, the waters around the Red Sea are also fraught with risks, because of the instability in Yemen and Somalia and the existence of another chokepoint, the Strait of Bab el-Mandeb.

World Maritime Oil Checkpoints

Estimates in million barrels per day, based on 2016 data.
Source: Made from Bloomberg12

Mounting Geopolitical Risks and Challenges for Japan

Despite that geopolitical risks in the Middle East has increased, global oil and gas market remains nearly unresponsive and calm. This is because the market has been oversupplied, and concerns over the deteriorated global economy was bigger than that of the geopolitical risks. On September 14, 2019, there was a large-scale attack presumably using cruise missiles and drones against the oil facilities in Saudi Arabia. The United States and Saudi Arabia suggested Iran's involvement in the attack, but this was not proved. Immediately after the incident, Brent crude oil prices rose sharply from around $60/barrel to $69/barrel, but soon dropped due to the Saudi Arabia's announcement of a quick recovery plan. Another factor preventing the rise of the oil prices was shared concerns about the risks deteriorating global economy including the US-China trade war. In October of the same year, despite that security risks increased as tankers navigating the Red Sea was attacked, crude oil prices barely fluctuated.

Considering current market trends, it seems unlikely that crude oil prices will rise significantly in the short term. Yet, the quantity of oil supply disruption caused by the September 2019 attack on oil facilities in Saudi Arabia amounted to 5.7 million b/d at maximum. This amount is comparable to that at the time of the Iranian Revolution in 1979, and bigger than supply disruption at the time of the 1973 Arab oil embargoes (4.3 million b/d) or the 1990 Gulf War (4.3 million b/d). The September 2019 incident may have drastically pushed up crude oil prices in case of tight supply and demand in the market.

Saudi Arabia has capacity of 4 million b/d surplus crude oil production, which is the largest in the world. The total surplus production capacity of the OPEC member states except Saudi Arabia is less than 1 million b/d. In other words, Saudi Arabia is the most important country that can stabilize the oil market by production adjustment. If the country is attacked and its production capacity suddenly drops, no other countries could adjust the global supply-demand balance of crude oil as Saudi Arabia does. Although the impact of the recent incidents on the oil market was limited, it should not be discounted the implications of possible armed conflicts in the Middle East for the mid-term or long-term energy security.

Although it is unlikely that an all-out war involving multiple countries would occur in the Middle East in the short term, the regional countries are in persistent tensions, an armed crush could suddenly occur involving Japanese citizens and interests. Since January 2020, the Japanese government has dispatched the Self-Defense Forces to the northern part of the Arabian Sea, the Gulf of Aden, and Djibouti for information gathering. As the tensions in the Middle East are not transient, preparedness for emergency response is essential. In addition to the collection and analyses of information regarding to the energy geopolitics, it is also necessary to analyze the impact of revolution in military affairs such as cyber security and drone capability on the regional security situation.

If crude oil supply from the Middle East is disrupted or sharply declined, competition for securing crude oil supply with other countries would be intensified. Therefore, it is needed for Japan to reserve sufficient amount of crude oil. Currently, Japan maintains crude oil reserves equivalent to the amount of 238 days' consumption, including private and governmental reserves and joint stockpiles with oil-producing countries.13 Since, however, the government-stockpiled oil has never been released, it is critical to improve the system to secure the stable and smooth supply of the stockpiled oil in case of an emergency.

Paradoxically, despite the unstable political and security environment in the Middle East, prices of crude oil and natural gas do not fluctuate. Thus, this timing is critical to reconsider Japan's policies toward the Middle East and energy security. Japan's contribution toward easing tensions in the Middle East would help to reduce the risks of conflict in the short term and achieve energy security in Asia including Japan in the longer term. In this sense, the "Free and Open Indo-Pacific (FOIP)" vision/strategy could function as a geo-strategy for Japan's engagement to the Middle East combining economic, diplomatic, and security aspects, and a multilateral cooperation framework. In other words, with the FOIP vision/strategy, Japan and other countries could collaborate to stabilize the Middle East, sharing the macro perspective of sea lane safety and energy security in Asia.

Conclusion: "Two Shocks" Attacking the Middle East

This paper examined the impacts on Japan's energy security of increasing volatility in the Middle East and global energy trends. Finally, I would like to look at the "two shocks" currently prevailing in the Middle East --- the spread of the new coronavirus infection and the plummeting crude oil prices, as of May 2020.

In April 2020, the World Bank drastically reduced its annual economic outlook of the Middle East and North African region from 2.6% (as in October 2019) to minus 1.1%. The global economic stagnation and movement restrictions due to the novel coronavirus infection will shrink demand for oil and natural gas. Therefore, the economic growth of the major oil-producing countries is expected to be adversely damaged --- Saudi Arabia: 0.2%, UAE: minus 1.1%, and Iran: minus 3.7%.

The outlook for non-oil producing countries is more severe due to the pandemic's stagnating effects on the tourism, manufacturing, and remittances from oil-producing countries --- Lebanon: minus 10.9% and Tunisia: minus 4.0%. The Expo 2020 Dubai, which was scheduled for October 2020 in UAE, has been postponed for one year, and a dark cloud is hanging over the upcoming G20 Summit in Riyad, Saudi Arabia.

In addition, the collapse of the coordinated production cut among the oil-producing countries and the sharp drop in oil prices are exacerbating the situation. On March 6, the negotiations of OPEC-plus including Russia for cutting oil production broke down. Soon after Saudi Arabia announced a large-scale production increase, and crude oil prices plunged to almost lower than $20 per barrel. On April 12, OPEC-plus agreed on the largest ever production cut of 9.7 million b/d, but due to the decrease in global demand accompanied by the spread of new coronavirus infection, the WTI crude oil price temporarily recorded a minus sign on April 20.

At present, not only countries in the Middle East and Russia but also the United States have been facing a serious crisis due to declining oil prices. The leaders of these countries seem to be continuing efforts to stabilize oil prices favorable for their oil and gas industries, but the decline in global energy demand is predicted to prolong and expand.14

Oil export revenues account for a greater part of the financial revenues of major oil-producing countries in the Middle East. The countries share the serious concern that their economies would slow down because of the reduction of governmental expenditures resulting from the diminishing oil revenues. Non-oil-producing countries are likewise affected by the economies of the oil-producing countries as they receive investment and assistance from the oil-producing countries and provide labor to them to earn revenues from foreign remittances. "Too cheap crude oil" could not only induce political and economic destabilization in both oil-producing and non-oil-producing countries but also impede necessary energy investment, and threaten damaging global energy security in the medium- to long-term.

proposal
current topics