Fears That Iran Will 'Flood' the Oil Market Exaggerated

Iran oil
The SPQ1 gas platform is seen on the southern edge of Iran's South Pars gas field in the Gulf, off Assalouyeh, 1,000 km (621 miles) south of Tehran, January 26, 2011. Picture taken January 26. Caren Firouz/REUTERS

Oil industry experts say it is unlikely that Iran will flood the market with oil if sanctions are lifted as a result of Iranian nuclear talks, quelling fears that the talks would spook the markets.

Negotiations between Iran and the U.S., UK, France, Russia, China and Germany - the so-called P5+1 group - reconvene this week, with the aim of curtailing Iran's controversial nuclear programme, in exchange for the lifting of crippling international sanctions.

Iran already has large amounts of oil in storage which have been extracted, say experts. Although it is a state secret exactly how much oil Iran has stored, analysts predict it could be as much as 37 million barrels. There have been reports that an injection of hundreds of thousands of barrels a day into the oil market, which is already struggling with oversupply, could depress prices further.

The International Energy Agency, an intergovernmental organisation, has warned that Iran "may be in a position to increase production and exports rapidly" if an agreement is reached, stating that "much of last year was spent making sure wells and processing units were up to scratch and pipeline systems were tested".

Western sanctions aimed at curtailing Iran's nuclear activities have reduced the country's crude output to about 2.8 million barrels per day, from 3.6 million barrels per day at the end of 2011. While Iran holds almost 10% of the world's proven reserves, financial sanctions have made it extremely difficult for Iran to attract foreign investment needed in order to pump the oil out of the ground.

However, energy analysts say concerns that Iran could quickly reboot production in the event of successful negotiations have been exaggerated.

"A lot of reports misunderstand how quickly Iranian oil could recover," says Richard Mallinson, geopolitical analyst at consultancy Energy Aspects. "It's a big challenge for Iran - can it increase its production? Iranian ministers say they are very confident and they have ambitious targets but at the moment they are producing less than three million barrels per day, and because western sanctions on Iran's oil sector back to the 1990s, that has taken its toll on Iran's production capabilities."

Mallinson estimates that towards the end of this year and into 2016, Iran would only be likely to lift production to 3.1 million barrels per day, from 2.8 million barrels per day now. "Even if 30 million barrels held in floating storage are released over April, May and June, that will amount to just over 300,000 extra barrels a day," he says. "That's a noticeable amount, but it's not a flood."

Demand has also begun to grow since the fall in global oil prices at the beginning of the year. "Demand for oil is coming in much stronger than expected because of the lower prices," says Mallinson, "so the size of the global oversupply is not as big as many had predicted. I don't think we'll see prices drop down to the lows we saw in January, because of this better demand."

Valerie Marcel, an associate fellow at Chatham House, agrees. "It's been a bit exaggerated that there will be a flood," she says. "To get to that stage would take some time; it's not like just turning on a tap to get the oil pumping again."

Marcel also says it would not be in Iran's interests to flood the market. "It's a tricky situation," she says. "On the one hand Iran will be desperate for cash and will want to maximise the revenues for what they have. But if they flood the market the price will really fall and they won't be making the best of what they have, so there's no incentive."

Yet there is a concern that Iran will try to recover its market share by offering low prices. "Iran has lost a lot of market share in critical Asian markets," she continues, "which has been taken back by Saudi Arabia, so Iran might start offering a good deal to get their market share back. I expect there will be a big competition between Saudi Arabia and Iran. they'll be fighting for market share, which will drive down price."