WESTERN EUROPE: VULNERABILITIES TO A PERSIAN GULF OIL CUTOFF

Created: 8/3/1984

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Wesiern Europe: Vulnerabilitiesersian Gulf Oil Cutoff mM

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Europe remains dependent on Persian Gulf oil. but it leu vulnerablehort-termlhan it wai during9 oil crisis. Some West European countries still rely heavily on Gulf productioriv and the regionhole still importsercent of its oil from the Gulf, compared withercentoreover. WU| European oil stocks are insufficient to cover requirements in the eventengthy disruption. Excess production capacity in countries outside tbe Persian Gulf, however, currently amounts tond could helpupply shortfall.|

The West Europeans believe that the United States would intervene to keep Persian Gulf oilnd therefore that any interruption would be brief. Although several of the International Energy' Agency (IEA) countries are now willing to consider the early use of oil stocks in an emergency, we believe that many would reacthort-term disruption by imposing demand-restraint measures.

Western Europe: Oil

complete and prolonged shutoff of the Persian Gulf would result in serious problems for Western Europe because of the impact on world oil prices. We estimate that, if oil exports from the Gulf were cut offear or more, world oil prices would risearrel. Assuming no accotrinio-dating shifts in government policies. Westeconomic growth would be cut byercentage points, and unemployment, thus threatening the regions tentative economic recovery. |

Decliiiing Oil Dependence on the Culf

Western Europe has sharply reduced itson Persian Gulf oil in recent years.estern Europe imported, or

ercent of its oil. from the Gulf states.he West Europeans had cut these imports by more than half, toillionpercent of total West European oil imports. The Gulfshare of total West European energy supplies plunged fromercent9 to aboutercent last year

Although the recession and ertcrgy-cornervation efforts cut West European oil consumptionercent over the period. imports from the Gulf states also dropped because:

Domestic oil production increased.

Oil supplies were diversified.

Other forms of energy were substituted for oil.

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Western Kurope: Dependence on Persian Gulf Oil3

from ihc Gulf stales. By comparison,from the Persian Gulf represent only 2of US oil requirements.

West European crude oil pfoduction rose more than SO percent over ihe period. The United Kingdom, which account* forercent of West European production, boosted output9ast year. Norwegian production increasedercent. At ibc same time, imports from Mexico soared9 to morehile imports from the Sovietercent. Moreover, oil iilightly smaller role in European energy supplies In particular, the share of nuclear power has risen fromercent ofconsumption9 toercent. B

Several individual countries, however, remain heavily dependent upon tbc Persian Gulf region. Turkey. Italy, Greece, and Portugal each receive betweenercent andercent of their oil

Availability of Alternative Oil Supplies

West European vulnerability is also reducedalternative supplies are available on short notice. Excess capacity in countries outside tbe Persian Gulf amounts. In addition, aboutercent of tbexported by the Persian Gulf countries moves via pipeline to the Mediterranean and Red Seas. If shipping on the Gulf were disrupted, the pipelines could transport, and we believe Saudi Arabia would step up pipeline deliveries, pj

In addition, oil stockshort-term cushion for Western Europe. Existing land-based stocksillion barrels are equivalentays of forward consumption, according to the IEA. Due to technical factors, however, roughly half of these stocks would be unavailable for useisruption. Tankers in transit, although not as readilyas land-based slocks, would provide supplies for anotheroays. Saudi Arabia has also built up stocks in tankers outside tbe Persian Gulf tbat probably would be released in the eventulf disruption. We estimate this Saudi reserve atillion barrels,eek's net oil flow

Economic Impactil Cutoff

A short-term disruption in Persian Gulf oil exports would probably have little effect on West European economics, but if the cutoff were complete and long lasting, the impact would be severe. Simulations without Linked Policy Impact Model indicate thatutoff would quickly drive the world price of

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Estimating the Impactutoff in Persian Gulf Oil Imports

We used our Linked Policy Impact Model to measure the economic impact on Wesiern Europeump In prices duerolonged interruption in Persian Gulf oil supplies. For our simulation weet lossearillionamount of oil currently exported by the Persian Gulf countries less the total of excess capacity that does not flow through the Strait of Hor muz. To balance supply and demand, oil prices goercent,er barreler barrel. (CNF)

Our conclusions depend on key parametersas energy prices and income elasticities In eachwell as on assumptions about policy responses to an oil shock and how Quickly oil exporters use large earnings increases to boost purchases from Western Europe and elsewhere. In ourssume:

Government expenditures on consumption and investment remain constant in nominal terms.

The money supply in each country and real Interest rates remain constant while nominal interest rates increase.

OPEC countries spend nearlyercent of iheir estimated additional oil-exportadditional imports in the first year of higher oil prices.

Oil inventories of non-Communist countries are drawn down at an averagever the course of the cutoff. I

oil uparrel, evenairly substantial drawdown in inventories. If tbe cutoff and tbe high oil prices lastedear. West European real GDP would fallercentage points in comparison with our baseline forecast. Real GDP is now expected to increase byercent this yearercentengthy interruption thus would threaten tbe West European economic recovery. It would also boost unemployment, the most serioui singleproblem in Weitern Europe. Under our

scenario,at recordrise, orpoint, to roughlyubstantial hike in oil prices would also boost inflation and worsen the combined current account. We estimatewouldercentage points higher than our baseline case, and that the current account balance for all of Western Europe would deteriorate by nearlyillion.ptssjgaMsi

Policy Response

For the moment. Western Europe is notconcerned about an interruption in Persian Gulf oil imports. Tbe prevailing consensus in Western Europe is that the United States would take action to keep Persian Gulf oil flowing, and hence any shortfall in oil supplies would bemall oil price increase resultinErief disruption in oil imports would probably have little impact on either economic trends or policies.several IEA countries are now willing to consider tbe early use of stocks, many Westcountries probably would respond by imposing demand-restraint measures and stepping upfrom other sources. France, in particular, believes drawing on emergency oil stockseasure of last resort. I

To copeong-term disruption in Persian Gulf supplies. Western Europe would probably adopt policies similar to those used during previous oil crises. Within the European Community (EC),licenses probably would be required to ship oil across national boundaries. The EC commission would use this system to prevent one country that allowed oil prices to rise from siphoning oil from other member states that were applying priceIn addition, consultations would be held regularlyoordinate demand-management measures. J

Although the IEA recently agreed to use stocks to inhibit excessive oil price increases in the eventajor supply disruption, most West European

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do not have adequate stocks to participate rneartingfullyoordinated stock drawdown. Under the terms of tbe IEA agreement, Ibese countries would have to take actions, including demand restraint, to help share the burdenisruption. Countries such as Italy tbat are heavily dependent on Persian Gulf oil probably would press for quick implementation of tbe IEA emergency allocation system to more evenly distribute tbe shortfall amongmember countries,tbe United States.

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