Hormuz crisis threatens global trade stability

Amid the escalating tensions in the Persian Gulf region following the United States and Israeli strikes against Iran that began on February 28, there are raising concerns about global energy trade and economic stability. As one of the world’s most important shipping routes, the Strait of Hormuz has become a critical chokepoint that could create bottlenecks for the global economy.

The Strait of Hormuz is a global energy artery for Middle Eastern energy exports. The disruption to shipping through the region’s ocean gate could have a global impact. This potential interruption is not only threatening the global supply chain but also driving up energy prices and global inflation.

To help us learn more about this, Trade Treasury Payments (TTP)’s Trade and Technology Editor, Carter Hoffman, spoke with Dr Guido Cozzi, a professor of macroeconomics at the University of St. Gallen, to discuss the potential economic consequences of the escalating tensions in Iran and its economic implications in energy markets and global trading systems.

A vital artery for global energy

In the global energy market, only a few chokepoints matter more than the Strait of Hormuz. As the Middle East accounts for a large share of the world’s energy supplies, shutting down the strait could cut off a significant portion of global energy. “The Middle East is very important for oil and also for natural gas,” Cozzi said during the podcast, ”and the Hormuz Strait is where 20 per cent of natural gas is passing, and 25 per cent of oil is passing as well.”

Due to the region’s high concentrations of natural gases, the shipping route has become one of the most important checkpoints in global trade. These natural gases supply markets in Europe, across Asia, and throughout other parts of the world.

“At the moment, I heard there are about 3,000 ships blocked, which would bring oil and liquefied natural gas to Asia and to Europe,” Cozzi mentioned.

Geopolitical tensions and economic disruption are threatening global economic welfare. The consequences could reach far beyond the Middle East. If such disruptions continue, the Strait of Hormuz will become a global energy bottleneck, putting pressure on oil flows to economies around the world.

Global supply chains shift

One immediate effect of pausing shipments through Hormuz is that countries will seek alternative energy sources. Nonetheless, shifting whole supply chains will take time and resources. “China, Japan, and South Korea heavily depend on Middle East oil,” Cozzi said, adding that “Asia is in the worst position at the moment.” As most Asian countries rely on gas from the Middle East or Russia, the US sanctions on Russian oil have limited their options.

In contrast, European countries have slightly more diverse energy suppliers. Cozzi suggested that they have the alternative of pursuing suppliers in the Americas or Africa. “The most important sources would be in America, the United States and countries that can supply oil, like Venezuela, for example, and also some countries in Africa,” he explained.

As energy shipments face disruption, the short-term solution will involve rerouting shipments. But over time, the crisis will pressure the economy to shift toward alternative energy resources. 

“If the price of gas and oil is going up, then presumably this will turn the potential demand towards alternative energy,” Guido said. “Technological progress will be incentivised there.”

The ripple effect

One of the earliest disruptions is a rise in energy prices. The global economy is too interconnected, and this event will quickly affect global trade, particularly in Europe, where developed economies already consume significant amounts of energy. “The price of oil has increased by about 10 per cent in Europe, and the price of natural gas has increased by about 60 per cent in Europe,” Cozzi said. The pressure in the Middle East has not only caused a dramatic shift in energy prices but has also demonstrated that geopolitics is reshaping the global supply chain.

At the same time, Cozzi suggested that instability in the Middle East could reinforce the US’s role as a financial leader. “I see the United States stronger simply because it’s isolated geographically from the focus of this crisis,” Guido said. During periods of geopolitical uncertainty, investors often allocate capital to safe-haven assets, particularly the US dollar. This could strengthen the US dollar’s role as a leader in the international economy.

“The role of the dollar will be emphasised,” Cozzi said. “De-dollarisation trends will probably slow down.”

Another potential consequence that could detrimentally impact global trade is inflation. Industries that depend highly on energy, such as metals, chemicals, and fertilisers, will be impacted first. “Many sectors are going to be affected,” Cozzi said. “With energy being a cost of all sorts of industries, this is going to have stagflationary effects on most of the economic activities… With high costs, the demand will decrease, and supply will have to adjust,” he further explained.

In the end, the impact will be widespread across the ecosystem. Over time, this will impact production levels, employment, and financial markets.