The Fuse

Paris Attacks, Western Response to Add to Market Turbulence

by Matt Piotrowski | November 16, 2015

The gruesome terrorist attacks in Paris on Friday have conjured up memories of similar events on Western cities, all of which amplified uncertainty in financial and energy markets. For global oil markets, violent attacks by Islamic extremists prompt questions about the vulnerability of economic growth, fluctuating geopolitical dynamics, and the future of oil supply from unstable regions, particularly the Middle East and North Africa.

For global oil markets, violent attacks by Islamic extremists prompt questions about vulnerability of economic growth, fluctuating geopolitical dynamics, and the future of supply in unstable regions, particularly the Middle East and North Africa.

The oil price reaction was mixed on Monday, with traders weighing concerns that the economic aftershocks from the Paris attacks will negatively affect oil demand against the possibility of geopolitical instability picking up. To be sure, there are plenty of bearish factors weighing on the oil markets, including brimming commercial stockpiles and continued sharp rises in non-OPEC and OPEC supplies this year. But the ISIS attacks on Paris, which followed recent violence against civilians in Turkey, Egypt, and Lebanon, add another layer of uncertainty to global stability. “Years of new tragedies like Paris are almost inevitable, and the struggle against extremism is going to be a long, long battle of attrition,” said Anthony Cordesman of the Center for Strategic International Studies (CSIS) in a commentary published over the weekend.

The oil market is currently oversupplied, keeping prices in the low $40s, but the Paris attacks undoubtedly increase geopolitical risk, for now and the longer term. France stepped up air strikes against ISIS strongholds over the weekend and will intensify operations in the coming days, while the U.S. is vowing to boost its work with allies and local forces—but will stop short of sending in ground troops. The fight against ISIS and other non-state actors such as Al-Qaeda has been ongoing for decades, and will continue for some time.

In a tighter oil market, these military actions would have an outsized effect.

In a tighter oil market, these military actions would have an outsized effect. ISIS gets a bulk of its revenue from oil sales and is operating in two oil-producing countries, Syria and Iraq. The conflict against Islamic militants is at the heart of instability in the MENA region, with major oil producers such as Saudi Arabia, Iran, and Iraq affected. Oil producers Libya and Yemen are dealing with their own civil wars. Russia, which produces over 10 million barrels per day, is knee-deep in the region, supporting Syria’s Bashar Assad and conducting air strikes in the country. The region is home to about 30 percent of the world’s oil supply, and holds about 57 percent of the world’s proven oil reserves. Even with the blistering non-OPEC supply growth over the last several years, national oil companies in MENA countries are key global market players, and will be for decades to come.

Nations in the Middle East are dealing with large population growth, continued ethnic factions, and limited social safety nets. The anger and strife in the region will continue to motivate those disillusioned to leave their home countries for destinations such as Europe and the U.S. This influx of refugees will inevitably cause political clashes and international conflict, and possibly lead to anti-Muslim sentiment.

Economic implications

It is easy to overreact when attempting to anticipate the fallout from dramatic world events, as is already beginning to occur with the Paris attacks. For instance, the terrorist attacks on Madrid in 2004 and London in 2005 did not turn into “black swans” events that upended the international order. Spain, after the death of hundreds on commuter trains by operatives tied to al-Qaeda, linked the bombings to the country’s involvement in Iraq and withdrew its troops. While this development was significant, the Iraq war ravaged on with the rest of the coalition remaining mired in a protracted conflict. Meanwhile, London’s attacks did not cause any long-term economic damage. There was an initial panicked selloff on the London Stock Exchange, but the market recovered quickly once traders realized the damage was not as bad as originally thought. Unlike Spain, Great Britain did not withdraw from its operations in Iraq and continued to support the U.S.

The attacks against the U.S. on September 11, 2001, were a different story, however. The events brought an economic downturn from a loss of consumer confidence. U.S. GDP grew by only 1 percent in 2001 and 1.8 percent the following year. The country’s oil demand ticked up just slightly that year and prices remained mostly flat.

It’s too early to say whether the Paris attacks will serve as an inflection point for the global economy, with significant implications for oil supply or demand. But one thing is for certain—it’s a signal of greater turbulence ahead.

While the September 11 attacks put a lid on oil prices in the short run, they led to a complete reorientation of U.S. foreign policy that played a significant role in oil market volatility. The U.S. deepened its involvement in the Middle East, and the repercussions are still being felt now with Iraq torn apart by sectarian strife. After the U.S. invasion of Iraq in March of 2003, oil prices rallied substantially through 2008, in part because of growing unrest in the oil-producing country and other parts of the Middle East. The tumult continues to this day, as evidenced by aftershocks of the Iraq War, the Arab Spring that begin in late 2010, and the ongoing Syrian civil war, which was exacerbated by the flood of Islamic militants out of Iraq and into Syria as they fled U.S. forces.

That said, despite significant outages throughout the region and oil supply at risk, the region’s producers are still pumping at near-record levels, while resilient non-OPEC supply continues keeping prices down.

It’s too early to say whether the Paris attacks will serve as an inflection point for the global economy, with significant implications for oil supply or demand. But one thing is for certain—it’s a signal of greater turbulence ahead.