Adam Tooze on the War on Iran | Ones and Tooze Ep. 232

Hi Cam.

I mean, these are fascinating questions. And we're going to get to some of the deeper questions of rationale later on in the show, but right at the top, can we just pause to say how shocking it is that we're talking about this. I mean, this isn't somebody else's war. This is a war being waged by the government of which both of us are citizens. We're passport holders of the country that along with Israel has launched what by any measure is clearly an illegal war. It's not even sanctioned by Congress. It's unclear whether it has a rationale. Even if you could offer a rationale, it would certainly not meet most international law standards. The idea that there's an imminent threat is absurd. It's grotesque that we're in this situation. And we've remarked on this before in our conversations about Venezuela. There's something utterly horrifying about the way in which American media in particular talk about wars like this which affect hundreds of thousands if not millions of people with lethal force, as though they were sort of technical options, right? And we are going to get into the technology, and the technology is fascinating, but there is a kind of, how are we, that we're like learnedly exchanging great pieces in Foreign Policy, Wall Street Journal, both, you sent me some wonderful stuff to read on the supply chain issue, and that's the level that we're discussing this, whereas this is like a fundamental miscarriage of the political organization of violence.

Just sorry, I just, before we spend 40 minutes talking about economics, can we just say that at the front this is like, you say, one struggles to formulate the terms within which to articulate this. And the Trump administration even by its own low standards has been hard-pressed to string together a coherent rationale, and some of the coherent rationales that are offered are frankly out of the box. This crusading ideology is a major source of interpreting what's going on here. We're in a whole new level of insanity. This is not the targeted strike that they did in Venezuela. This is something much larger, as you say. And one of its elements is that it is like the wars that were waged between Iran and Israel with American participation last year. Very strange because they promise there are not going to be boots on the ground. So what this becomes is this long-range exchange of drones and ballistic missiles, unlike in Ukraine, detached from a ground war. And Israel and Iran are waging war, I think by my estimation, the longest distance two countries have ever fought with no land engagement. So then the crucial rate-limiting factor is the ammunition, and the particular type of ammunition that you need here are drones, but those are relatively cheap. It's the missiles and the interceptors that are really the rate-limiting variable.

And there is a kind of historic constant here in modern warfare. I was thinking, I think the first time a shell crisis really intrudes into the narrative of modern history is in the late summer and early autumn of 1914 when the Europeans deadlocked on the Western Front and started running up these large ammunition tallies for bombardment and counter-bombardment and ran out of shells. And it had an impact on the conduct of the war in 1914. And it exposes a kind of inherent and perverse logic in military production, which is on the one hand the rational thing to do is before you start a war to have all of the ammunition you need for the war. So you pile it all up. But on the other hand, if you think about that, it's a grotesquely inefficient use of resource to pile up ammunition unless you know specifically what you're going to use it for.

It atrophies when it's in stock. And furthermore, it's subject to obsolescence. If you buy a bunch of shells 20 or 30 years ago, they're not going to be of the newest type. And we've seen in Ukraine what was required to refurbish them. So, it's also reasonable not to buy more ammunition than you need. And if you go down that route, which of course is the money-saving route, then your supply chain for actually producing the stuff you need when it gets real is very, very tight. So then when you do ramp up to war production, you can't easily get there. So then one thing that you talk about is having shadow factories which are unused capacity ready for the war case, but that's hugely expensive. So who in their right mind would do that? So I think you're right to suggest that modern war has this problem of being voraciously hungry for ammunition and chronically unable to actually satisfy that demand. And it's only when you get into a truly appalling conflict of massive ammunition use over the very long term that you can stabilize the inputs and outputs. But no one in their right mind would ever want to be in such a conflict. So it's inherently problematic.

In this particular case, the interesting thing is that so far at least the focus has been not on offensive weaponry but on defensive weaponry. So it's all about the interceptors. And the thing about those is that they matter, and this is the kind of craziness of this, they matter much more not to the United States, which despite all the crazy expostulations is of course at absolutely no imminent risk from any Iranian direct attack by conventional means, right? Terrorism perhaps, but not by rockets. But it's all of America's allies which really are. So the Gulf States, Israel itself, and Ukraine are all desperately dependent on one of these tight supply chains for interceptors. And the thing about interceptors is that they're like rockets times two or to the power of two, right? Because it's not just that you're firing a rocket at a target. That's V2, Wernher von Braun, World War II, but this is famously trying to hit a bullet with a bullet. So you have to devise a rocket smart and fast enough and quick-reacting enough to actually hit the other person's rocket. And there's layers of these. And the thing about them is they're fantastically expensive. So millions and millions of dollars per shot. And you need the batteries, say for Patriots. It was a kind of mind-blowing number. A single Patriot battery with its radar and electronic control, a billion and a half dollars for just one piece of firing kit, right? And then the rockets themselves are millions and the THAAD rockets, the ones which go out to 150 kilometers high, high up on the arc of the ballistic missile, like $15 million per shot. And it's estimated you need three to really take care of a ballistic missile. So the Iranians fire 500, you need 1,500.

And Lockheed's total annual supply capacity is 600. That's years into the Ukraine war. And so there's your problem. And even incredibly rich Gulf States and Israel, which is constantly in a state of conflict, don't have stocks of interceptors large enough to actually counter a long-range bombardment. So there really is an issue. And the issue is not so much whether America can keep on delivering hellfire to Iran. The question really is can it keep its coalition together if the Gulf States can't protect themselves, and what is the cost that will be paid in Ukraine where they're facing a similar ballistic missile barrage from the Russians who now can produce, we think, between 80 and 100 ballistic missiles a month. So do the math again. You might need, if they went all in, you might need hundreds of interceptors for the Patriot batteries in Ukraine. And you can see how this just doesn't work as a calculus. And then you start suffering really serious damage to energy infrastructure. The Russians are clearly targeting much more effectively in Ukraine than the Iranians are so far. But it's so close across the Gulf that if they can really take out some of Qatar's infrastructure or some of the pipelines and routes the Saudis will be using to get oil out, we're in real trouble. So it's just part and parcel of the total brainlessness of this entire project that they don't appear to have done the math on this.

So much more complicated, and this is true with drones as well, right? You can send these swarms of basically motorbikes with wings with a bomb on the end, which is what the drones are like, or like little jets. And they cost hundreds of thousands and you're trying to shoot them down with batteries and missiles which cost way more.

Yeah. I mean, from the supply side, it's probably worth talking about oil, gas, and then hydrocarbon derivatives, of which perhaps the most important for the world economy is fertilizer, it turns out. Didn't know this before this conflict started. Another one of those instances where war teaches you geography, but a huge part of global fertilizer production is concentrated in the Gulf because it comes out of hydrocarbon feedstock and so it's an obvious place to do it, and plus the Asian markets are normally available through the straits of Hormuz, and that is really the decisive thing. I mean, this is the nightmare. This is the Armageddon scenario. Closing the straits of Hormuz is the tail risk horror scenario for global energy markets.

The two different dimensions for oil. The central thing is apparently, and I think this is emerging in these days towards the end of the first week of this war, is that if you block export from these giant oil fields, the problem is what you do with the oil. Because an oil field, it's like a pet, it's not just for Christmas. You can't turn the thing on and off easily. If you do, you risk real damage to the oil field because they're these pressure cookers of natural pressure under geologically. And then once you open them up, you have a very tightly designed, scientifically determined process for emptying them efficiently. And you can't in the middle of that suddenly, it's like trying to cook pasta and turning off halfway through. It'll be appalling. So the nightmare scenario is that if the straits remain closed for many weeks, the storage capacity of the really big producers in the Gulf, which are Saudi and Iraq, Iraq being the most vulnerable probably, will overfill. It's unclear whether they actually can be filled to capacity because no one's ever tried to do it. Normally they stop at 80%, they would have to go over. Then they would try and put things in tanker fleets and try and keep them there. But then if you really run out of storage capacity, you actually have to lock in the reserves and that's a disaster potentially also for long-run productivity from those fields.

The other variable you mentioned is gas, and the oil market is gigantic, global. The Gulf can be replaced. It's a huge shock but the damage will be local. Gas is a different market. We've had lots of occasion to talk about it. Strange logic. There are domestic pipeline fed, there are international pipeline fed, and then there's LNG shipments. And the strategic significance of the region is that Qatar is the largest single supplier. There's one LNG facility in Qatar which accounts for 20% of global LNG shipments and that has been shut down. They've declared force majeure, they voided their contracts, and so that market is already in spasm. Now both of these are really stories about Asia. 85% of the oil that goes through the straits of Hormuz goes to Asian markets. A third goes to China. Then it's Japan, South Korea, India. And then poorer Asian societies which are really most at risk.

Europe's gas supply doesn't come directly from the Gulf. The LNG unsurprisingly ships out from the Gulf in the direction of Asia. But closing the Gulf shocks the whole market. And since Russia's invasion of Ukraine, Europe has become more dependent on LNG. And so those shipments, because they're fungible, are priced at a global price. And as the global price goes up because Qatar's out of the picture, the Europeans start paying more. And guess what? They've done it again. European gas stocks at a historic low point at this time of year. It's unbelievable when you see the numbers. They rebuilt them in the first years of Ukraine and then apparently they've gotten complacent again and they're rock bottom. So there's even some sort of crazy scenario in which Europe could potentially find itself in real supply difficulty. The answer, of course, is always just to ramp up the price. You just pay more. This is the Habeck story. You wave the German wallet, you'll get an LNG supply.

The problem is then people lower down the food chain, and then we're really talking about Pakistan, Bangladesh, populous really large Asian societies which don't have the same purchasing power as rich countries. And that's where the fertilizer story gets really acute as well because large parts of the low-income world's cheap fertilizer supply comes out of this region. It's much more direct in terms of its impact than the Ukraine crisis was because this is an input to everyone and it's literally just been cut off. And so the real worry is not whether rich American soybean farmers relatively speaking can get fertilizer, but it's people lower down the agricultural food chain and there's already reports of Pakistani and Indian fertilizer firms shutting down production because they can't get the LNG. So that's where the ripple effects are going to be and always look for the weakest link in the chain.

Yeah, I mean I think that's in the immediate term that's exactly who you'd expect and it's a replay on a much smaller scale so far of the 2022 shock where we saw absolutely gigantic historic profits being earned by Western oil companies. And if you look at Exxon's share price over the last six months you see the pop in early December when people started getting serious about this buildup. They're clearly a beneficiary. You're absolutely right. The Russians are, I mean in retrospect it's clear that the Russians could pay for their war against Ukraine through the energy price effects of the uncertainty they created by means of the war, and in fact the West, Europe in particular, paid for quite a lot of that, and that'll be replayed in this case. It's true also, I keep harping on this fertilizer story but I think it's kind of really mind-expanding to go there, but if you look at the share prices of Yara, you know, Norsk Hydro as was, the great European Norwegian fertilizer producer, and CF Industries in the Midwest of the United States.

You know, they can't lose here because they make something essential for global agriculture out of hydrocarbons which are caught up in a great geopolitical clash. One would hope further down the line, fingers crossed, there is some reason in the world that renewables become winners from this because how many more times do we need to learn the lesson that depending on imported fossil fuel energy from geopolitically unstable regions subject to America's erratic politics and strategy is a bad idea. We're at a historic moment now where you can buy very cheap substitutes for gas in particular and increasingly long-range for the EV, like the shipments of solar panels from China, in terms of their generating power of electricity compare with the electricity that you could generate by burning all of the gas normally shipped through the straits of Hormuz. So there's now a, of course it's not quite the same and everyone will say you'd rather run your generator off gas, sure, but it's not total parity, but we're in the same ballpark now where if you want to make the investment and shift, renewables are now far more attractive even than they were in 2022 because of what's happened in China since then. So they ought to be winners too if there's any reason in the world.

In fact, I'll be on a panel tomorrow in Germany for the Greens arguing that case for Germany. Because the German government perversely is doubling down on LNG, and I mean, they're just shooting themselves in the head again. But that's clearly the message is push, push, push now into more secure localizable sources of supply.

Yeah, I mean we've spoken about this several times on the show. And I mean, writing the script for today's show actually, I became quite upset thinking about colleagues and friends in the region, in Doha in fact, which I saw most recently, thinking about what this means for them, what it means for people we met when we were in Dubai and Abu Dhabi last fall. I mean, they are outsized in their influence now because of their wealth, like of the total sovereign wealth fund assets, which in 2024, these are slightly old numbers, but 2024 were 12 trillion, four trillion were in the Gulf, with the Emirati one being about two trillion and the rest spread between the Saudis and others. They're major centers of construction activity, of wealth management. I mean, the more cynical side of this, apparently there was an extraordinary story in the FT which is that very wealthy people in the financial sector quite like to...

Residents of the Emirates because it's very favorable tax treatment, but to have that you need to clock up a certain number of days, 183 basically half the year. And the problem now of course is that with all of these evacuations going on, these ultra high net worth individuals who mainly reside in London because that's the connection that really matters. It's the old world of Europe and the Arab world, not the United States really. It's too far away and too culturally, you know, separate. But that connection between Europe and the Arab world is very tight. And they're really at danger of running out their clock, at which point, horror of horrors, they end up liable for UK taxation, which is horrendous by comparison with the Emirates. So these people are booking private jets which are flying into the war zone to get them on the ground in the Emirates on time to be able to log their 183 days because otherwise they're in trouble. Right down the very other end of the spectrum, and this is a story I've been following on Twitter which is really fascinating, is that you know the Gulf really faces out into the Indian Ocean. And when you're there you realize, and this was also classically true of the British imperial period, you know the Gulf is a profound interest to the subcontinent, to Pakistan, to India, to Bangladesh, what used to be the Raj, the greater Indian space.

Concretely what this means is that there's like 18 million South Asian workers in the Gulf at the bottom end of the labor market, so not the people who are counting their tax days but the people who actually make these societies run. Like 60% of the Emirati workforce is estimated to be South Asian. And those people are now in real harm's way because they work on short-term contracts under tough conditions. They make lives for themselves. It's a very interesting experience to actually engage because English is a lingua franca. But that group is going to be under real pressure. And Modi's positioning on this has been the subject of really attack across the kind of BRICS world on Twitter because you know the cowardice they've shown because they invited this Iranian frigate I guess to some naval gala and then the bloody Americans sunk it in the Indian Ocean, left the survivors to drown, in violation of international law. You know, they've been learning bad habits in Venezuela, just blowing up boats and leaving people to drown. Guess they should be lucky that the Americans didn't machine gun them in the water. The Sri Lankans rescued them. And Indian nationalists are outraged that Modi didn't take a stronger stance because this is like a fundamental violation of hospitality. So this is another access to this which I think is very interesting and is also of course part of the global energy story. We've talked about this on the show before about India and Russian oil. The world is expanding and it's increasingly Indian Ocean, Pacific, Asian centered, and all of these questions reverberate in that world with real intensity and at the level of individual lives. I mean 18 million people, given the size of the South Asian workforce, is not huge, but those people are earning really good money. Those are cash remittances which are going home and sustaining large families in some poor villages in Peshawar and places like this. And that's another facet of this that I think we should really be paying attention to.