Saudi Arabia Built Two Oil Exits. The War Is Breaking Both

Saudi Arabia spent decades building a giant escape hatch for exactly this kind of crisis.

If Iran made the Strait of Hormuz dangerous, Saudi could send oil west across the country through its East-West pipeline, load it at Yanbu and send it through the Red Sea.

That was the backup.

Now the backup is getting hit too.

The East-West pipeline was attacked this month, damaging three pumping stations and shutting the route to Yanbu. Reuters says the pipeline normally handles around 4 million barrels a day, roughly 4% of global oil supply. Saudi Aramco is trying to restart part of it within days, but a full repair could take weeks. Some European customers have already been told their October Saudi crude deliveries will be canceled.

And the Red Sea route has another problem.

The Houthis have taken positions around the Bab el-Mandeb, the narrow passage connecting the Red Sea to the Gulf of Aden. Ships are still moving through it, but the risk is changing the economics of the route. Reuters reports commodity traffic through Bab el-Mandeb is now running below its recent average while Hormuz traffic remains severely depressed.

This is where the story gets more interesting than “Iran closed Hormuz.”

Hormuz doesn’t actually have to be closed.

A shipping route can remain physically open and still become economically useless.

If insurers won’t cover the ship, the shipowner won’t sail.

That distinction is already showing up in Hormuz. Reuters says only four commodity vessels crossed on Thursday, versus a 10-day average of 16.

Now Saudi is being forced to do something it built the East-West pipeline specifically to avoid.

Send more barrels back toward the Persian Gulf.

Saudi Aramco is reportedly planning to move roughly 60 million barrels through Hormuz during September and October, including ship-to-ship transfers near Oman.

So the backup route isn’t replacing Hormuz.

It’s feeding barrels back toward it.

That is the part I think the market can underestimate.

For years, the Gulf’s vulnerability was described in terms of chokepoints.

Hormuz.

Bab el-Mandeb.

Pipelines.

Ports.

But the real vulnerability is the connection between them.

Saudi can have two routes on a map and still have no reliable route to the customer if both routes depend on infrastructure that can be attacked, insured at enormous cost, or forced into a much longer shipping path.

And the numbers are already moving.

Saudi crude production fell to about 6.2 million barrels a day in August, down from 10.9 million in February, according to Reuters citing Saudi data and the IEA.

Brent is still above $100 even after falling back from the week’s highs. The physical oil market is dealing with an entirely different problem from the one the Fed can solve.

The Fed can raise rates.

It cannot repair three Saudi pumping stations.

It cannot make a tanker insurer suddenly comfortable with Hormuz.

It cannot reopen Bab el-Mandeb.

And it certainly cannot manufacture the missing barrels.

That creates a nasty sequence for inflation.

First the physical supply gets disrupted.

Then shipping gets more expensive.

Then insurance gets more expensive.

Then refiners have to find replacement barrels.

Then those costs move through diesel, gasoline, transportation, chemicals, fertilizer and everything else that uses oil.

The market can see the first step immediately.

The later steps take longer.

That’s why the Fed’s rate decision may end up being less important to the inflation story than what happens to Saudi’s export routes over the next few weeks.

The war doesn’t need to permanently shut down the world’s oil supply.

It only needs to keep making the system more expensive and less reliable.

Saudi Arabia built redundancy to survive a chokepoint. Now the chokepoints are starting to attack the redundancy itself.