The outbreak of hostilities between Israel and Iran last Friday has lifted the oil price to $75 a barrel, up 19% since the start of this month. By the standards of recent years’ oil prices, which hit a peak of $129 a barrel three years ago, these are still subdued. Still, with both sides talking of escalation, the risks to energy prices lie squarely on the upside.

Iran produces around 3% of total global oil supply. Over the weekend Israel attacked Iranian oil and gas processing facilities in a move that the Financial Times described as suggesting “Israel is attempting to weaken and disrupt Iran’s domestic gas and fuel supply chains to cause shortages, rather than pursuing the country’s oil and gas production… which would rock the markets”.

The big risk for the global economy is that Iran itself seeks to destabilise oil production and shipping across the Middle East to hit back at western governments that it sees as enabling Israel.

In 2019 a drone and missile attack on Saudi oil facilities resulted in a temporary halving of Saudi oil output, equivalent to 5% of global supply, and a near 20% rise in the oil price. Western countries blamed Iran for the attack. Relations between Iran and Saudi Arabia are more cordial today and attacking energy facilities would run the risk of dragging Saudi Arabia, a major military power, into the current conflict.

Iran could also seek to disrupt energy supplies by closing the Strait of Hormuz, the narrow sea lane between Iran to the north and Oman and the UAE to the south, through which about 20% of global oil and liquified natural gas flows.

Iran has repeatedly made this threat in the last 40 years. Closing, as opposed to disrupting, the Strait would be a formidable task given the weakened state of Iranian forces and the near certainty that the US and its allies would resist any attempt to stop traffic. Iran has never previously been able to close the Strait, despite laying mines, occasional seizures of vessels and the use of missiles against western vessels. International naval coalitions, led by the US, have ensured the waterways continued operation. There is little doubt that Iran has the capacity to disrupt traffic, possibly significantly, and in a way that could keep energy prices higher for longer. A prolonged closure is what ING-Barings calls an “extreme, worst-case scenario”, albeit one that the bank estimates, could take the oil price to over $150 a barrel.

Conflict in the Middle East, and the ensuing spike in oil prices, have been harbingers of western recessions in 1973, 1979 and 1990. Today, the world is better placed to deal with disruption to oil supply than in the past.

Energy markets are more efficient, integrated and contestable than they were in the 1970s. Shale fracking has led to a huge increase in US energy production, weakening OPEC’s hold over supply. Consumer nations now have petroleum reserves that can be used to protect against shortages. Oil’s share of global energy supply has fallen as a result of greater efficiency in consumption and as countries have switched to renewables. Global GDP is less oil-dependent than in the past. It takes less than half the amount of oil to produce a unit of GDP than it did in 1970.

These factors helped insulate the West against the worst effects of the energy shock of 2022. Oil and gas prices surged in response to a rebound in demand following the end of lockdowns and as supply from Russia was restricted after it invaded Ukraine. Growth suffered, particularly in Germany, but unlike previous such shocks no major consuming nation fell into recession.

Despite last week’s surge and 18 months of conflict in the Middle East, oil prices are still well below the levels before Hamas’s attack on Israel on 7 October 2023. Part of the reason is that oil demand from China, the world’s second-largest oil user, has softened. Some smaller OPEC producers have exceeded their production quotas which has reduced the effectiveness of OPEC’s attempts to bolster prices. Despite low prices Saudi Arabia has increased its production of oil this year, a move the Financial Times said over the weekend, “has prompted speculation that the cartel [OPEC] was responding to White House pressure to boost output ahead of a confrontation with Iran”.

The world may be less sensitive to oil prices than in the past, but it is not immune from them. Uncertainty and volatility in energy and financial markets, particularly if prolonged, will weigh on global growth. The conflict between Israel and Iran adds a new source of risk for the global economy.