The Geo-economic Fallout of COVID-19 for the Middle East

The COVID-19 coronavirus will cause long-term consequences for the Middle East; a combination of chaos in oil markets and contraction of gross domestic product will present challenges for years to come.

A 3D printed oil pump jack is seen in front of displayed stock graph and “COVID-19” words in this illustration picture, April 14, 2020. REUTERS/Dado Ruvic/Illustration

As the global novel coronavirus 2019 pandemic nears the end of its third month, the economic fallout from COVID-19 represents nothing less than the gravest crisis since the 1929 Great Depression. International stay-at-home orders led to a collapse in global demand, emptying city streets, shuttering factories, grounding air travel, and leaving most global shipping in stasis. Loretta Mester, the president of the U.S. Federal Reserve Bank of Cleveland, summed it up when she called it a “huge, unprecedented, negative shock”. 

It will take years for the full impact of COVID-19 to be accurately assessed. When the rate of infection finally subsides, governments around the world will begin a slow process to restart the global economy. They are currently trying to plan it, though they lack any identifiable precedent for what is required. No one now seems quite sure if we will be able to return to the status quo ante, or, if in trying to get back to normal in fits and starts, we will see the trajectory of global growth forever altered.  

What we can start to see, or at least start to try to discern, are the impacts that will have long-term effects, particularly for the Middle East and North Africa region. The first involves the unprecedented collapse in oil prices, a result of overall demand drop, paired with Russian–Saudi tensions that erupted into an all-out price war, the final disposition of which will remain up in the air for some time. The second likely impact is that, like the global financial crisis of 2008, the role of the United States as an imperfect guarantor of international fiscal stability will remain important to the international order, despite recent commentary about the rise of multipolarity or other emerging great powers. 

It becomes necessary then to explore what the twin impacts of changing global oil markets and the international fiscal order mean for the future trajectory of geo-economics in the MENA region, and what the role of the United States will be in those. Despite repeated predictions that the United States would pull back from the Middle East, exhausted after decades of military intervention, a post-COVID-19 world will likely see more intense U.S. involvement in the region, and the increased profile of China. 

Global Oil Markets

Almost as soon as the markets became aware of how widespread the COVID-19 outbreak was in China, global oil prices began to slide. As the shutdowns spread throughout the United States and Western Europe, the price of the global Brent crude oil benchmark collapsed. As Fatih Birol, head of the International Energy Agency said, “the oil world has seen many shocks over the years, but none has hit the industry to the degree we are witnessing today”.

The disjointed response by major oil producers began almost immediately and lasted until early April. As prices continued to fall, no major producer wanted to be the first to cut its own production, lest it lose market share to others. Even with no customers on the horizon, everyone continued pumping. The last time oil prices had experienced such precipitous declines, Russia and Saudi Arabia partnered under an unofficial OPEC+ arrangement to help manage oil production, and consequently prices. 

That arrangement broke under the pressure of COVID-19, with Russia rejecting an early March proposal from OPEC to cut production by 1.5 million barrels per day. Subsequent to Moscow’s veto, Saudi Arabia and Russia entered into a full-scale price war, with Riyadh announcing it would set record high production levels. 

The Russia–Saudi sniping, similar to the 2014 price war, directly implicated the United States, whose unconventional producers, particularly those who use hydrofracturing, are one of the targets. Not only did the price cut bleed their profit margins at a more aggressive rate than their Saudi or Russian competitors—the unconventional production methods mean higher productions costs, which become uneconomical as the price lowers—but the private debt markets on whom they would depend for operating capital were frozen due to COVID-19. 

Hence President Donald Trump’s strong desire to get a price war ceasefire. He put public pressure on both Moscow and Riyadh to make a deal, backing it up with the threat of tariffs on Saudi crude oil imports, a symbolic threat that still had strong rhetorical effect. Eventually, in early April, Saudi Arabia and Russia finally coordinated, with the rest of the OPEC membership, to a near ten million barrel per day cut, though only time will tell if it is properly implemented. Even if the production cuts go into effect, it still remains to be seen if they  can make oil prices exit a bear market—the decline of the West Texas Intermediate price benchmark to below zero for May deliveries is emblematic of the challenges ahead.

It is hard not to think this entire experience is a sobering reality for an administration that had, for so long, touted America’s “energy dominance”. Almost immediately after President Trump took office, he promised the American people that the United States’ status as an oil and natural gas producer would give it unparalleled geopolitical leverage. Instead, COVID-19 helped remind the world that oil is a globally traded commodity, subject to conditions beyond the control even of the U.S. president. In the short-term, it is notable that U.S. domestic producers as a whole will have their roughest operating year on record. 

Over the long-term, however, it demonstrates there is no simple relationship between how Washington feels about energy security and what its posture will be toward the Middle East. Despite years of commentary about “energy independence” and “energy dominance,” U.S. production cannot extricate itself from developments in the Middle East. Not only do tensions have a direct bearing on price, but the politics of the region will continue to draw Washington in. This is especially true given the expected economic fallout.

U.S. Financial Leverage and the Middle East  

One trend that seems immune to COVID-19 impacts is the United States’ financial supremacy. The U.S. dollar is the principal currency of global investment and trade. As the full consequences of the global pandemic set in during February and March 2020, emerging market economies led a rush to safety in the U.S. dollar. This emergency action, combined with the need to curtail normal economic activity, will likely exacerbate budget and currency problems for vulnerable countries in the region. It will also, at least in the short term, increase the influence of U.S. sanctions, which are dependent on the centrality of the dollar to global commerce. Both will have profound foreign policy consequences as a new presidential administration takes office in January 2021, whether it is Joe Biden or a new Trump term. 

Such dominance was the cornerstone of the Trump administration pre-pandemic foreign policy. The Trump administration did not hesitate to throw its financial weight around as the COVID-19 pandemic unfolded. It maintained its maximum economic pressure campaign against Iran, adding new entities involved in various sectors of the Iranian economy to the U.S. sanctions list. The administration also argued against any effort to relax its sanctions approach in light of COVID-19, arguing that the law allowed sufficient exemptions for humanitarian trade. 

Regardless of the merits of that debate, it does have important consequences for how the region sees U.S. leadership in a wider context. Take as an example the debt burden of middle-income Middle Eastern and North African states, which has always been a worry but now is far more acute because of the global macroeconomic context during a pandemic. Unfortunately, the administration’s coercive posture does not have an incentives-based corollary that could ameliorate this situation. 

That is not to say that there could not be a plan in the future. The Trump administration’s plans for solving the Israeli–Palestinian conflict through financial investments could not make a significant impact. Many administrations have spilled ink with Marshall Plan-like development plans for the region that have similarly gone nowhere. Even in a post-COVID-19 world then, the United States may default to an approach ill-suited to the region’s requirements after the pandemic, prioritizing security threats over a cohesive economically based or driven foreign policy strategy. 

A Slowly Changing Competitive Nexus in the Middle East

Both of these factors do present an opportunity for one power in particular to recast its role: China. As the COVID-19 index patient, China is now only beginning to open up from its lockdown, buoyed by a superficial impression that it responded better than the United States or Western Europe, and that it was more generous in aiding others. This soft power advantage could be easily combined with significant fiscal resources to double down on its pre-pandemic global strategy to reshape the international order in a way that is more amenable to its political and economic system. 

China’s delivery of testing kits to the region may be followed by investment and debt relief which, though on the surface welcome, may come with the same string attached that has marked many Belt and Road Initiative projects elsewhere. This trend would be reinforced by the growing impression that Russia’s traditional intervention in the region is destructive, and the United States’ contribution is uneven, and principally military and not economic in nature. 

Rebuilding Ahead

The international order will not endure beyond COVID-19 without significant shifts, both economic and political. More so than post 9/11 or the 2007–2008 global financial crisis, the structures of our current political economy have been shaken in profound ways. The international community now has an opportunity to consider the foundations on which that order will be rebuilt. 

The first concrete steps in this process cannot take place until later this year, after the American people vote in a presidential election fundamentally reshaped by the effects of COVID-19. Much as the Trump administration or its Democratic rival would like to believe, the United States will probably be heavily involved in the Middle East.

Global oil markets, which in normal times are one of the most critical inputs into the global economy and support the national budgets of much of the Middle East, will likely spend the summer trying to track implementation of the production cuts deal. The existential question of whether oil demand will return to “normal” will occupy oil market watchers for the rest of the year. 

Likewise, the wider economic context will also present challenges for the next decade. We are only seeing the very early days of a significant debt crisis for not only the emerging market world, but also a number of important states in the Middle East and North Africa. 

The visitation of the U.S.–China economic competition will only add a layer of complexity to the centrifugal tendencies of the region, particularly since the 2003 U.S. invasion of Iraq. Regardless of the course of the recovery, the United States, and its relationship to other major powers in the Middle East, will be a crucial dynamic. Whether that means it will be able to build a stronger regional political and security order than what had previously existed will be the question that dominates the agenda for years to come. Given the profound disjuncture that COVID-19 has visited on the region in the first quarter of this year alone, it is hard to be optimistic.  

Neil Bhatiya is an Adjunct Fellow with the Energy, Economics, and Security Program at the Center for a New American Security. On Twitter: @NeilBhatiya.

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