Global Economic Recovery: Prod Venezuela to Strangle Iran

In just over four months, Americans will elect a president based on the economy, and both candidates have been unable -or more likely unwilling- to address a macroeconomic Catch 22 to once and for all end this five year slump.

If Europe fails to fix its problems, oil prices will plummet as markets factor in fears of a long term and deep recession, which will keep crude markets oversupplied.

Of course that is simultaneously President Barack Obama’s worst nightmare toward reelection, and regardless who is elected it’s also America’s biggest economic threat as cyclical unemployment morphs into structural unemployment, like it already has in Europe.

If on the other hand Europe plots a trust-worthy exit strategy out of its political stagnation, markets will erase the current dip in oil prices as they factor in a more robust global growth in the US, Europe, and especially China, and within months crude and pump prices will once rise to politically unacceptable prices.

This Catch 22 happens to be convenient for Obama in the run-up to November elections because it mutes voter concerns over pump prices and it diverts responsibility of domestic handling of the economy to the global slump.

But Obama can’t have it both ways for too much longer. Markets are currently guessing, but Europe’s crisis is closer to climaxing, whether it’s a Greek exit of the euro zone (a painfully manageable scenario) or a Spanish or Italian default (a cataclysmic global economic scenario that will make the debate and this analysis irrelevant).

That means that Obama and his Republican challenger Mitt Romney have a few months to pre-empt a dangerous draw to America’s economy, assuming the best case scenario that Europe gets its act together. As the campaign heats up neither can be expected to actually do anything public, but it’s a good time to lay the diplomatic groundwork.

American recovery and Iranian containment

Perhaps the most overlooked consequence in this economic juncture is Obama’s ability to tackle his administration’s biggest foreign policy weakness, which is of course Iran. Sanctions alone haven’t worked, but coupled with a slump in oil prices Tehran appears more willing to negotiate.

Once the world economic recovery is solidly on track, markets will inevitably wager how to fuel it. Western allies, unconditionally led by Washington, have drawn the line on Iran. The message is clear: targeting Iran’s oil revenue is paramount even to keeping global prices down.

Geopolitically and militarily, the logic is straightforward and sound. Both Obama and Romney agree on this. Iran’s nuclear program must be contained because the alternative is a lot nastier, and could involve anywhere from a nuclear-armed Islamic Republic to a regional war that inevitably drags in Israel and Saudi Arabia, an exponentially bigger threat than limiting Iranian oil exports.

That means world oil markets must factor in a long term disruption to oil markets as Iran’s export decrease. How long or how much is anybody’s guess, and markets for some time have been trying to gauge this huge uncertainty.

Ahead of a new round of negotiations brokered by Russia this week, President Mahmoud Ahmadinejad suggested Iran would be willing to suspend high-grade enrichment in exchange for enriched uranium supplies, which technically means little, but diplomatically means the country might be finally feeling the economic pain.

This outcome is accidental. The sanctions alone would not have worked. Oil prices only increased. But coupled with the economic turmoil, oil consumers are finding more than enough oil to offset lower exports from Iran.
But if all goes well, the economy will regain a solid footing on its economic recovery and Iran’s oil will once against become vital.

That means both Obama and Romney have a few months to draft a long term strategy to continue offsetting Iranian exports. The priority is to keep the pressure on Tehran and that can only be achieved through lower oil prices.

Moreover, keeping markets well supplied will also mean the economic recovery will be swifter and that America will be better able to address its more pressing diplomatic challenges, whether it’s a defiant Russia under Vladimir Putin; an Afghanistan withdrawal and a Taliban resurgence, and naturally a steamrolling China.

Venezuela and a Chavez’s legacy

Behold the best option: Venezuela. While President Hugo Ch’avez has been clinging to life itself, cancer has become the biggest threat to his legacy. This is diplomatic window that the US fails to recognize, at least publically.

In the meantime, Venezuela is successfully raising oil output, despite all of America’s efforts. It took a massive recession and probably a crippling illness to finally force Ch’avez’s hand. Venezuela is, even more than Iran, utterly dependent on oil revenue. With oil prices down, Ch’avez stands to lose all.

As a populist, death is not Ch’avez’s biggest fear. It’s an unforgiving legacy. His revolution will not survive if prices keep dropping. He overthrew a regime because of tumbling oil prices. And he knows that Washington and his political opposition are minor headaches compared to falling oil revenues.

Ch’avez too faces reelection in October. He remains the frontrunner, by far. But his health could catalyze a gradual regime change. Regardless, expect Venezuela to increase oil output with or without Ch’avez because the country has mortgaged its long term economic and political stability to oil revenues. The question is how much more oil.

“Venezuela’s fiscal situation continues to deteriorate due to declining oil prices, an acceleration in central government spending and exchange rate appreciation,” said a Bank of America-Merrill Lynch report published last week. “Correcting this fiscal gap will require a substantial fiscal and exchange rate adjustment in early 2013. The result will be a deep recession, which could be exacerbated by further oil price declines.”

Washington needs to use this juncture to its advantage. Ch’avez needs to pump more oil as much as the US wants more oil in the market, especially if prices will remain contained by a sluggish global economic recovery.

The US needs to negotiate diplomatic relief for Ch’avez regime -limited of course to its energy industry and not his pending human rights record. It’s the best way to keep oil markets well supplied to exert pressure on Iran and to accelerate an American economic recovery.

Obama and Romeny need to understand Ch’avez is not a threat, but a useful idiot.

This is the first in a two-part analysis of how Venezuela could contribute to US national security over the next decade. Andr’es Cala and Michael Economides are coauthoring America’s Blind Spot: Ch’avez, Oil, and US Security, published by Continuum, which will be available July 17.