Mid-East conflict escalation, two indicators

0:00Support comes from our 2025 lead sponsor of Planet Money, Amazon Ads. Less than half of customers fully trust their financial institutions. Amazon Ads helps financial brands build that trust through relevant ads, using first-party signals to reach the right customers. More at advertising.amazon.com. This is Planet Money from NPR. Hello and welcome to Planet Money. I'm Darian Woods. And I'm Patti Hirsch. Tensions in the Middle East continue to ratchet higher As the conflict in Israel and Gaza rages, other regional and international actors are beginning to get involved. The militant group Hezbollah has fired missiles into Israel from Lebanon, while Houthi rebels from Yemen have attacked ships in the Red Sea in solidarity with Palestinians in the Gaza Strip.

0:50Those attacks in turn have provoked a military response, including strikes on the mainland of Yemen from both the US and the UK. And this week, Iran launched a ballistic missile strike into northern Iraq, saying it was aimed at Israelis who it claims were involved in a suicide bombing in Iran recently. Our colleagues at NBR have been covering the political and human toll of this continued escalation. And today we trace some of the economic ripple effects of the conflict as it expands outwards. We look at the three stages of possible escalation and the pressures they put on the region's biggest export, oil.

1:27But first, we start in the Red Sea, where American warships are defending global shipping routes. Weyland Wong and Adrian Ma pick it up after the break with a story we ran on our shorter daily show, The Indicator.

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2:38The Red Sea is a narrow strip of water with Egypt and Sudan to the west and Saudi Arabia and Yemen to the east. And the waterway is a crucial piece of the global supply chain. Between 10 to 15 percent of the world's shipping goes through this area. This includes oil tankers and massive container ships transporting everything from microchips to furniture. And on the northern end of the Red Sea is the Suez Canal, which is the most direct sea route for trade between Europe and Asia. It's a long day. It takes you all day to go through the Suez. Salmer Cogliano is a maritime historian at Campbell University and hosts a YouTube show called What's Going On With Shipping.

3:17In his previous career as a merchant mariner, he was a civilian stationed on U.S. Navy ships. He's been through the Suez Canal a few different times. You mount a huge headlight on the front of the vessel. Most people don't know this. What's called the Suez Canal light. And I never understood why until my third passage through the Suez Canal when we were heading down it. And a herd of camel were swimming across the canal. Yeah, and I thought driving through country roads and looking out for deer was dicey. So the Suez Canal sits at the northern end of the Red Sea. At the southern end of the Red Sea is a strait called the Bab el-Mendeb Strait, also known as the Gate of Tears.

3:54This narrow strait borders Yemen, and it's where the Houthi rebel group has been making a good number of its attacks. The Houthi rebels have been fighting a civil war in Yemen for almost a decade and are vying for control against the internationally recognized government of Yemen, which is backed by Saudi Arabia. These years of brutal conflict have created what the United Nations calls the largest humanitarian crisis in the world. Sale says the Houthis have been attacking commercial ships in the Red Sea since 2015. But then in November, they used a tactic that Sale hadn't seen them try before.

4:26They landed a helicopter on a ship and hijacked the vessel, which reportedly has links to an Israeli company. There was no cargo aboard, but there were 25 crew members. And as of this recording, it appears they are still being held. Sale says the seizure of the ship signaled something new and dangerous, and the situation has only escalated from there. Initially, they announced they were attacking ships that were either Israeli-flagged or Israeli-owned. But then they ratcheted it up and they said any ship connected at all with Israel will be attacked. And what they wound up doing was actually attacking ships that have nothing to do with Israel at all.

5:04For example, in December, the Houthis launched a missile at a container ship that was registered in Hong Kong. That ship has nothing to do with Israel. It wasn't going to Israel, wasn't coming from Israel. That told everybody that now this is a much more dangerous area. Just this week, the Houthis hit a U.S.-owned container ship. The U.S. military says there were no injuries reported. In the maritime industry, ships can get insurance that covers acts of war and piracy. This is a special kind of insurance called war risk insurance. Sell says that before this ramp up in violence, the war risk insurance for the Red Sea was considered low, around 0.02 percent of what the ship's total value was.

5:47But after the Houthis started attacking commercial ships in a more indiscriminate way, war risk insurance for the Red Sea went from 0.02 percent to 0.7 percent and now 1 percent. That could potentially tack on millions of dollars in extra insurance costs. A container ship can carry, you know, in excess of hundreds of millions of dollars worth of cargo. And when you have to start paying insurance on that at 0.7 percent of the value, that becomes extremely expensive. Shipping companies started to charge extra fees to transport cargo to and from the Red Sea. They also began rerouting some of their vessels to avoid the area altogether.

6:25Some of these ships were already on a detour. They were originally planning to travel through the Panama Canal, which connects the Atlantic and Pacific Oceans in Central America. But the Panama Canal is having problems with low water levels, which reduces the number of ships that can actually use it. So some ships were opting for the Suez Canal instead. But now the Houthi attacks are making them change course again. And this detour also comes at a cost. Corey Ranslum is CEO of Dryad Global Limited, a company that specializes in maritime intelligence. Some of the top shipping companies have paused any transit through the Red Sea and are now going around the Horn of Africa and then back into the Mediterranean, which can add anywhere from potentially 14 or 15 days, maybe even to 25 or even more days.

7:14And it adds a lot of cost. It's potentially upwards of an additional million dollars to the cost of that transit to go around Africa. That increase in costs could be due to higher labor costs for the crew on a longer voyage, plus additional fuel to get all the way around the Cape of Good Hope in South Africa. Corey said that depending on how contracts are written, cargo ships that are delayed because of rerouting might also have to pay penalties for late deliveries. And there's always the risk that these higher costs get passed down the supply chain in the form of higher oil prices as well as more expensive consumer goods.

7:53Corey says whether that happens in this case depends on the length of the conflict. When you look at global shipping, time is the enemy. So if this drags out into a year or two years and we're seeing threats against shipping at high levels and vessels still diverting around Africa, you will see the cost of goods go up. This is not the first time that war has disrupted shipping in the Red Sea. When war broke out in the Middle East in 1967, Egypt closed the Suez Canal to international shipping. The canal didn't reopen until 1975. With the Houthi attacks, the U.S. military cited the impact on global trade as a motivation for getting involved.

8:34Sale, the maritime historian, says that under international law, all countries have to help when ships are attacked. But he says the U.S. military's response in the Red Sea is going further than that. And now a U.S.-led coalition is even attacking Houthi targets on land in Yemen. The violence in the region, combined with the low water levels of the Panama Canal, amount to a major stress test for global shipping. When it comes to supply chain, particularly ocean supply chain, it's actually kind of a web. And when you break one part of the web, the other parts have to take up the strain. And that's what you're seeing right now.

9:11Recent estimates say about 80 percent of container ships that were previously transiting the Red Sea are now avoiding the region.

9:21Coming up after the break, Darian Woods and Patty Hirsch break down how three stages of escalation could impact the region's greatest export, oil, and the likely ways that could ripple around the world to other markets like food.

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11:01How you HR matters. Learn more at insperity.com slash tiger. To most Middle East watchers, escalation of conflict there takes the form of three distinct stages. There's the opening scenario, where conflict is confined to Israel and the Palestinian territories. Then the proxy war, which spills into neighboring countries like Lebanon and Syria and involves strikes by militant groups. And finally, the third stage, a direct war involving direct military exchanges between Israel and regional rivals. Rachel Ziembay is an economist at the Center for a New American Security. She says we're already well into the second phase of escalation.

11:41Escalation to me means more countries getting involved, which of course has already been happening. These are conflicts that involve not only countries, but also non-state actors. I'm thinking about Hezbollah in Lebanon, obviously the Houthis. Rachel says she's deeply concerned about the loss of life in this conflict. But as an economist worried about the domino effect that the conflict could have on the global economy, she's particularly focused on one big factor, which is the price of fossil fuels. The biggest economic risk to the global economy manifests around potential losses and disruptions of oil and gas trading volumes.

12:24Israel doesn't produce much oil, but the Middle East at large is a huge producer, of course. And the concern is that if the conflict there continues to escalate, it could strangle the output of oil and gas by some of the world's biggest producers, the Gulf states. That could be like toppling an enormous domino in the global economy. It would affect Americans for sure as prices would rise, but the greatest pain would be likely felt in less well-off parts of the world as food prices begin to rise too. David Rees is an emerging markets economist at Schroeder's. Oil prices, energy prices obviously feed through to other commodities.

12:58It's a major input into the production cost of food. And if you look over time, there's a very close correlation between movements in energy prices and food prices. Food insecurity is already high in many developing countries, in part due to the war in Ukraine. If food prices begin to rise even further, it would be like a second domino falling, potentially leading to a sharp increase in food insecurity. And that can lead to a host of other ills, sickness, starvation, and political instability, a potential third domino that could wreak havoc on regional and even global security. The other factor that could affect both food security and the price of oil is what's happening in the Red Sea.

13:38This is most meaningfully impacting goods that are coming from Asia, especially China, to Europe. So it adds more than a week and a lot more energy to get those goods. Oil shipments by sea, which have increased recently due to the war in Ukraine, are under similar pressure. A lot more of Russia's oil and natural gas is going on ships. It's not going through pipelines. It's going longer journeys. And this, of course, makes it more vulnerable to disruptions. The sight of rebels disrupting shipping in the Red Sea has many analysts fretting about a similar scenario, just 1 ,500 miles to the northeast.

14:17The big risk that I would be worrying about and many people worry about is the viability of the Strait of Hormuz, which is the sort of exit point from the Gulf. One-fifth of the world's oil passes from the Persian Gulf through the Strait of Hormuz. And the next step in any escalation, a fourth domino if you like, could be a similar shipping blockade by the country that lies to the north of the strait, Iran. Iran is aligned with both Hezbollah and the Houthi rebels. It's also a key supporter of Hamas. And as such, it's the one player that everybody is watching right now as they think about escalation in the region.

14:52Does Iran get more involved, both in the conflict, but also in the political and economic policy response to the conflict? Iran produces about 4 % of the world's crude oil, although accurate figures on its output are actually pretty hard to come by. Losing that supply wouldn't make that much difference to oil prices. But if the situation escalates to a hot war between Iran and Israel, that's a fifth domino in the chain that could pull other oil producers into the conflict. If they cut or stopped output, Rachel says, that would definitely drive prices higher. What you need then is you need not only Iran to be involved in its production offline, but I think something would have to happen whereby Saudi Arabia couldn't or wouldn't replace or where some of their output was threatened.

15:40This is the scenario that David Rees and his team at Schroeder's modeled recently. And when we did our scenario, the most immediate shock to the world economy it came through a big increase in oil prices to over$100,$100,$120 a barrel, something like that, which would immediately push up energy-related inflation. Another report from Bloomberg Economics estimated that in a similar scenario, global growth would drop to 1.7 % and trigger a recession that would take about a trillion dollars off world output. That was based on the expectation that oil prices would go up to$150 a barrel. David's fear is that all of these dominoes tumbling together could tip us into a version of stagflation.

16:20I mean, maybe employment would stay high, but you'd have stagnant growth and high inflation. Yeah, and this is a fear that a lot of people over a certain age have when we contemplate the prospect of turmoil in the Middle East driving oil prices higher. In October 1973, Arab members of OPEC proclaimed an oil embargo in response to, as they put it, the U.S. decision to resupply the Israeli military during the Yom Kippur War. Prices soared. They quadrupled, in fact. Americans suffered long lines at gas stations, and the US economy entered a two-year recession. Today, though, stagflation doesn't seem to be on the cards.

16:57Obviously, you've got a pretty tense situation in the Middle East, and you've got disruption to the shipping routes through the Suez Canal. But the missing piece at the moment is that oil prices basically just haven't budged. Well, they've gone up a wee bit recently. They're still only around$80 a barrel, though. David says that some of this has to do with expectations for a global economic slowdown, which is stifling demand for oil. And Rachel says that on the supply side, output volumes are helping as well. Those impacts have been dampened by the fact that there's been increased volumes coming out of the U.S.

17:34and other producers in the Americas. Both David and Rachel agree that the danger to the economy is real if the situation in the Middle East deteriorates further and if escalation continues past that second stage. But that's if Iran gets involved and if the Gulf states start restricting their supplies of fossil fuels. That's a lot of ifs, a lot of dominoes to fall. And for now, even with tensions high, all of those dominoes appear to be holding fast. I'm Darian Woods, and that was Paddy Hirsch and Waylon Wong and Adrian Ma at The Indicator from Planet Money. If you don't subscribe, it is another podcast from Planet Money, but it's daily and it's shorter.

18:16It's out every weekday with one economic idea from the news explained in 10 minutes or less. We'll link to it in the show notes. Coming up on Planet Money, three contestants go head-to-head in a battle for economic reporting supremacy. I didn't sleep a lot. I'm tired. I have a really big coffee. I am really now actually starting to panic. The pressure's on, the pressure's on. On the line is bragging rights and the coveted Econ Battlezone belt that is next time on Planet Money. These indicator episodes were produced by Julia Ritchie and Corey Bridges with engineering by Maggie Luthor and Josh Newell.

18:51They were fact-checked by Sierra Juarez and they were edited by Kate Concanon. Planet Money is a production of NPR. Thanks for listening.

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