Israel-Hamas War Flash Report - 06 FEB 2024 17:45 PDT - Houthi's Devastating Economies

Traffic through the Suez Canal in January 2024 dropped by 90% compared to 2023 due to Iran-backed Houthi rebels attacking shipping in the Red Sea. Houthi rebels stated their intent was to block shipping traffic to Israel by targeting only Israeli-associated ships and ships carrying cargo to or from Israel. But since early December, to quote Captain James T. Kirk from Star Trek II: The Wrath of Kahn, "...but like a blind marksman, you keep missing the target."

Only 35% of attacks on civilian shipping can be connected to Israel, and in some cases, even that connection is tenuous.. We're approaching 90 days of drones and missile strikes in the Red Sea, the Gulf of Aden, and, if you squint, the western edge of the Arabian Sea. Who's hurting?

1. Egypt has taken the biggest hit. While the official exchange rate for the Egyptian Pound to the US dollar is stable, the black market rate was at a record 70 pounds for 1 USD before crashing to 50 for 1 on Monday after an infusion of $30 million infusion of foreign currency from the Central Bank of Egypt, and a new agreement with the IMF. Prior to the changes made with the IMF, disbursement from a $3 billion loan agreement signed in 2022 has been suspended. One of the requirements to maintain payments was Egypt had to stop currency manipulation. Approximately 18% of all government income comes from transit fees for using the Suez Canal. That's down 90%. Additionally, a lot of cargo was loaded or reloaded at Suez, and that work is gone. Interest rates in Egypt are 21.25%, and inflation decreased to 34.6%. Additionally, Egyptian exports that would transit the Black Sea are also gutted. The economy was already weak, but losing 1 of every 6 dollars collected in transit fees has been devastating.

2. The impact on China is growing. In November, China was ambivalent about shipping attacks in the Red Sea, but that's shifted. On January 25, Beijing asked Tehran to reign in the Houthis, reportedly telling the Iranian government, "If our interests are harmed in any way, it will impact our business with Tehran. So tell the Houthis to show restraint."

Iran pushed back, declaring they don't have control over the Houthis and there isn't much they can do.

Editor's Note: You could stop selling them weapons. Just putting it out there.

Who has the power in this relationship? China is Iran's biggest trading partner, and most of that is oil. This is where it gets complicated. Only 10% of all of China's oil imports come from Iran, so on paper, finding new willing sources shouldn't be a problem.

But Iranian crude oil is terrible. It is very heavy and very sour, and many buyers don't want it. Refineries can't take any crude oil shipped to it for distillation and processing. They're designed to process oil depending on how light or heavy it is and how sweet or sour it is (no pun intended). Oil is considered sour if it contains hydrogen sulfide (H2S). The more H2S in the oil, the more sour it is. H2S is very poisonous and very corrosive. A refinery designed for sweet oil can't use it - at all. Have you ever been around a refinery that smells like rotten eggs, and you see fires burning on the top of towers? That's H2S, and the flare towers are burning off the sour gas from the distillation process.

Likewise, a refinery designed to process sour oil will have problems processing sweet oil.

What does this have to do with Iran and China? The refineries in China that are designed to process Iranian crude will have a hard time processing other sources because Iranian crude is a special kind of trash; they exhausted their lighter-sweet reserves decades ago. That's why it's complicated. China could say no more Iranian oil at some point, but that's easier said than done - at least on paper.

It's hard to measure the direct impact on shipping to the Chinese economy because it is in freefall for other reasons. The $300 billion bankruptcy of the Evergrande Group, the housing bubble collapse, manufacturing that never fully recovered post-COVID restrictions, a demographic crisis, shrinking disposable income slashing domestic consumer spending, and years of sanctions lite are all taking a toll. The 3X increase in shipping costs from Europe to China, almost reaching COVID levels, is just another rock on the pile. The two to four-week delays in shipping aren't helping either.

China has gotten more serious about protecting shipping in the Red Sea, escorting some vessels, but the delay in response has already taken its toll.

3. Attacks on shipping are pushing Sudan to the brink of famine. The world is not paying attention to the Civil War in Sudan between the local government and the Russia-backed Rapid Support Force, which started in April 2023. Since the RSF attacked government forces across Sudan, an estimated 15,000 civilians have been killed and 33,000 wounded. Over 6 million people have been internally displaced, and another 1.7 million have fled the country. According to the UN, 18 million people are on the brink of starvation, and the RSF has been accused of multiple war crimes, including accusations of genocide in Darfur.

What do Houthi attacks have to do with this? Since Ukraine retook control of the Black Sea, the amount of cargo moved through ports in Odesa is just under the pre-war volume for all of Ukraine. That includes grain purchased by the European Union, the United Nations, and USAID to prevent famine in Africa. Most of those shipments have had to stop because the Houthis are targeting any ship that has even a tenuous connection to a nation that is supporting Israel. Shipments of food products, medical supplies, and other resources are down, and the costs are increasing. Sudan has no safety net under it, and most relief agencies have left due to the civil war.

Who isn't being harmed?

1. Israel. The attacks haven't harmed Israel's economy, according to Al Jazeera and other sources (picked Al Jazeera because of their clear bias, which adds weight to the facts). Israel's top trade partner is China, but the ships are taking the long way around, and the costs are being passed on to the Chinese customers. Shipping to the United States, Switzerland, and The Netherlands, Israel's number 3, 4, and 5 shipping partners don't rely on the Suez Canal. The number 2 partner, interestingly, is "everyone else." That is the long tail of slices so small on the pie chart you can't see them that goes here, there, and everywhere.

2. India. Wait, why is China hurt and India isn't? India's economy is in better shape, and businesses are better able to absorb the increase in shipping costs. Of India's top ten trade partners based on imports, only the European Union is dependent on the Suez Canal, and that represents 9.5% of all imports from the top ten trading partners. Some Russian imports from the Black Sea are also impacted, but that is limited. Additionally, unlike China, India deployed its navy to secure its financial interests shortly after the Houthi attacks started.

3. United States. Goods that come from China transit the Pacific Ocean and don't use the Suez Canal. Goods from Europe also don't use the canal or the Red Sea. Among the top 15 trade partners with the United States, only one, eighth-ranked India, is impacted by the situation. Behind China, the number two and three trade partners are Canada and Mexico, which don't rely on commercial shipping at all.

There are no signs that the Houthis will relent their attacks, and we agree with our friend Preston Stewart that a state of limited war currently exists between the United States and Iran. Attacks have been happening multiple times a day for months, and military personnel have been killed on both sides.

As this quasi-proxy war continues, and there is no reason to believe it won't, China could play an interesting role in adding more pressure on Iran to influence their proxies in Yemen. Analysts have told us (as we're no longer dedicating muscle here) that there is almost certainly a nugget of truth in Tehran's claim that they've lost control of the Houthis.

After almost three months of sustained attacks, one thing is becoming clear. The actions by the Houthis are doing more harm to the interests that support Iran and their proxy forces than their intended target of Israel. The problem is admitting that is an admission that the strategy has been a failure.