Where will the war of words lead us?

Ben Lockwood, Deputy Head of Speciality — AEGIS London.

The full repercussions of the US abandonment of the JCPOA in May this year and reinstatement of sanctions are yet to un-fold. At the time of writing, hard-line Iranian President Rouhani’s threat to Iranian diplomats: "America should know that peace with Iran is the mother of all peace, and war with Iran is the mother of all wars," does not suggest the future is particularly bright, particularly after President Trump responded in kind. The real question of course is whether the long fought war of words will escalate into something more serious.

In July 2015, the so-called P5+1 group of nations and Iran finally put pen to paper on a deal to restrict the Iranian nuclear programme in exchange for broad-ranging sanctions relief. This deal – known as the Joint Comprehensive Plan of Action (JCPOA) – was widely praised by its signatories as a historic compromise between nations. With the shadow of fear created by Iran’s alleged nuclear weapons programme lifted, the stage was seemingly set for gradual peaceful Iranian re-integration into the international community.

However, the realities of Middle Eastern geopolitics never run quite so smoothly. From the moment the JPCOA was agreed it was not short of critics.

Israeli Prime Minister Benjamin Netanyahu called the deal “a bad mistake of historic proportions”.  The leadership of Saudi Arabia – increasingly aligned with Israel via a realpolitik ‘my enemy’s enemy is my friend’ shared view of Iran – voiced similar opinions. In the US, influential voices opposed to former-President Obama lambasted the deal; laying the foundations for then-candidate Donald Trump to describe the JPCOA as “a horrible one-sided deal that should have never, ever been made”.  After his eventual election, President Trump made good on his promise to scrap the deal; announcing US withdrawal in May 2018 and the re-implementation of strict pre-JPCOA sanctions that target Iran’s strategic industries and maritime trade.

Into the valley

The immediate implications for insurers were clear; mandatory compliance with the new regime led to many existing and prospective deals with Iranian involvement requiring review, curtailment or cancellation. It is the medium to long term risks associated with Iran’s response that is leading insurers with Political Violence (PV) exposure in the region into a valley of uncertainty.

Iranian leadership – historically dominated by hard-line conservatives checked only by marginalised centrist voices – faces difficult choices. Capitulating to US demands is likely to be off the table for the foreseeable future. Their initial attempts to carry on with the JPCOA in the absence of the US will likely avoid immediate catastrophic economic shocks, but as US pressure and secondary sanctions begin to bite, the Iranian economy will inevitably suffer surging distress.  Economic distress generates internal political pressures; increasing the appeal of assertive overseas action as a means to shore-up domestic support for a potentially vulnerable regime.  Herein lies great uncertainty and potentially ever-greater insured risk.

What might Iranian actions look like?

Iran has a track record of threatening a naval blockade of the Straits of Hormuz and has made similar noises since May; such actions would hugely disrupt maritime trade and put Marine War insured exposures at enhanced risk. Doing so would likely draw the US into direct conflict with the Iranian Navy; a risk one would rationally suggest is too great even for the most hawkish Iranian leaders.

Direct Iranian military engagement with Israel – or possibly even Saudi Arabia – could be viewed through a similar lens; unlikely but not entirely unforeseeable, and certainly not reflected in PV rates or aggregate war exposures. Iran has already tested Israel’s resolve by firing rockets into Israeli occupied Golan on May 9th this year; a consciously limited but politically unprecedented and symbolic act of aggression.

Time for a war on land RDS?

Could it be time for an inter-state War on Land Lloyd’s RDS to better assess and identify exposures to such risks? Quite possibly.

Arguably the most likely avenue for Iranian action will be through use of proxy forces in asymmetric warfare against Iran’s adversaries.  Much like the threat of naval blockades, this is something Iran has threatened in the past. Yet unlike the naval blockades, this is a trigger it has pulled many times as it can plausibly deny involvement – thereby restricting the likelihood of direct military responses on Iranian soil. The on-the-ground facts in Yemen today testify to Iran’s ability to surreptitiously project power beyond its borders; with exposures and insured losses in the territory driving PV rates to unprecedented highs.

But it is with Iran’s de-facto control of formidable Lebanese militant group Hezbollah and its existential conflict with Israel that the greatest insurable risks are likely situated.

To date, Hezbollah has absorbed regular Israeli airstrikes on its assets in Syria; consciously avoiding provoking an all-out war while it remains politically undesirable for it and its Iranian patrons. Shifting sands in Iran could change this dynamic. Insured exposures on both sides of the Lebanese / Israeli border are exponentially higher than those in Yemen. The ability and desire of each side to wreak widespread destruction on each other is also exponentially higher, yet rates often remain only at a small fraction of those seen in Yemen and continue to fall.

Most commentators view the next war between the two adversaries as a question of ‘when’ not ‘if’. If a painful reckoning is coming, the knock-on effects of Iranian sanctions could well be the catalyst. When it comes to War losses in the region - you ain’t seen nothing yet…

First published in Insurance Day 31 July 2018.