The American intervention to support the Japanese yen, which is near 40-year lows, has failed. The yen is back at the same level it was before the intervention, meaning that the Americans only bought a month of time. Furthermore, the Americans sold euros to buy yen. This angered the Europeans, and they seem to have retaliated by warning that the AI bubble is about to burst. This is significant. Typically, the masters of finance have coordinated their interventions to maximise their impact and pacify the markets. That they are now apparently throwing one another under the proverbial bus is simply unprecedented.

Global debt levels

Briefly, global debt levels are at historic highs, and they have continued to rise since the 1950s.

America has been leading in terms of total borrowing, with government debt above 120% of GDP, which is where Japan was in the early 2000s.

The West became especially addicted to cheap debt following the disastrous tenure of Federal Reserve Chairman Alan Greenspan, who set policy rates at historic lows. Western and some developing governments have refused to adapt to the new reality, in which interest rates will never be below 4% again without leading to catastrophic second order consequences. Meaning that the stock of debt kept on rising. Now, increased interest rates threaten the financial viability of states, not just households.

Interest Rates

Interest rates for government debt in the USA, UK, Germany, France, and Japan are at or near 20-year highs, as per the charts below. Simply, higher costs of energy imports are making investors lose confidence that there would be sufficient economic growth to keep debt to GDP ratios at current levels. Lower growth leads to lower taxes as well as greater social spending, leading to more borrowing, and raising the cost of debt.

The result of the increase in total debt, along with the increase in interest rates, has been an exploding amount of interest payments for all developed economies. Britain’s interest expense now is £109 billion per annum. This is a historical level that exceeds defence, education, and is half the biggest item of spending, Health and Social Care. In the USA, the interest expense on the debt was USD1.4 trillion over the course of the past 12 months, according to the Kobeissi Letter, quoting Bank of America.

Japan

The Japanese are the most vulnerable, given their 250% debt to GDP and high dependence on energy imports, which is why their currency is devaluing: investors are losing confidence in the country. However, the Japanese are the largest holders of American Treasury bonds. If they were to sell some of their dollar reserves to defend the yen, this would cause a further increase in American interest rates, which in turn tend to drive higher interest rates throughout most of the world. Furthermore, as the Japanese yields rise, there will be pressure on the carry trade, in which financiers borrow in yen to invest outside Japan in other, higher yielding assets. If this trade is forced to unwind: borrowers are forced to sell and repay their debts, then at the very least hundreds of billions of assets would have to be sold. That could contribute to market crashes in various unseen corners of the financial markets.

Commodities

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Meanwhile, in the west of Libya, in Surman, on 4 August, local media reported that militias in Surman, near Zawiya, had attacked local security forces, leading to a day of fighting with personal weapons, mortars, and RPGs. The fighting also led to the escape of a prisoners, and to the brief closure of the road connecting Zawiya to Tripoli.

On 10 August, at least two drones hit the Zawiya refinery on 11 August, striking a gasoline storage tank that held 4.5 million litres of fuel. Another strike reportedly targeted a local electricity transmission station, also in Zawiya, on 12 August. Activity at the refinery reportedly continued afterwards. The refinery attack was attributed by a Libyan journalist to an armed group connected to the interior minister. Apparently, some of the leaders of the militia in question had been sanctioned by the UNSC, leading to this demonstration of power.

The fighting in the West followed a brief wave of unrest in July in Souq al-Juma, in Tripoli, over electricity shortages. The unrest ended after a deal was reached between the government and the Rada’ Units, one of the region’s myriad militias.

Last but not least, Central Bank of Libya Governor Naji Issa resigned his post. Although his resignation has not yet been accepted, his reasoning appears to be that the government refuses to control spending, leading to the deterioration of the Libyan dinar on the black market.

Furthermore, the division between the east’s parliament and the west’s government is deepening, with oil being sold through a company called Arkenu, allegedly owned by Libyan National Army Commander Khalifa Haftar’s son and heir apparent, Saddam Haftar.

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Rather, it appears that the Iranians saw the Sunni threat, and may have decided to seize as much as they can before it materialised, focussing primarily on the Arabian Peninsula.

In our piece The War for the Heart of the Muslim World, we had explained that there was a three way war for the domination of the Middle East, and that Saudi Arabia, the third contender alongside Iran and Turkey, was getting battered.

The logic of Iranian escalation

The Iranians see this. They see the Sunni world rallying against them. This leaves them with two choices.

1. Attempt to find a new security architecture, where the trilateral alliance recognises Iran’s interests in Bahrain (60%-70% Shi’a), Kuwait (30% Shi’a, and key staging ground against Iran and Iraq), Iraq (60% Shi’a), Yemen (30% Zaidi Shi’a), and Lebanon (30% Shi’a), while also accepting its domination of Hormuz, Bab al-Mandab, and the Persian Gulf.

2. Escalate, and take what they can now, given that Iran has major advantages in that it has capable proxy armies in Yemen and Iraq. The alternative would allow the Sunni powers to improve their position at its expense.

The first option is unrealistic. Iran knows that the Sunni powers will not indefinitely tolerate it having such an advantageous position. The very existence of countries like Lebanon, Iraq, Yemen, and the Persian Gulf states, and their recognition under the post-war order as sovereign states, guarantees that these countries will always be facing internal strife. From a realist perspective, this recognition confirms in law what is in reality just fiction - these are not sovereign nations in the Westphalian sense, but hostile communities stuck in a prison cell formed by the international order. Therefore, this strife will continue, and will be exploited by the now united Sunni powers against Iran - Iran’s main strength against the Muslims in Iraq, Syria, Lebanon, and Yemen was their lack of unity. Meaning that the Iranians have no time to waste, as their advantage against the three combined economies of Turkey, Pakistan and Saudi Arabia, and their political cooperation, is likely only temporary.

Therefore, the Iranians must escalate in contested areas, press their advantage quickly, and prevent the Gulf from taking advantage of increased oil demand to fix their own budgets, and back Turkey and Pakistan.

A web of alliances

However, proxy wars over contested regions can turn into direct conflicts. This is how the Iran-US War began, as a conflict between Israel and Hamas and Hezbollah that drew in the principals.

Moreover, the alliance structure currently in place is rather dangerous.

The Israelis are allied with the UAE, Cyprus, Greece, and India, and to a lesser extent Morocco. The Turks are now allied with the Pakistanis and Saudis. They can probably also rely on the Algerians to support them - Morocco’s neighbours and nemeses. And Iran has a regional alliance network that includes proxy forces Yemen, Iraq, and Lebanon. Iran obviously has ambitions on Kuwait, Bahrain, Qatar, and the UAE, and even on Saudi Arabia’s historically Shi’a and oil-rich Eastern Province. Further complicating the picture is Pakistan’s military dependence on China, and Turkey’s ambition for a Middle Corridor linking it to Azerbaijan, Central Asia, and China. The Russians are pre-occupied with Ukraine, but they most certainly do not want Chinese-Turkish cooperation to weaken them in Central Asia and the Caucasus. Rather, the Russians have been looking for an alliance with India and Iran, in part as a counterbalance to China and the USA. Which is why Russia kept selling India weapons during and after the Cold War.

Critically, if the Iranians thought they were under threat from Sunni powers, they would need to work with India against Pakistan, and with Israel against Turkey and Saudi Arabia. After all, India committed to invest in Iran’s Chabahar Port in order to check the China Pakistan Economic Corridor, which terminates at Gwadar Port, less than 200km from Chabahar. India was hoping to connect to Russia and Afghanistan to counter Pakistan. That investment in Chabahar has now been paused, but the rise in Sunni cooperation may reactivate it.

This alliance and counter-alliance framework is reminiscent of the period before World War I. These things tend to escalate slowly, then suddenly, and very unpredictably.

What if the current Iran War is just the slowly part?

The Americans, by launching a war with Iran, have pushed things into chaos. At a time when they have also largely successfully - at least for now - consolidated over Latin America, ensuring their ability to eventually recover from the impact of the Iran War much faster than Europe, and, they hope, China. The main American interest is in this chaos escalating, pushing the various Middle Powers of the Middle East and Asia into conflict. Chaos abroad, stability at home, is how a declining empire hopes to recover its place.

Commercial Impact

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Merz’ woes

Barely a year after taking office, German Chancellor Friedrich Merz has been forced into a reshuffle due to chaos within his own party, the CDU, which governs in coalition with the leftist Social Democratic Party (SDP). Not only is his party turning on him, but the coalition with the SPD looks increasingly untenable.

Merz’ key ally, Jens Spahn, was forced to resign after purchasing a baby through surrogacy, in contravention of German law, which strictly forbids both commercial and altruistic surrogacy. Merz sought to get out of this mess through a cabinet reshuffle, which is rare in Germany - ministers and chancellors typically remain in place for years.

However, at 4 am on the morning of the reshuffle, Merz’ candidate for the Ministry of Transport - the German transport system is falling apart due to rising demand, insecurity, (both driven by immigration) and under-investment (due to high welfare spending and the Ukraine War) - withdrew his acceptance of the job, as he was entirely unqualified for it, something which he only belatedly realised. This turned the reshuffle announcement into a dud, causing a major political embarrassment for Merz.

The failed reshuffle has further reduced Merz’ credibility within the CDU, which is set to lose the state elections of Saxony-Anhalt (a CDU stronghold) and Mecklenburg-Vorpommern (currently run by the SPD) to the Alternative for Germany (AfD). The AfD is labelled far right due to its opposition to immigration, however, its leader is a lesbian woman in a partnership with a Sri Lankan. Hardly the stuff of Hugo Boss wearing, goosestepping, blood and soil nationalism.

If the AfD wins these state elections, which seems probable (even if it fails to form governments) Merz will be in the same position that British Prime Minister Keir Starmer was in after his Labour Party disastrously lost the local elections in May 2026.

After Merz resigns

However, the problem is that Merz’ resignation would change nothing. The fundamental issues facing Germany - and, indeed, most of the West - are the same, and the ruling classes’ dogma prevents their articulation, let alone sensible policies to address them. These issues are, briefly:

• The disastrous impact of the Russia-Ukraine War, and Germany’s role in it. The war has cut off Germany’s access to cheap Russian gas due to the Americans blowing up Nordstream and due to EU and US sanctions. This gas will not return unless Germany reformulates its entire relationship with Russia. The drive for so-called renewables (solar panels and wind turbines are neither renewable nor “green”), compounds this energy shortage and raises costs to German businesses. Europe is no longer able to project power, but it imagines itself to be the moral arbiter of the world.

• The catastrophic impact of immigration. Almost half the German cash welfare budget goes to foreigners, a morally, fiscally, and politically untenable position. Furthermore, the level of migrant crime is dramatically higher than their share of the population. The corrosive cultural impact is also severe, as Muslim, Hindu, and African cultures are incompatible with Christian or modern secular culture.

• Untenable welfare spending leading to high debts - total social spending for all residents accounts for around 31% of German GDP. The post-war welfare state has reached the end of the line. Pensions discourage births, welfare discourages employment, and free healthcare is a bottomless money pit. (We tend to forget that the welfare state is a modern, new-fangled experiment). However, voters are unable to stomach the required reforms. If pension liabilities are included, Germany’s debt to GDP ratio, like most other Western economies, shoots up to 400%-500% of GDP.

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The leading states of the Sunni Muslim world, despite some diverging interests, have joined together in a defence pact targeting Iran, Israel, and the West. Although there are areas of diverging interests between them and limitations on their military capabilities, this is easily the most significant geopolitical development since September 11, 2001. After more than two decades of American-led, Israeli-driven interventions in the Muslim world, four decades of Iranian expansionism, and eight decades of Israeli aggression, the Sunni Muslims have rallied. The Anglo-American dominance of the Middle East, and its Israeli ally, now face a disaster.

Shared interests, diverging interests

• The main shared interest that the Pakistanis, Turks, and Saudis share is in keeping the Red Sea open. This is the primary objective of this coalition, and the area where their joint ambitions are most realistic.

• Similarly, the three countries have an interest in GCC stability - up to a point. The Saudis are keen to dominate Kuwait, Bahrain, Qatar, and the UAE. Turkey has signed defence agreements with Qatar and Kuwait, and likely does not want the Al Saud to grow too strong. For Pakistan, the priority is an economic arrangement that maintains the aid, investments, and remittances that they receive.

• Turkey and Pakistan most likely do not want to be drawn into a conflict with Iran on behalf of Saudi Arabia. Their aim is to deter Iran from further attacks on Saudi Arabia.

• Turkey and Saudi Arabia have an interest in delineating spheres of influence with Iran in Iraq. Turkey’s main problem is energy security. If it can add to the railroad project intended to tie Istanbul and Riyadh a pipeline network - not one that goes through the Red Sea or Israel, which we have discounted as delusional, but one which goes to Turkey - then Turkey’s need for influence in Iraq would decline.

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Robbing Peter to pay Paul

However, to defend the Yen, the US Treasury is selling Euro holdings - selling Treasuries would increase interest rates on American debt. The issue is that both the Yen and the Euro are facing downward pressure due to the energy shock created by the US-Iran War and the continued closure of the Strait of Hormuz. Moreover, both the Eurozone and Japan suffer from enormous debt liabilities, making them vulnerable to interest rate movements should their currencies depreciate. The Americans are therefore engaged in a delicate balancing act intended to save the financial system from the inevitable ruinous consequences of massive indebtedness.

The urgency of the situation is reflected in the request of US Treasury Secretary Scott Bessent that the Federal Reserve expand the Foreign and International Monetary Authorities (FIMA) repo facility, which permits central banks around the world to access dollars by using their Treasuries as collateral. Congress has authorised up to USD60 billion for FIMA’s use, although currently, as of 29 July, it appears that only USD6 billion is in use. With Bessent deliberately leaking to media that buying USD5-10 bn in yen was on his to do list, it appears that that is just the start.

This is further confirmed by the inversion in the relationship between treasury yields and stock market performance in the USA. According to The Kobeissi Letter, higher yields and stronger stock market performance typically typically went hand in hand, suggesting confidence in a growing economy. Now, the correlation is in the most negative territory since 1999 - before the 2000 crash. This, according to Kobeissi, suggests that investors are losing confidence in the American economy, to a degree that is higher than the loss of confidence in 2000, 2008, or 2022.

Tightrope Act

Therefore, Bessent and the Federal Reserve need to tread cautiously. On the one hand, they need to comfort markets, and appease Trump, who views the stock market’s performance as a key metric of his success. On the other, backing the yen indefinitely is not an option, given the structural weaknesses driving its decline: namely, the increase in energy import costs, which place a burden on Japan’s current account, and the uncertainty around American trade policy, which is critical for Japan. Critically, Japan does not have the option of raising interest rates: its debt burden of 250% of GDP is so large that higher interest rates would break the entire system. Furthermore, Japanese corporates are so addicted to debt that many would go bankrupt in the event of higher interest rates. Currency manipulation is the only policy tool, but it cannot survive the structural challenges imposed by geopolitics. This would be especially true if the Chinese played their Taiwan card. Last, the interest rate differential between the USA and Japan has narrowed significantly, as the Americans also enter a phase where they need low interest rates. Meaning that they cannot afford a yen crisis that triggers a Japanese sell off of US Treasuries, meaning that the Americans must intervene more. This is naturally tempting to hedge funds - or state actors - who may choose to challenge the resolve of the USA and Japan, contrary to the market dictum “don’t bet against the Fed”. The one source of confidence is that China equally does not want a global economic recession - yet.

The Energy Context

Trump’s continuous declarations of an imminent deal with Iran must be read within the above financial context. Add to that the following realities:

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In our view, this was an operation by Islamic Revolution Guards Corps (IRGC) using Hezbollah in Lebanon.

This is a surprising development, and forms part of Iran’s strategy of expanding the war to overstretch the United States, while accepting the risk of greater Sunni unity against Iran, and of pushing Sunni powers closer to the USA and Israel. The Iranians would not have conducted this strike if they could not escalate even further.

Iran is in effect saying that it can take several more steps up the escalation ladder, including:

1. Attacking ships using drones in the Suez Canal, blocking traffic at least temporarily.

2. Attacking Sidi Kerir oil storage and loading facilities, the terminus of the SUMED pipeline, which permits VLCC tankers to transit the Suez Canal by offloading in Ain Sukhna and transferring the oil to Sidi Kerir. This would severely reduce oil shipments out of Yanbu’, which they have already attacked. The distance between Lebanon and Sidi Kerir makes highly damaging attacks less likely.

3. Attacking Ain Sukhna from Yemen using drones and ballistic missiles, again paralysing the oil trade.

4. Attacking Israeli offshore gas fields and energy terminals in Haifa, Ashkelon, and Ashdod. This is an easy option for Hezbollah, but would be immensely costly for Lebanon. The deepening and increasingly irreconcilable divide between the Lebanese state and Hezbollah makes this more likely, however.

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Zaidi’s bet

The Turkey visit’s significance comes from Zaidi’s confirmation of Iraq’s commitment to the Development Road Project, which aims at linking up Turkey and the Gulf via Iraq through energy and infrastructure developments funded by Qatar and other Gulf states. Visiting Turkey and then Saudi Arabia highlights how the project threatens Iranian ambitions to more fully integrate Iraq into its sphere of influence. It is a direct challenge to Iran’s ambition of becoming the regional hegemon over the Gulf.

Zaidi, Turkey, and Gulf states are hoping that Iraqi politicians’ legendary corruption will allow them to fragment the Iraqi Shi’a political scene enough for components of this project to go through. Zaidi has reportedly promised Popular Mobilisation Units militia leaders that he would allow them to even more firmly control certain ministries - to which he has delayed appointing ministers - in exchange for their disarmament.

Crucially, Turkey promised to arm Iraqi forces. The Turks still aspire to at least control northern Iraq up to Salaheddine and Anbar Provinces, and view at least northern Kurdistan as a key part of their own security. In the past, the Turks have worked with Sunni leaders to establish militias supportive of their aims. With Turkey and Saudi Arabia cooperating more closely, the prospects for the Sunnis and the Kurds against Iran seem better.

The Iranian perspective

For Iran, Turkey is an ally of the United States. Turkey defeated Iran in Syria, and may do so again in Iraq. The Safavids allied with Portugal and then Britain for a reason: they are surrounded by Sunni powers, and they need Western backing against them. Given that Zaidi first got American support for the Development Road and then Turkish and eventually Saudi support, the Iranians are more threatened than ever. Especially as they face a war with Israel and the USA.

That said, Israel and Iran share an interest in preventing Turkish dominance over Iraq. From the Israeli perspective, the next domino after Iraq and Syria would be Jordan, posing an existential threat to Israeli security.

The US-Iran War’s Greatest Success

All this should be seen in a wider context: the actual, hidden successes of the American war on Iran.

We have explained ad nauseum how the war failed in attaining its declared objectives of denuclearising Iran, ending the Iranian missile programme, ending Iran’s relations with its proxies, and, now, re-opening Hormuz and Bab al-Mandab straits. On all these fronts, the American-Israeli war on Iran has failed. Where it succeeded, however, is far more important.

The war succeeded in several arenas:

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The Americans paused the war on Iran unilaterally for four reasons:

1. They are low on interceptors.

2. They remain deterred by Iranian capabilities.

3. They know that further bombing of Iranian assets used to control Hormuz would be ineffective, leaving them a choice between massive escalation and a pause.

4. Oil prices went up too much.

Trump wants diplomacy to work - we have repeatedly asserted that he wants out of the war, and every indication suggests that. However, the tragic reality is that he cannot, unless he accepts Iranian control over Hormuz. Iranian control over Hormuz, however, would lead to Iran dominating 20% of global oil exports. With that, it could levy fees on shipping that significantly improve its economy, and it could become the dominant player in oil markets in partnership with Russia. Given the US-China trade war and the sanctions regime on Russia and Iran, this would be a major win for the Chinese.

Simply, there is no way for the Americans to accept this. Unless they also accept that they are no longer a global empire, but an especially powerful regional empire on the retreat. The American establishment is unwilling to even consider this view, though it is evidently more realistic. The establishment will fight to avoid this recognition.

The Iranians, as usual, are pressing their advantage. Rather than attempting to reach a compromise, there was an attack on Saudi Arabia’s Abqaiq and a pumping station on the East West pipeline on 27 July, most likely by the Islamic Revolution Guards Corps operating via Iraqi militias and Yemen’s Houthi movement, as the Saudi government alleges. Abqaiq is Saudi Arabia’s main oil processing facility, and is a critical component in its oil export infrastructure. The facility remains on fire.

Critically, the American thinking right now is binary: they are planning either for a massive escalation, with attacks on Iranian infrastructure that trigger a widespread response, or they slow down and negotiate. The current policy of focussing on Iranian military targets has failed, by the admission of Chief of the Joint Chiefs of Staff General Dan Caine.

Commercial Impact:

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Even if the Americans and Iranians reach another ceasefire, there is no reason to expect it to hold. The only thing that would signal a true end to the war is an American withdrawal from the region, including, at the very least, the removal of aircraft carriers and most refuelling aircraft.

Military Update

Reporting by mainstream media, based on satellite imagery and intelligence briefings to journalists, suggests that:

1. Iran is able to quickly repair sites that are bombed, especially road infrastructure and missile bases’ entrances.

2. The Americans are unable to stop Iran’s underground missile cities from firing despite repeated strikes.

3. Iran is attempting to reduce the USA’s ability to conduct strikes by attacking American bases in the region. The Iranians cannot stop the USA conducting strikes, but they can reduce the rate of strikes.

4. The USA is either running low on ammunition, or is constrained in the number of strikes it can launch due to Iranian attacks on its bases, or is still holding back in the hope of an agreement, despite its rhetoric to the contrary. The latter, if true, would suggest that the USA is still deterred by Iran’s retaliation ability.

5. The Iranians are signalling their ability to paralyse infrastructure in the Gulf and make it uninhabitable by attacking power and water infrastructure in Kuwait.

6. There is no sign that the Americans can stop Iran from attacking shipping in Hormuz, even if they can occasionally get some tankers out.

7. The Houthis’ decision to join the war serves to overstretch the Americans further, allowing the Houthi to last longer than the 51 day 2025 campaign, which ended with a US-Houthi ceasefire that excluded Israel.

8. Open source reporting suggests that the Israelis are likely to enter the war soon and significantly escalate it, while Iran considers a pre-emptive strike against Israel.

9. The Americans will be under increasing pressure to commit ground troops to capture islands against Hormuz. This will not succeed, as the Iranians will able to attack shipping throughout the Persian Gulf and the Gulf of Oman, and as they will certainly impose significant casualties on the USA.

Irreconcilable

The red lines of the two sides are impossible to reconcile.

The Americans cannot tolerate Iran controlling Hormuz, and therefore gaining control over 20% of global oil exports. The Iranians cannot allow Hormuz to open normally, as this would cost them their leverage, and allow the Americans to regroup , refill energy stockpiles, and relaunch the war. Moreover, for the Americans, walking away without a deal is not an option: after America’s attacks on Iran, the Iranians now need nuclear deterrence more than ever, and it is obvious that their nuclear programme was NOT obliterated. Additionally, Iran has no choice but to prove its dominance over Gulf states by controlling Hormuz, and pressure them to remove American bases - otherwise, the Americans would be able to return and launch another, bigger war in the future. The conflict is existential for Iran, and for American regional relevance and global power.

Therefore, our view is that the infrastructure, shipping and energy wars will escalate, and likely expand to an aviation war, with strikes on airports rather than on civilian planes, as Iran attempts to besiege the Gulf states to the extent that they are forced to ask the Americans to leave.

The Houthi Angle

The closure of Bab al-Mandab is similarly difficult to resolve. In theory, the Yemenis need Saudi aid, they need to return to a ceasefire and avoid a major humanitarian crisis. On the other hand, they see the Saudis preparing to defeat them if Iran is defeated. Conversely, the Saudis realise that if Iran gains dominance over Hormuz, it will immediately move to consolidate over Yemen. Now that the war has started, neither side has a way out, even if tactical reasons force temporary ceasefires. And since the Americans are committed to defeating Iran, the Saudis need to commit alongside them and crush the Houthi or at the very least severely constrain them. Similarly, the Houthi need to double down on backing Iran to ensure their own survival. They know that, without Iran, the Saudis and their allies would probably defeat them.

Security vs Economics

This war is increasingly taking an existential aspect: for the survival of the Houthi, for the survival of the Islamic Revolution regime, for Saudi Arabia’s future ambitions under Crown Prince Mohammad bin Salman (MBS), and for America’s role in the region. It is undoubtedly true that attacks on Iranian infrastructure, and restrictions on their oil exports, are a threat to the regime. However, rather than driving them towards a compromise, this is likely to make the competing sides to double down at least until they are convinced of the impossibility of victory, which will not happen soon. In this dynamic, escalation is the logical option for political survival, regardless of the economic consequences.

Similarly, the Americans are unlikely to soon surrender their influence over the Gulf to Iran, without a major breakthrough in the talks that renders Iran into a security partner of the USA. This is not on the table right now. Higher oil prices will increase pressure on the USA to seek ceasefires, but, it is unlikely that the Iranians will concede to that without a full agreement and a significant withdrawal of American forces. That would be a major victory for Iran, which the Americans will not be eager to concede.

The Sunni Powers

One question our readers have asked is, do the Sunni powers in the region choose to back the Gulf states.

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Observations

Before delving into some individual appointments and what they mean, it is worth making four points:

• There is clearly a conflict in the Labour Party between northerners and southerners. Starmer represented the southern elite wing of the party - the lawyers, the civil servants, the upper echelon NGO workers, the quangocracy. They are at odds with the north over the distribution of resources: the northerners believe that the south is too rich, and that higher taxes should result in more welfare for the north, given how badly done by the north has been as a result of de-industrialisation.

• Burnham more or less purged the Starmer loyalists from the cabinet, and would not appoint someone like Al Cairns as defence minister, probably because of Cairns’ own rather obvious prime ministerial ambitions. The exclusion of the south, and of competent potential rivals, is going to escalate the north-south conflict within Labour. Already, Starmer loyalist and former Cabinet Minister Darren Jones, who is seen as relatively competent, is criticising Burnham for promising to cut VAT on electricity bills and fund that by ending DigitalID: Jones points out that DigitalID was not funded, and that, pointedly, that Burnham would have to fund the promises that he is making. It is early for this kind of infighting to be made public, and it is a sign of things to come.

• No one in the Burnham cabinet has any relevant private sector experience. Burnham himself worked for a publishing company for three years. His First Secretary of State worked in Aviva for three years. The Home Secretary worked as barrister for three years. That is all. The rest have had their careers focussed exclusively on politics, local councils, charity, and so on.

• Burnham’s worst quality, compared to Starmer, is that he wants to be popular, and wants to gain popularity by spending money thoughtlessly. Starmer, to his credit, cared not a whit about being popular. He was cautious and mechanical in his speech, whereas Burnham has a tendency to make promises with no concern as to whether he can keep them.

The cabinet

Having made these points, we will examine some of Burnham’s top appointments and then the commercial implications:

1. The new Chancellor of the Exchequer, John Healey, is committed to raising defence spending. While this is necessary, there simply is no money, given the rest of the cabinet’s support for more tax and spend policies. Healy is supposed to be there to comfort the market, but he is only able to do so because the alternative was “Red” Ed Miliband.

2. The appointment of the new Defence Secretary, Wes Streeting, is only explainable by internal party politicking: Streeting has no qualifications for the role. Al Cairns or Dan Jarvis would have been much more credible candidates. However, Streeting had agreed not to challenge Burnham in a leadership contest following Starmer’s resignation, leading to his elevation.

3. The new First Secretary of State, Cabinet Office Minister, and Chancellor for the Duchy of Lancaster, Louise Haigh, was convicted of fraud for getting her then employer to upgrade her Blackberry to a new iPhone 5 by falsely claiming she was mugged. This sort of petty corruption may suggest an appetite for much bigger corruption. Furthermore, she is on record as a massive supporter of more tax and spend policies. She is a supporter of larger tax rises - including wealth taxes. In her view, that would stabilise government revenues and permit more spending.

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As the war turns increasingly existential for Iran, the Iranian strategy strategy will be to threaten to make certain parts of the GCC so uninhabitable as to preclude the possibility of these states being able to provide the Americans with basing rights. We are already seeing signs of this in Kuwait, with the attacks on desalination plants. In our view, the next two targets are Bahrain and the UAE. Iran’s aim will be to collapse the economies of these states and their societies by striking their biggest vulnerability: water desalination plants, which provide more than 90% of potable water in the region.

The question for the United States will be whether to seek a ceasefire before Iran completes its plan.

Simultaneously, by targeting American bases in Qatar, the UAE, and especially Bahrain and Kuwait, the Iranians are also reducing the number of American bases available for use against Iran, and disabling more American radars. The idea is simple: to limit the Americans’ freedom of action in the region, reduce the number of bases they can fly from, force the Americans to concentrate their air assets in fewer bases - particularly in Jordan, western Saudi Arabia, and Israel - and limit the number of potential American sorties. In addition, reducing the number of radars delays air defence reaction times. Combined with aircraft being more concentrated in fewer bases, this makes missile strikes on American bases more effective, especially as troops end up being more concentrated in Jordan. It also forces air defence systems to launch more interceptors at each Iranian missile - given the slower reaction time and the higher risk of impact. This serves to deplete increasingly limited air defence missiles faster.

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The Americans have conducted strikes on Iran on 16 July intended to disable Chabahar Port near the Pakistani border and to isolate Bandar Abbas on the Strait of Hormuz, thereby cutting off Iranian shipping and potentially paving the way for a ground operation against Iranian islands in the Strait as well as weakening Iran’s ability to target ships in Hormuz. Iran retaliated with attacks on Oman, Kuwait, Bahrain, Jordan, Qatar, and Syria, intended to disable American radars, inflict casualties, strike ammunition storage, and destroy HIMARs tactical ballistic missile launchers.

No victory

Neither the Americans nor the Iranians have a pathway to victory.

The Americans cannot invade Iran and topple the regime. They can reduce Iranian fire, but they cannot prevent Iran from attacking ships, firing one way attack drones, or damaging energy infrastructure. They most certainly cannot secure the waters between Kuwait and Pakistan. But they can raise the cost on Iran.

The Iranians, for their part, also cannot win. They are unable to strike the American mainland, nor can they damage American military industrial output. They can raise the cost to the USA, and to the global economy, but they cannot win.

The war has to end with either a negotiated settlement, or with the long term normalisation of attacks on energy, transport, and infrastructure throughout the Persian Gulf. However, neither side has any confidence that the other side would honestly implement any agreement.

No way out

On the other hand, neither side has an exit strategy: given that Iran still has enrichment facilities near Natanz in the Pickaxe Mountain, and that it still has enriched uranium, the Americans fear that leaving without a deal would result in Iran acquiring a nuclear weapon. And for the Iranians, releasing their grip on Hormuz would end their leverage on the United States. They cannot tolerate a pathway through Hormuz via Omani territory. A deal is the only way out, but, the regime fears that a deal that does not allow them to control Hormuz, or that is followed by several years of developing oil resources elsewhere, will again bring American attacks on their territory. On the other hand, allowing Iran to control Hormuz leaves it as the regional power in control of the GCC, especially with the Houthis’ position in Yemen. The Americans cannot tolerate giving Iran that much regional power.

Increasingly, the Iranians will view acquiring a nuclear weapon as the only way to ensure regime survival. Only a deal can stop them doing that, but they cannot trust the Americans to implement any deal, as we discussed in a previous piece:

Timing

When the Iranians resumed attacks on shipping on 7 July, they knew perfectly well that this would lead to a broad American response. They went for it anyway. They are clearly betting that the low levels of oil inventories would force the Americans’ hand. And they have some good reasons to believe that. The Strategic Petroleum Reserve (SPR) in the USA is at a 43-year low. That said, there are around 250 million barrels that could be released. At a rate of 1 million to 1.5 million barrels released per day, this should last for another 5-8 months. Moreover, of the initial IEA initially promised release of 426 million barrels, only 220 million have been released. The total IEA stock is around 1.2 billion barrels in governments’ hands (excluding China, including the SPR). Another 600 million barrels is in private hands, but under government mandate (meaning that governments have authority over them). Oil production outside OPEC has also increased, albeit nowhere near as much as has been lost due to the Iranian blockade, but, apparently enough to keep oil prices at manageable levels. The big limitation on this, however, is that the spread that refiners make from producing two barrels of gasoline and one barrel of diesel out of three barrels of oil (so called 3-2-1 crack spread) is $70, indicating that oil product prices are moving in a way that is completely out of whack with the price of oil. This suggests that there is some financial manipulation by the Federal Reserve of the price of oil.

Therefore, there is room for several months of fighting.

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1. Iran attacked an offshore platform in Kuwait.

2. Iran also attacked three border posts in Kuwait.

3. Yemeni government forces conducted strikes on the San’a Airport.

   

Commercial Implications

• The strike on Kuwaiti offshore energy is as much a message to Qatar as it is to Kuwait: it is just as easy to strike Qatari gas platforms in the North Dome field, which Qatar shares with Iran. It also signals the possibility of Iran returning to attacking oil export terminals in Saudi Arabia and the UAE.

• The strikes in Yemen signal escalation between the Houthi and their rivals. It is increasingly likely that the Houthi will reimpose their blockade on the Red Sea. If the Iranians are going to use the Houthi card, now is the time to do it. We had predicted this would happen in the past, but the Houthis have stayed out so far. Now, it is harder for them to justify inaction.

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Oman announced on 12 July that Iran had struck assets in its Musandam Governorate with UAVs. Musandam sits across from Iranian territory in the Strait of Hormuz. It is the most likely location for American ground-based surveillance assets intended to help police traffic through the Strait and monitor Iranian attacks on ships. Attacking Musandam, which is sparsely populated and incredibly vulnerable to drone, missile, and small boat attacks, is a signal from Iran that Omani control over that territory is not necessarily permanent. Oman only acquired this previously ungoverned territory due to British backing in the 1970s, and its residents travel to Iranian islands and cities on the other side of the strait regularly: smuggling and trade with Iran are the main economic activities there.

The attack on Oman followed negotiations on 11 July between Iran and Oman on future management of the Strait of Hormuz. The Omanis proposed to run one free of charge corridor in the south while the Iranians run another in the north, for which they would collect fees. This was obviously unacceptable to the Iranians, as they insist that only Iran run the Strait, niceties of international law be damned. The Iranians intend to compel Oman to collect fees for passage through Hormuz and to split those fees with Iran.

To make its point clear, on 11 July, Iran targeted the engine room of a Cyprus-flagged container ship in the southern (Omani) corridor of the Strait with a cruise missile, rather than a drone. First, a cruise missile is harder to intercept. Second, it is far more likely to sink a ship. News reports state that the crew has evacuated the ship using lifeboats, meaning that the ship is not likely to be recovered.

Iran also conducted attacks on Bahrain, Jordan, Kuwait, Qatar, and the UAE. There were no reports of attacks on Saudi Arabia. This may be because of Pakistani pressure, or simply the result of the Saudis refusing to announce that they were hit. The USA announced wide retaliatory strikes on Iran.

As we had said, the Iranians seem to believe that they have the upper hand, due to historically low oil reserves and the West’s fear of a global financial crisis that would follow any re-closure of Hormuz. Iran’s position is strengthened by the depletion of American and Israeli missile interceptors.

Meanwhile, the Israelis are telling the Americans that Iran intends to kill US President Donald Trump. The Americans are claiming that this is not serious, while Trump himself is posting that he has ordered the destruction of Iran in case the Iranians kill him. This, obviously, creates rather perverse incentives. However, the importance of this is that the Israelis are placing further pressure on the USA to escalate against Iran, at a time when Iran seems willing and eager to escalate.

The Iranians are likely to claim that they were adhering to the MoU of 17 June 2026, but that it was the Americans who violated Article I, which required a ceasefire in Lebanon, Article V, which the Iranians interpret as giving them management over the Strait, and Articles X and XI, which require the USA to issue waivers for Iran’s oil and derivative trades, as well as associated services, and the gradual unfreezing of Iranian assets.

Iranian Parliamentary Speaker Ghalibaf, who is leading the Iranian negotiating team, has said that the time for uneven agreements is over. Meaning that Iran is aiming for recognition of its full sovereignty over Hormuz. The attacks on Musandam reflect this.

Russia and China are almost certain to give Iran updated targeting coordinates, to weaken the USA, and as part of Russia’s response to American support for Ukraine.

Commercial Impact:

• The Iranians are escalating against Oman and Qatar, as well as the regular targets Bahrain, Kuwait, and Jordan, to increase pressure on them as mediators, and pressure the states of the region into pressuring the Americans.

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It is impossible to guess how long does any given round between Iran and the USA continue. Last night, the USA launched 80 attacks on Iran, while the Iranians claimed to have launched 85 attacks on American assets in the region. Kuwait reported power outages resulting from Iranian strikes. As of the time of this writing, the fighting has stopped. However, we maintain our view that the two sides are not capable of a stable agreement (below).

For all we know, after this round, which was initiated by Iran launching missiles and drones at four ships in one day, global shippers will decide to use the Iranian-approved lane in the Strait of Hormuz, and, after 18 August, when the ceasefire terminates, they will pay Iran fees while talks continue. This would satisfy Iran, but it would be an embarrassment for Trump, who would instead pivot to talking about the mid-terms.

Conversely, Trump could decide that the mid-terms are lost anyway, the economy will not recover before Hormuz is fully opened, and that he has to see through the destruction of Iran until total victory. The war would then resume in full, and continue for several months.

That said, it is worth reviewing the drivers and constraints for the two sides:

• Iran needs to export oil, with or without sanctions. If the Americans reintroduce the blockade on Iranian trade, the country will be in real trouble.

• Iran received a lifeline as it already managed to export some 50 million barrels of oil since the ceasefire.

• The USA cannot afford a surge in oil prices that would trigger a rise in interest rates. However, with oil prices at $72, he’s sitting quite comfortably. This permits American President Donald Trump to escalate.

• Iran needs the oil price rising well above $72, and for it to be closer to a $100, for it to have meaningful leverage over the world economy. This forces Iran to escalate more.

• The Americans are very low on interceptors. They are not sending interceptors to Ukraine, as these are needed in the Middle East.

• There is no popular support for the war, and Trump does need to show it is over by the mid-terms.

• However, as the mid-terms approach, and especially if oil prices rise again, ending the war serves no political purpose: the economic damage would linger for several weeks after a ceasefire regardless.

• A key issue, which is not easy to categorise as a driver or a constraint, is President Trump’s utter and complete lack of credibility. He has pivoted and changed his mind so many times that neither his threats nor his promises are worth much.

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This was Iran again signalling that it will not allow the passage of ships through Hormuz without its approval - no matter what diplomatic niceties are exchanged with Oman. Gaining full control over Hormuz has become the main Iranian objective, alongside preserving the influence of its proxies. Lifting American sanctions is a secondary objective as far as the Islamic Revolution Guards Corps are concerned. Rather, they believe that controlling the Strait, and, therefore, 20% of global oil exports, is what leads to sanctions being lifted.

Regional escalation

On paper, the Americans are very far from leaving the Middle East region - the relationship between the USA and Israel is becoming more intertwined, with Congress proposing legislation in the National Defence Authorisation Act that would effectively merge the American and Israeli military R&D and intelligence. Although American public support for Israel is fraying, the American establishment is moving towards deeper cooperation and more long term backing for Israel. Absent an under the table Iranian-Israeli agreement, this necessitates continued war with Iran, and prevents Iran from taking its natural position as a Western ally - recall that Persia has always looked to the West for alliances, given that it fears being surrounded by Sunni powers.

The Americans are escalating their fight against Iran in other theatres, as the attacks on Iran itself have failed in their declared objectives of de-nuclearization, addressing the Iranian missile threat, and stopping Iranian support for regional proxies. As such, the USA is putting pressure on Iran’s allies in Lebanon, Yemen, and Iraq simultaneously.

• In Lebanon, the USA and the government of Lebanon are trying to impose the disarmament of Hezbollah alongside a peace treaty between Lebanon and Israel. A preliminary agreement has already been signed, allowing Israel to remain in Lebanon until Hezbollah is disarmed, whereas Hezbollah demands an immediate Israeli withdrawal and rejects disarmament.

• In Iraq, the Prime Minister has announced that militias would be placed fully under state command by 30 September. In theory, the militias are already under state command, and this declaration is largely meaningless. However, the intent is to prepare for a possible trimming of the influence of these militias.

• In Yemen, there are mobilisations by the Houthi and their Saudi-backed rivals, with reports of Iranian advisors and equipment arriving, and of fighting taking place near Hodeidah.

Hardening Iranian position

Meanwhile, following the funeral of former Supreme Leader Ali Khamenei, the regime is more willing to take a hard line due to the huge crowds that turned out. While it can always be argued that some of these crowds were government employees who had no choice, it is very difficult to deny that the regime has a strong social base of support, despite repeated unrest. This support is likely to surge if Iran can assert itself against its regional rivals in the Gulf.

Iran believes it has the upper hand in the region. More importantly, it seems keen to consolidate gains now, rather than continue with the proxy wars that have gone on since 1982 in Lebanon, 2003 in Iraq, and 2004 in Yemen.

The Iranians understand that global oil reserves are low, that markets are prone to panic, that Trump needs to enter the mid-terms without the distraction of the war and its economic impact, and that putting further pressure on global markets may yield more concessions. Simply, Iran does not want to let negotiations continue while its regional influence gets targeted piecemeal.

Commercial Impact

• As we had said at the start of the ceasefire, Iran will not let go of Hormuz. It will not permit its full opening. Rather, it will do all it can to maintain its leverage.

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Russia’s pattern for the Ukraine war has been broadly consistent:

• Launch slow offensives in Spring

• Accelerate the rate of advances in Summer

• Consolidate and clean up in Autumn, while accelerating attacks on infrastructure

• Destroy infrastructure in winter to push the civilian population out

While this pattern is consistent, a major change is underway. Specifically, Russia is trying to collapse power, transport, and gas station infrastructures in the areas around the urban conglomerations of Chernigov, Sumy, Kharkov, Zaporozhzhia, and Dnipro. The aim is to push the citizens out and trigger a humanitarian crisis, and to disrupt Ukrainian military logistics. This is proceeding relatively successfully given Russia’s superiority in missiles and drones, despite immense gaps in its own air defence. This will push Russia to double down on missile and drone warfare, including against NATO.

Battlefield update

Donbass

The Russians have claimed that they captured Kostyantynivka, the southernmost of the fortress belt of Slovyansk, Kramatorsk, and Kostyantynivka, which is Ukraine’s most formidable line of defence. This line has forced both sides to concentrate their forces in the Donbass, limiting Russia’s ability launch major attacks elsewhere, as that front alone may have up to 500,000 out of the total 700,000 to 800,000 Russian troops in Ukraine. The fall of Kostyantynivka, and the imminent fall of Lyman, allows Russia to attack the other two fortress cities from the south and north, whereas that defenses of that area are mainly oriented towards the east. In 2027, Russia will be in a position to hammer this defensive belt and probably to take it completely. That then changes the dynamics of the battle, in two ways. First, Ukraine doesn’t have major towns behind these cities where it can concentrate large forces and provide them with adequate logistics. This, in turn, may permit Russia to reintroduce armour into the battle, accelerating Russian gains. However, what this does not change is the manpower shortage facing Russia, and the difficulty it faces in launching major offensives against urban areas with a million or more inhabitants.

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