Oil prices in the U.S. turned negative this week, signaling the depth of the demand shock caused by the Great Lockdown. While prices ticked up again yesterday, partly on news that raised the risk of U.S.-Iran conflict in the Middle East (see below), there remains a real possibility that prices will go negative again as production gradually adjusts downward to levels that better reflect the current state of global oil demand. The OPEC+ deal to cut nearly 10 million barrels per day of production to stem the dramatic drop in prices was not nearly enough to offset demand losses, which have been estimated at up to around 30 million barrels a day. The collapse of oil prices had already led to thousands of layoffs in the U.S. oil patch, where production is expected to fall sharply as drilling slows. It is also pushing oil-dependent governments into deep financial distress and threatening governments’ ability to provide basic services, like salaries for government employees. This will be an added source of instability in countries that are already struggling, like Iraq and Venezuela.

Rumors are circulating about the health of North Korean leader Kim Jong Un following conflicting reports and a period of conspicuous absence from state-run media, where he has been a near-constant fixture for several years. Speculation about how a transfer of power would proceed – and the possibility of his death leaving a power vacuum – is creating a profound sense of unease. There is good reason to fear the outcome of a chaotic power struggle in a resource-strapped rogue state, with particular concerns about who would take control over its nuclear weapons and the likelihood of a humanitarian crisis and flood of impoverished, refugees into China, South Korea, and Japan. However, should the North Korean regime collapse, China and South Korea would almost certainly step in to try to contain the damage as they are the countries that would bear the brunt of the impact, but it could still spin out of control. Even if this health crisis passes quickly, it highlights the very real risks of a future succession crisis in North Korea and argues for thorough contingency planning.

Iranian harassment of U.S. Navy ships in the Persian Gulf last week has triggered an exchange of threats between the two countries and renewed fears of conflict in the region. The U.S. Navy said last week that IRGC ships had engaged in aggressive and dangerous provocations at sea, prompting President Trump to announce via twitter that he had ordered the U.S. Navy to “shoot down and destroy any and all Iranian gunboats if they harass our ships at sea”. IRGC General Hossein Salami responded by saying Iranian forces will meet any U.S. action with a counteraction. A recent ratcheting up of tensions between the U.S. and Iran has at times seemed to verge on open conflict, something both sides appear to want to avoid. While their rhetoric does not seem to be leading towards a near-term diplomatic resolution, we suspect that the Iranians will take the U.S. threat at face value, which will hopefully put a stop to aggressive encounters, at least in the near term. However, there remains a risk that the IRGC will act in contravention of official policy and cross a red line that forces a U.S. response.

U.S. Secretary of State Mike Pompeo has accused China of exploiting the Covid-19 pandemic, ramping up bullying of its neighbors in the South China Sea while the rest of the world is distracted by coronavirus-fighting efforts. China dispatched a vessel last week to intimidate a Malaysian oil drilling ship in response to Malaysian state-owned Petronas’ exploration of a disputed offshore area in the South China Sea that is also claimed by Vietnam and China. This triggered a response from the U.S., which sent at least two warships within 50 nautical miles of the Malaysian ship. China’s claims to the South China Sea far exceed the area recognized as its exclusive economic zone, though China has rejected an international ruling on the matter. China appears to be escalating pressure tactics in the South China Sea, with ramped-up military exercises and harassment of neighbor countries’ commercial vessels and an announcement last weekend that it had formally established two new South China Sea administrative districts, Xisha and Nansha, that include dozens of contested islands and reefs in the Paracel Islands archipelago. Earlier this month, the U.S. publicly denounced the sinking of a Vietnamese fishing vessel by a Chinese patrol ship. China has a vested interest in maintaining stability in the region, but as the number of incidents rises, so does the risk of a miscalculation that erupts into violent confrontation.