Hamas-Israel Prisoner Exchange Takes Effect - What Now?
Hamas and Israel have agreed to exchange prisoners amid a pause in war, but the regional geopolitical chess game continues.
As I wrote in my previous Weekly Insight, the Israel-Hamas flare up has come at a pivotal time in Israeli-Arab relations, which makes the timing of the attack that much more believable as a deliberate derailment operation.
Namely, between Saudi Arabia and Israel formally establishing diplomatic relations with the Abraham Accords as the political conduit.
Saudi Arabia not only stewards two of Islam’s holiest sites in the Kingdom’s western Hejaz region, but also exerts significant influence in the Arab world. Joining the Abraham Accords would mark a huge step in Arab-Israeli normalization efforts, a major strategic priority for Washington and Tel Aviv.
In return, the Kingdom would be able to secure a fortified defense pact at a time when relations between Saudi and the US - specifically Biden and MBS - are frayed. The Abraham Accords would therefore satisfy a trilateral set of domestic and foreign policy priorities for the US, Israel, and Saudi Arabia.
Latest Developments in Israel-Hamas Conflict
A fragile ceasefire has been reached for a hostage exchange between Israel and Hamas. Sources close to the matter report a deal around returning 50 women and children in exchange for 150 Palestinian captives for what could be a multi-phased prisoner program.
So far, Hamas has freed 24 prisoners while Israel released 39 Palestinian prisoners. However, after the hostage exchange has been concluded, hostilities will resume. Qatar, which currently hosts key leaders of the Taliban and political wing of Hamas, has been active in the negotiations.
However, since the Gulf Crisis in 2017, relations with its Arab neighbors have grown tense and has put additional pressure on them to generate diplomatic results.
Impact on Regional Politics
Prior to the flare up on October 7, regional politics were moving in a semi-stable direction that would’ve accomplished multilateral strategic priorities for key players. To counter China’s growing foothold in the region, Washington was working on building a trade corridor connecting India to Europe through the Middle East.
Iran and Saudi were building on the shallow detente established earlier this year, and the former’s nuclear program was quietly being dealt with by Washington. However, that diplomatic tapestry is at risk of being unwoven as the Israel-Hamas conflict and Israel’s retaliation strains the ability of Arab nations to publicly engage with them.
Geopolitical fragmentation risks countries pursuing short-sighted, divergent objectives and risking an extension of the region’s crises. Such a spiral would surely increase the chance of unintended escalation.
The conflict has also indirectly emboldened and strengthened Iran. Foreign Affairs put it succinctly:
“The resurrection of the Palestinian issue has focused regional attention once again on the Levant. The ‘axis of resistance’ that Iran leads, which in addition to Hamas and Hezbollah includes the Assad regime, Shiite militias in both Iraq and Syria, and the Houthis in Yemen, has shown it can change the direction of Middle East politics, escalating and de-escalating regional conflicts at will”.
And it has.
Iran-backed proxies in Iraq and Syria have launched over 60 attacks against US forces since October 7, with Washington responding by striking at Iranian facilities inside Syria. The possibility of a direct conflict with Iran is also rising, raising the overall risk profile of the conflict.
While Iran is not interested in instigating any regional wars or participating in the Israel-Hamas conflict directly, that has not stopped it from praising Hamas or leveraging its proxies. Iran’s permanent representative to the UN, Saeid Iravani has warned that if his country’s national security interests are threatened, it would be forced into a conflict.
Such an outcome would embroil the region in a war with global nuclear security implications and macroeconomic convulsions with multi-iterated ripple effects.
Arab-Islamic Summit
In response to the growing urgency of the situation, an Arab-Islamic summit was hosted by Saudi Arabia with key regional stakeholders to address the situation in Gaza. In a joint communique, the Kingdom urged the ICC to analyze the "war crimes and crimes against humanity that Israel is committing".
This comes as Saudi Arabia is engaging more closely with Iran to avoid wider escalation and cooling Tehran’s nerves about a potential Israel-Saudi-US alliance. A defense agreement between Saudi and the US could compel Iran to launch additional attacks through its proxies as a result of the underlying ethno-religious tension.
Iran is the only Shia-majority country in the world and is also locked in a region surrounded by Arab, Sunni-dominant countries. Tehran and Rhiyadh’s irreconcilable visions for Islam and who should rightfully be the protector of its two holiest sites continues to be a source of deep tension.
No China-brokered detente can solve this problem. If Saudi Arabia and Israel formally normalized relations, Israeli-embedded security pacts protected by an US-Saudi defense treaty would put Iran at a military disadvantage: Iran’s attacks on the Kingdom’s vulnerable oil infrastructure would trigger a direct confrontation with Washington.
Israel would likely join to eliminate their archival whose intent is to wipe the Jewish state off the map.
Economic and Financial Impact
The immediate impact of the flare-up between Israel and Gaza did have a small ripple effect on global markets. Crude oil prices gapped higher on the market open on Monday, October 10, and closed the day almost five percent higher. The price action was in large part driven by fears of geopolitically-induced supply disruptions.
Defense contracting companies like Lockheed Martin, also gapped higher and are now trading 11% higher at $446/share than before the conflict when it was on a downtrend and trading at $400. Apart from those two asset classes, markets were unbothered, given the relatively small size of Israel’s equity market.
A risk investors are not pricing in due to its low probability is the macroeconomic impact of regional escalation. A conflict with major oil-producing states would imperil the smooth flow of oil and risk rekindling global inflationary trends.
Core and headline CPI in the US are both trending lower and stimulating hope of credit easing measures in 2024, resulting in equity indices climbing higher.
The macroeconomic impact of a regional war and elevated oil prices pushing inflation higher would therefore reverse this dynamic and sink US and global equity markets at a time when they were becoming more buoyant at the prospect of rate cuts.