Geopolitical radar: After Nasrallah killing, what's next in Middle East?

After Israeli killing of Hassan Nasrallah, the leader of Hezbollah, the question is what happens next. For now, we think all the signals coming from Iran point towards them still being reluctant to escalate and we think that will be the case. Why? The answer is Iran's pragmatism. The reason Iran has built its axis of resistance in the first place, is to use it as a deterrence against its arch enemy Israel, and to avoid a war on its home turf. Embarrassingly for Iran, two of its deterrents seem to have failed over the past few months. First, in April, Iran's missile strike on Israeli territory was completely intercepted. Even if it remains unclear to what extent that was Iran's purpose, Iran knows its military capacities do not match that of Israel's. Secondly, two of the groups in Iran's axis of resistance, Hamas and Hezbollah, have been significantly weakened by the IDF over the last months. 

Iran's Supreme Leader Ali Khamenei has domestic concerns in mind as well, as it has only been two years since the killing of Mahsa Amini took people to the streets to protest. Most Iranians do not care much about Nasrallah's fate. In fact, those opposing the regime probably celebrated his death. The newly elected president Mazoud Pezeshkian who in his address to the UNGA this week said his government wants to defuse tensions with the West, is urging restraint. Pezeshkian is not the ultimate decision-maker in Iran, but even Ayatollah Ali Khamenei has been cautious in his first comments. Iran's support to Hezbollah remains unwavering, but it seems Iranian leaders want Hezbollah to do the dirty work themselves. No doubt such restrained approach would not please the conservative camp, and we highlight the situation remains unpredictable, particularly as one week from now (7 October) exactly one year will have passed since Hamas' attack on Israel.

Even if we consider a direct Israel-Iran war unlikely, fighting in Lebanon is likely to intensify. There, Israel is believed to have three objectives: 1) eliminating Hezbollah's military leadership, 2) destroying its arsenal, and 3) clearing the border region, allowing the return of Israeli citizens. On objective no 1, an IDF-released infographic shows the efficiency of their wiping out of Hezbollah leaders recently. The process of destroying Hezbollah's arsenal is also ongoing, although much of it remains. The progress on the first two objectives leaves Israel in a good position to make a move on its third objective, launching a ground invasion. A as we wrote in our most recent Geopolitical Radar, such operation would not be easy, and Hezbollah has a homecourt advantage and flexible chains of commands are one of Hezbollah's strengths. It is of course uncertain how rapidly the group can recover from the recent blows. In terms of the successor for Nasrallah, it is good to keep in mind he may be even more aggressive, as some say it was Nasrallah who kept the group's hawks in check over the last 12 months.

A potential Israeli ground invasion, depending on the scale, could trigger large-scale evacuations from Lebanon, again raising concerns of escalation. Israeli bombings of airports could do the same. The flight of civilians from the Shiia Muslim-dominated south of Lebanon could trigger unrest in a country divided by religion and several ethnicities, raising the risk of civil war. Even in such dire scenarios, for markets, it boils down to what Iran decides to do. A full-blown war in Lebanon would bring another war right at Europe's doorstep, but markets will ignore human suffering as long as oil trade remains intact.