Western trade sanctions against Iran have begun to strangle its exports. The world's biggest electronic bank clearing system, SWIFT, is reportedly preparing to block Iran's central bank from using its network to transfer funds.

Last Wednesday, news emerged that the US government recently forced Dubai-based Noor Islamic Bank to stop channeling Iranian oil money. The bank was regarded as one of the largest conduit of petrodollars to Tehran.

Traders also noted Iran was trying to sell about 200,000 tons of crude oil from a supertanker floating off Singapore. In another sign of more Iranian cargoes looking for a home, a vessel heading towards China was seen carrying volumes greater than the usual term-contract supplies.

In the meantime, the Energy Information Administration, an independent arm of the US Department of Energy, said Western insurers were declining to cover the trade risk on some Iranian oil shipments. India's largest shipping company was recently forced to cancel an Iranian crude oil shipment, as its European insurers refused to provide coverage for the vessel.

The suezmax tanker, Maharaja Agrasen, owned by state-run Shipping Corporation of India, was initially booked by refiner Indian Oil Corp to load Iranian crude oil in mid-February, but could not get the necessary insurance coverage. "The European Mutual Protection and Indemnity Club is covering contracts concluded before Jan. 23 on a case-by-case basis up to July, insisting instead, "they cannot cover contracts finalized after Jan. 23."

The Indian government is now weighing up options including extending sovereign guarantees for its shipping lines and buying Iranian oil on a delivered basis to ensure cargoes from July, former Indian Shipping Secretary K. Mohandas said on the issue.

Consequent to all this, the market is becoming increasingly tight. A string of oil outages in Yemen, Syria, South Sudan, and the North Sea have added to supply worries. A bimonthly EIA report published last week said sanctions have begun constraining Iranian exports and further measures could tighten global oil markets. The report estimates the current global spare crude production capacity to be "quite modest." And if Iran ceases oil supplies completely, the report says a global supply gap could reach a total of 1.6 million barrels a day.

Markets could indeed go berserk. And efforts are under way to keep things under control — psychologically and physically. Global oil producers appear to have enough spare capacity to make up for Iranian exports curtailed by tough new sanctions, US Energy Secretary Steven Chu said on Thursday, attempting to assuage the markets.

"There is spare capacity and we believe — we'll see — but I think there is sufficient spare capacity," Chu told reporters on Capitol Hill, in a 'tough balancing act,' noting that the administration will do whatever it can to help stabilize oil prices. The final determination on whether there is enough spare capacity is up to President Barack Obama, who will announce it to Congress by the end of the month.

Congressmen and senators are urging Washington to release oil from its strategic petroleum reserves. The administration is still evaluating the possibility. "The president will use whatever tools he has, to do what we have to do. We have the SPR option on the table," Energy Secretary Steve Chu told reporters. Representatives Ed Markey of Massachusetts, Peter Welch of Vermont and Rosa DeLauro of Connecticut, urged Obama on Feb. 22 to release oil from the strategic stockpile.

Some are concerned too. The US House of Representatives Speaker John Boehner said Obama does not seem to support a release as a way to curb rising gasoline prices.  Republican Senator Lisa Murkowski said the reserves, stored in huge salt caverns, should be saved for real supply emergencies rather than to try to ease prices.

"I understand that tightness in world oil markets and the pressing need for sanctions on Iran leave you in a difficult position," said Murkowski. "It is critical that we fully enforce our sanctions regime and preserve our strategic stockpiles until we really need them," she wrote to Obama.

"Releasing oil from the Strategic Petroleum Reserve would be, at best, a short-term benefit," Senator John Barrasso, a Wyoming Republican, said in a statement. "This purely political move would cause more harm than good."

In an election year, Obama is definitely faced with difficult choices on energy front.

And as underlined by the producers — time and again — they are endeavoring to meet all the demand. OPEC oil output has risen in February to the highest since October 2008, a Reuters survey said. Supply from all 12 OPEC members averaged 31.23 million barrels per day (bpd), up from 30.95 million bpd in January, the survey of sources at oil companies, OPEC officials and analysts found.

The survey suggests OPEC is producing over 1.2 million bpd more than its target of 30 million bpd. But concern about possible disruption to supply from OPEC member Iran is supporting prices, which are near a 10-month high.

"There is a lot of oil supply, but it doesn't matter at the moment," said Carsten Fritsch, of Commerzbank. "Other factors are driving prices up — the fear of longer-lasting supply disruptions which have not happened yet."

Saudi Arabia is also responding to the emerging challenge. Riyadh is (currently) producing 9.8 million barrels a day and still has about 2.5 million barrels of spare capacity, Saudi Deputy Oil Minister Prince Abdulaziz bin Salman said. Reuter's survey too concurred with the output figure. An EIA report though put the figure, a bit low, at 9.7 million barrels per day (bpd) over the last two months, yet this was still up 600, 000 bpd from the same period last year.

An Economist Intelligence Unit report said that Saudi Aramco is also bringing the Dammam field, its oldest, back on stream this year. And if yes, there appears a reason behind too. The heavy crude is a "good" replacement for Iranian oil, said Caroline Bain, a senior economist at the London-based EIU.

A lot of permutations and combinations are on — yet — the markets are on edge. A false alarm about an explosion in an oil pipeline over the weekend was enough to send markets in overdrive — exposing the vulnerability of the markets. The emerging conundrum is beginning to extract a price — and a steep one — from the world.