The EIU on Iran Sanctions

We have a standing interest in the political economy of sanctions, and those against Iran in particular. The Economist Intelligence Unit has a new overview of the Iran sanctions (Oil sanctions on Iran: Cracking under pressure?). The report underscores that their operation is ultimately political as much as economic, and should once again give us pause.

Even before recent financial and oil sanctions were added, and the EU joined the fray, Iran was facing a natural decline in output that required new investment to slow; not only is Iran facing short-run constraints but the lack of investment and technology is darkening the long-term prospects as well. As in North Korea, Chinese firms have stepped into the breach. But they too face difficulties in part because of the departure of partners who shared the risk.

In addition to earlier sanctions on investment and measures that restrict the country’s access to the international financial system, oil sanctions have substantially tightened in the last year through five new measures:

  • The decision by the EU ban the import of Iranian crude and petroleum and petrochemical products as of July 1st 2012;
  • A complementary decision to ban “financial activities,” including insurance provision, related to the import of Iranian crude oil. This measure has extraterritorial reach and may be the most decisive measure because Europe provides insurance to third-party importers, including Japan;
  • US legislation effective from mid-2012 that imposes penalties on institutions dealing with Iran’s Central Bank in relation to oil purchases, another measure with extraterritorial reach that required waivers to countries reducing imports, including South Korea and Japan;
  • The Iran Threat Reduction and Syria Human Rights Act of August 2012 expanded the scope of the Iran Sanctions Act to include any energy-related services, such as insurance, reinsurance and shipping services, as well as technologies related to oil and gas development.
  • An October 2012 directive from the EU that effectively prohibits all transactions between European and Iranian banks, unless authorized in advance plus new restrictive measures on Iran’s shipbuilding and oil storage sectors and imports of natural gas.
  • Not only are these sanctions being vigorously implemented by the principals, but groups such as IISS are hitting the road to explain them to third parties.

The EIU report details the effects of these measures, which included a scramble on the part of customers to secure supplies before diversifying. Iranian exports have dropped from about 3.6 million b/d to 2.7 million in October 2012 despite efforts to get around the restrictions. These efforts—which we have seen in North Korea as well–include efforts by importers to provide their own insurance, disguising tankers, and barter. Despite these countermeasures, the Iranian economy probably contracted by about 3% in 2012.

But the bottom line is ultimately not the pain imposed on the Iranian economy, but what effect these sanctions have had on nuclear negotiations.  In a terse conclusion, the EIU answers “not much.” The country did see demonstrations in October as a result of the collapsing currency, and the economic turmoil may affect the presidential elections in mid-2013. But the IAEA’s Yukia Amano has recently turned more bearish on negotiations, with access to the Parchin facilities as the main sticking point.

The larger political economy game centers in part on oil prices; as the EIU report notes, the West has been helped by weak fundamentals that have kept prices in check. But this ability to hang tough has not had effect either.

The fundamental constraints on sanctions are in the political characteristics of the target state. A regime like the Iranian one can shelter its core supporters, impose a lot of costs and may even get a rally-around-the-flag benefit from the crisis. Imposing sanctions is rarely enough to get the desired response in the absence of a political process that thinks through appropriate concessions. Sound familiar?