The Fuse

Iran’s Sanction-Busting Playbook is Weak

August 23, 2018

Guest Post by Matthew M. Reed | @matthewmreed

Matthew Reed is Vice President of Foreign Reports, Inc. and a non-resident fellow at New America and the Payne Institute at the Colorado School of Mines.

Ahead of harsh oil sanctions being re-imposed this November, Iranian officials are dusting off their old sanctions-busting playbook. “We will use every trick in the book and carry out any method to sell our oil so that our production does not fall,” Iran’s deputy oil minister for international affairs, Amirhossein Zamaninia, told Platts on May 7—the day before President Trump quit the nuclear deal.

From 2012 through 2015, the U.S. and EU enforced overlapping and painful sanctions that slashed Iran’s exports by about one million barrels a day (b/d). This time around, the Europeans oppose U.S. sanctions, but the Trump administration is convinced it can impose the “toughest sanctions in history” without the EU’s help.

Tehran has options but none are very good.

The goal is to “get imports [of Iranian oil] as close to zero as possible by November 4th,” Secretary of State Mike Pompeo said last month. “Zero” he repeated for emphasis. At this point the U.S. seems reluctant to offer exceptions that would allow importers to cut back on Iranian oil more gradually. This administration is also more inclined than its predecessor to count light condensates as crude exports. If they do, then some 2.5 million b/d could be sanctioned.

What can Iran do to thwart sanctions? What did it do last time? Tehran has options but none are very good. Together they may only delay an inevitable and steep decline in exports.

Boost prices with threats: The easiest way for Iran to resist sanctions is to buoy prices by issuing threats. That’s what Iran did in 2012, when officials threatened to shut the Strait of Hormuz, through which about 18 million barrels of oil pass every day. This year Iran’s leaders began issuing similar threats in July. President Hassan Rouhani went a step further when he threatened vital oil chokepoints beyond the Persian Gulf. “We have many other options. It is not [just] the Strait of Hormuz. There are many other straits, but you [Americans] are aware of only one of them,” he told an audience in Tehran on July 23.

Rouhani was referring to the Bab al-Mandeb Strait, where the Red Sea meets the Gulf of Aden, and where Iran supplies Houthi militants with the weapons they’ve used to attack oil tankers this year. Any price impact may be modest or temporary but the threats contribute to a heightened sense of geopolitical risk. Efficacy aside, this option is virtually cost-free. (For more on renewed threats to Mideast oil chokepoints, see my recent paper for the Payne Institute.)

Offer discounts and special deals: Oil Minister Bijan Zanganeh first hinted at the possibility of future discounts in April. “Iran will take all the necessary measures to keep its oil market share because of the political atmosphere and the American president’s decision on the deal,” he told state TV. At the time, Zanganeh said it was “possible to make changes in our prices,” and that’s what Iran has done this summer. Iran’s official selling prices for Europe and India look increasingly attractive compared to similar grades. Besides discounts, customers have been offered cut-rate freight and an extra 30 days credit, according to trade press accounts. Yet discounts will not solve the sanctions problem. A few buyers might take additional, displaced barrels but only if their exposure is limited to begin with.

Arrange and disguise more oil shipments: As insurance becomes harder to acquire and tankers shun Iranian ports, Iran can be expected to haul more of its own oil; the National Iranian Tanker Company will also assume more risk. Ahead of the first tranche of U.S. sanctions being imposed on August 7, major Chinese buyers have turned to NITC for all deliveries, and NITC is reportedly covering the costs of shipping and insurance. State-backed firms may have a different risk threshold than purely private enterprises so it remains to be seen whether Iran can attract other customers with similar terms. Given its banking constraints, Iran’s inability to provide sufficient insurance is a major stumbling block.

Smuggling commercial volumes is extremely difficult if not impossible.

Iran can also be expected to disguise oil sales by re-flagging and re-naming tankers, employing front companies, and turning off GPS transponders, like it did in 2012. However confusing, none of those tricks did much to save Iran’s exports before. The U.S. Treasury can be expected to regularly expose ships and fronts—like it did last time—and Washington will lean hard on countries to strip flags from those tankers that really belong to Iran. The fact is: it’s impossible to hide million- or two-million-barrel cargoes on the high seas when the U.S. is looking hard for them. Smuggling commercial volumes is extremely difficult if not impossible.

Accept local currency and expand barter deals: With Iran unable to trade in dollars and European banks afraid of crossing the U.S. Treasury, Iran will have trouble turning oil into dollars and (probably) euros. The only other option is for Iran to accept payment in the local currency of their customer. This is what U.S. sanctions were designed to do in the first place: trap Iran’s oil revenues and force Tehran to enter barter deals with trade partners, only accepting humanitarian goods such as food and medicine.

Iran’s sanction-busting playbook is weak. Using it also presents real risks to the officials involved.

One option available to Iran is to expand these barter deals by choice—enabling trade for other goods or services or possibly financing investments in customer countries. India and China would be natural candidates for these schemes but so would Russia, if the zombie oil-for-goods deal ever comes to life. Even so, Iran will have a hard time turning steadily rising accounts into imports and investments. The currencies trapped in those accounts could also lose value.

Iran’s sanction-busting playbook is weak. Using it also presents real risks to the officials involved. In an effort to save the economy, Iran’s leaders are blaming “corrupt” officials and businessmen for the country’s ills, rather than sanctions. To that end the Supreme Leader recently endorsed the formation of a new revolutionary court which is to prosecute the corrupt quickly and harshly—with limited appeals and possible executions. Any official pursuing secretive oil deals or offering discounts in this political climate should be afraid of being accused of corruption. Failure might mean the loss of one’s post but success could also be used against officials if they fall out of favor with influential hard-liners.