Sunday, February 28, 2010

Implications of the Economic Sanctions on Iran

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The international sanctions are affecting various sectors of the Iranian economy, and as time goes by, the serious implications are evident. This is mainly because of the sharp drop in oil prices that will probably result in a loss of 50 billion dollars in oil revenues in the current fiscal Iranian year (March 2009-March 2010) over the previous year.With regard to foreign trade, the sanctions have caused difficulties in Iran’s financial activities vis-a-vis Europe and some of the banks in Asia and the Gulf region. Many European banks have severed their financial ties with Iranian banks, and Chinese and Gulf banks have reduced (under heavy western pressure) the scope of financial activity opposite Iran. In addition, Iran’s banks are having difficulties carrying out financial activity in USD and even opposite Europe; they are finding it hard to carry out financial activity in Euro, especially with regard to issuing letters of credit, which are a condition for any internationally mediated transaction. Moreover, the banking system in Iran is experiencing significant financial difficulties and requires 10-I5billion USD in government aid due to the destructive combination of sanctions on the one hand and Iran’s failing economic policy on the other.

There is a decrease in foreign investments in the field of energy in Iran. A number of large European energy corporations decided to freeze their investments in new projects in Iran. Among the companies are Shell, Stat oil, Hydro, ENI and Repsol which decided to refrain from making new investments in the Iranian energy sector.For the time being they are maintaining "symbolic" ties with Iran - unrealized investment negotiations, continuing with existing projects, etc.Iran is also experiencing difficulties in gas development, mainly the gas export, for two main reasons. The first reason is the difficulty in obtaining liquefaction technology required for exporting gas in tankers, because Western companies who have this technology are not supplying it to Iran. The second reason is the obstacles to signing gas export contracts using pipes leading to Europe (through Turkey), and the IPI pipeline to India and Pakistan.

Investment in Iran's energy sector is problematic both because of the sanctions and because of the drop in oil prices. In this sphere:

1. The director of Iran's gas company NIGC announced that sanctions have led to an increase of 10-20% in the cost of gas projects, and they would need over 10billion dollars investment yearly to read Iran's gas production targets.
2. The director of Petrofars announced that 80% of the projects in the South Fars area were delayed/shut down because of the drop in oil prices.

The effects of sanctions are also felt in lran's electricity sector. There is a lack of spare parts in Iran's power stations, and there is no foreign investment in this sector. This has led to an electricity shortage in Iran since last summer and consequently to electricity outages.

Another significant effect, stemming from both the sanctions and the global economic crisis, is the serious decrease in lran’s export revenue, due to its almost total reliance on revenues from oil and oil product exports (comprising 85% of its exports), after oil prices dropped drastically by over 70%,. At the same time, Iran does not have sufficient capabilities for refining oil, therefore it has to import a large part of its fuel consumption, and it pays a high price for this because fuel prices dropped by only20%. The disproportionate reductions in oil and fuel prices increases lran’s budget deficit.In addition, the sanctions led to a sharp increase in Iran’s import costs (more than 10billion dollars) and export costs. Moreover, the subsidies on imported food have increased. In light of the above, Iran needs to use a large part of its foreign currency reserves (which according to [ran amount to some 82 billion dollars) rather than keeping them for times of low oil prices, such as the present. Inflation and shortages - the sanctions are causing shortages in Western products and on tribute to Iran’s growing inflation (which is also because of the regime's spendthrift policy), and the need to import products via Gulf countries and to pay higher prices for imported products due to the sanctions, The estimated rate of the inflation is around 15%.

The sanctions are also causing certain difficulties for Iran’s vehicle industry,especially with regard to the supply of spare parts. However, it seems as if at least some of the European companies have not withdrawn from the Iranian market, and Chinese companies are increasing their activities in this industry, Aviation and shipping - the UN Security Council (in a non-binding manner) called for checking cargo shipments to and from Iran carried by Iran Air and IRISL, and lran’s aviation companies are being harmed by the shortage of imported spare parts.This call had been adopted by the European Union and its member countries.The average person also feels the impact of the sanctions and the regime’s mismanagement of the situation. Iranian citizens are starting to experience deterioration in living conditions (high inflation, erosion of purchasing power,difficulties in paying workers’ salaries, electric power outages and long lines at gas stations). As part of the regime’s dealing with the heavy economic price exacted by the sanctions, the Iranian government has so far increased withdrawals from the Oil Stabilization Fund (OSF), which according to different reports in Iran contains reserves estimated at tens of billions of dollars. According to these reports, during the current Iranian year (1387) Iran has already withdrawn more than 50% of the fund, In this context, Majles member Musa Ali Reza, who is responsible for the Majles Budget and Planning Commission, said that only 7 billion dollars remained in the fund, incomparison with December 2007, when the fund’s balance was I0 billion dollars(according to the then CBI governor Tahmasb Mazaheri). lran’s concerns about the OSF's dwindling foreign currency reserves is expressed in one of Rafsanjani’s statements that Iran needed to bolster its foreign currency reserves and the OSF in order to deal with the global economic crisis, the decrease in its oil revenues and the effects of the above on the Iranian economy.

In light of the above and in order to "keep its head above the water", Iran is trying to raise capital using alternative methods. In this framework, on 19 November 2008, the CBI governor, Hossein Qazavi said Iran plans to approach international credit markets. In order to raise a billion dollars by issuing government bonds (it is doubtful whether this move will take place due to the global economic crisis and the credit crunch experienced by many international companies). This unusual move, which Iran has not made in the past six years, and has been used only once (in 2002) in the 30 years since the revolution, reflects 1ran‘s credit difficulties as a result of the decrease in global oil prices. This decrease has led to a loss of revenue of around a quarter of a billion dollars a day, and an annual loss of 90 billion dollars, in comparison with the record oil prices of July 2008. Another move intended to increase state revenues, which have been significantly harmed by the economic sanctions imposed on Iran and the global economic crisis,was the government decision issued on 22 September, 2008 to impose 3% VAT for the first time ever.

The VAT announcement led to demonstrations and shutdowns by merchants and shop owners in lran’s large cities (Tehran, Tabriz, Esfahan and Mashhad). On 8 October 2008, during the protests, shop owners and merchants,mainly gold and textile merchants, shut their stores, locked the entrance gate to the Esfahan bazaar and thousands went out to demonstrate outside municipal buildings.Security forces forced the merchants, mainly in Esfahan, to open their shops. As a result, the government announced it was postponing the application of VAT. The closure of the bazaars in the large cities, especially the shutdown in Tehran, is unusual, and according to Iranian officials, this has not taken place in Iran since the Islamic Revolution in 1979. These unusual events reflect the explosive potential among the Iranian public on the economic issue and the regime’s great "sensitivity" to this subject.

In a wider context, these events express the frustration of the bazaar merchants - who were previously a major economic and political sector in Iran, and who had close ties to the religious establishment. This is in light of the ongoing erosion of their economic status for several years (along with the increase in the status of the industrialists) and the major decline in their influence on the political system. This has took place parallel to the rise in the influence of the IRGC, which provided the IRGC with many economic opportunities, including receiving many franchises. In summary, despite the public threats made by Iran against the West and action to limit the sanction damages, the top Iranian leadership is very apprehensive about the economic sanctions, which in effect greatly affect Iran’s foreign ties and its routine on a daily basis. An illustration of the effects of sanctions was the unusual letter sent on29 November 2008, by senior religious clerics in Tehran to the Leader Khamenei,criticizing the conduct of Ahmadinejad's government. They protested the economic pressure on Iran’s citizens, rising prices, and "the unacceptable conduct of the government against cultural and revolutionary values". The letter cautioned that the governments conduct could harm the image of the Leader and the regime itself.

Expanding the sanctions against Iran, especially in light of the deepening global economic crisis, is certainly exacerbating the challenge for the Iranian leadership.This is because it increasingly emphasizes the futility of its economic policy(especially that of Ahamdinejad) and its inability to meet the ambitious economic targets it set for himself. International pressure is a factor that Iranian officials regards significant and as such the leadership would have to take it into consideration at some stage or another, or pay a hefty price for ignoring it, even before drastic measure have been taken, such as a ban on exporting spare parts to Iran, the Achilles heel of its economy. The implications of the sanctions and their success may be an effective tool, even at the expense of more radical options. For the time being, even thought four Security Council resolutions have been imposed on Iran and despite the harsh implications of the sanctions on Lran's economy, it still has not changed its policy regarding its nuclear program. Moreover, it seems that up until now Iran did nothing but to accelerate its efforts in achieving nuclear weapon and in keeping on its defiance towards the West, Thus, the international community should take into consideration to widen the sanctions and the political pressure on Iran, and even to consider some more dramatic measures against it.


Ali Mostofi said...

The mullahs' IRGC has suffocated the Iranian business more than anything. Mullah sanctions are worse than anything.