Reimposition of Iran sanctions

The United States on 7 August reintroduced sanctions on Iran that had been suspended as part of the Joint Comprehensive Plan of Action (JCPOA), affecting Iran's ability to sell foreign debt, acquire gold and base metals, trade its currency for the US dollar, and trade in the automotive sector.

• Iran is trying to consolidate politically and appease protesters to prevent sanctions from destabilising the country; this risks backfiring and reducing leadership cohesion.
• Iran will turn to China, Russia, and Turkey to reduce the impact of sanctions, but all three countries are embroiled in complex negotiations with the US in which Iran is one bargaining chip.
• Iran is extremely unlikely to take military action, while the US believes time is in its favour as it increases pressure on Iran to see what concessions it can extract and how hard to push.

Our assessment is that the United States is not pursuing objectives identified in advance. Rather, the US is escalating on an opportunistic basis to see what it can get Iran to concede, and will reassess its position along the way, deciding whether to pursue sanctions and/or internal destabilisation efforts until it gains enough concessions from Iran, or even the creating an environment where regime change would be more likely. IHS Markit assesses that the minimum requirement for the US is for Iran to reduce the threat it poses to Israel and Saudi Arabia, through negotiating a new agreement on the nuclear issue that includes reductions to Iran's ballistic missile programme, the reduction of support for the Houthi Movement in Yemen, and no further expansion of Hizbullah or similar organisations in Syria.

From the US perspective, the longer sanctions are applied, the greater the damage to Iran's economy and, therefore, the less ability Iran has to pursue activities the US considers threatening, and the greater the perceived likelihood of government destabilisation. As such, leaving the JCPOA and evidence that Iran was heading for nuclear 'break-out', or the closure of the Strait of Hormuz are among the main triggers that would bring about US-Iran war. The US has repeatedly warned that Iranian closure of the Strait of Hormuz would be considered an act of war. Despite its rhetoric, we assess that the Iranian government realises that a military confrontation with the US would end in defeat, putting the survival of the Islamic Republic at risk, while the US has no interest in launching a war because it wants to give time for sanctions to force Iran to negotiate. As a consequence, Iran is unlikely to close the Strait of Hormuz in the coming months, even after US sanctions on the sale of oil are introduced in November. Localised Iranian attacks on US assets in Iraq, Syria, or elsewhere would likely bring an overwhelming but localised US response.

Iran's foreign relations
Despite European governments' protestations and attempts at maintaining the JCPOA through measures intended to block sanctions, most major European multinationals are likely to adhere to US sanctions, given their extensive interests in the US. The banking and insurance sectors are particularly dependent on the US market, and will remain the main bottlenecks for any investments in Iran. China, Russia, and Turkey have also objected to the reintroduction of sanctions. All three countries are engaged in complex negotiations with the US over issues that are more critical to their national security and economies than Iran. For Turkey, this relates to Syria and the bilateral defence relationship with the US and NATO membership, including US sanctions on Turkey and the holding of US pastor Andrew Brunson. For Russia, this relates to Syria, Ukraine, and sanctions. For China, this relates to trade, North Korea, and Taiwan. For all three countries, Iran is a bargaining chip - all three countries will likely offer to help the US enforce its sanctions on Iran if they can secure US concessions in higher-priority areas. However, each of these negotiations is time-consuming and, while they are under way, all three countries are likely to assist Iran in reducing the impact of sanctions. China, which buys around a third of Iranian crude, has reportedly agreed to not increase its imports from Iran, according to unnamed US officials speaking to media outlets, therefore refraining from challenging the US directly and allowing the US to pressure Iran more effectively.

Iran's position
Iran has rejected US President Donald Trump's invitation to bilateral talks without preconditions. It has conducted a naval exercise which US and Israeli intelligence services claim simulated closure of the Strait of Hormuz, reflecting Iranian President Hassan Rouhani's threat to close the strait in response to sanctions affecting its ability to sell oil, which will come into effect in November. In contrast, Iranian Supreme Leader Ali Khamenei had said that there would be no war with the US, because Iran would not start one.

In an effort to placate popular dissent over endemic corruption, Iran has also launched a campaign against corruption on 12 August, arresting 67 officials and barring another 100 from travelling. This was initiated by the head of the judiciary, Sadeq Larijani, whose brother is the speaker of the Majles (parliament) and who is a hardline conservative. Iran had dismissed the head of the central bank, an ally of Rouhani, on 25 July, in line with demands from half of the members of the Majles. The head of the central bank's foreign-exchange operations was also arrested.

Outlook and implications
IHS Markit assesses that Iran will likely turn to China, Russia, and Turkey to mitigate the impact of sanctions. However, all three view Iran as a bargaining chip in higher-priority bilateral negotiations with the US, indicating that, while they will not fully enforce sanctions, they will also refrain from provoking the US over this issue. This reduces Iran's ability to manage its economy in the face of sanctions, especially the depreciation of its currency, further raising unrest risks at a time when the leadership is increasingly divided. Iran's measures against corruption will deepen those divisions, as the country is unable to reduce the role of the Islamic Revolution Guards Corps (IRGC) or of the hardline clerical establishment in the economy, which is the source of much of the corruption.

Key indicators of rising war risk would be Iran's resumption of nuclear activities banned under the JCPOA, especially stockpiling uranium enriched to 3.5% or enriching uranium beyond that level; Iran ending its participation in the JCPOA and expelling international inspectors; and Iranian-backed Houthi insurgents' attacks on US shipping in the Bab al-Mandab Strait, or extensive disruption to the United Arab Emirates' and Saudi Arabia's oil shipping through the strait.

Posted 22 August 2018 by Firas Modad, Director – MENA Country Risk, IHS Markit