June 14, 2016 | Memo

Don’t Buy the Spin: Iran is Getting Economic Relief

FDD-Roubini Report

Co-written by Rachel Ziemba

Download the full report

Foreword by Mark Dubowitz and Annie Fixler

In recent weeks, U.S. Secretary of State John Kerry has been on an international “road show”  to encourage large European banks to return to business with Iran and to help alleviate their concerns about the legal risks associated with engaging with a country still under U.S. sanctions for money laundering, terrorism, missile proliferation, and human rights abuses. These banks also are concerned about the extensive level of non-performing assets and about financial transactions involving the still-sanctioned Islamic Revolutionary Guard Corps, which is dominant in the most lucrative sectors of Iran’s economy through its control of thousands of front companies.

Meanwhile, members of Congress from both parties  are concerned that the administration is exploring workarounds to allow Iran to “dollarize” transactions without directly accessing the U.S. financial system.  These workarounds include allowing foreign financial institutions to enable dollarized transactions on Iran’s behalf using offshore clearing, intra-bank book transfers and conversions, or similar dollar-based mechanisms.  Providing this additional sanctions relief would contradict repeated administration statements  and goes beyond any commitments made to Iran under the nuclear agreement.

Meanwhile, international banks aren’t taking the bait.  Notably, HSBC Chief Legal Officer and former Treasury Under Secretary Stuart Levey stated that the decisions of his bank are “driven by the financial-crime risks and the underlying conduct” and there have been no assurances that Iran’s government has addressed the illicit conduct on which the sanctions were based.  Indeed, the International Monetary Fund (IMF)’s David Lipton noted on a visit to Tehran that “The best thing the government can do, and the banks can do, is to bring those standards up to international levels and try to reassure foreign partners, banks and otherwise that Iran’s banks are safe to deal with.”  Former Treasury spokesperson Hagar Hajjar Chemali similarly noted, “The only move that could help bring on the business is for Tehran to change its foreign policy and improve its financial transparency measures.”

As this report demonstrates, even without access to dollarized transactions or the implementation of economic reforms, Tehran has already received a major “stimulus package” in the form of sanctions relief. Indeed, Iran has brought oil to market more quickly than expected by drawing down its inventories, accessed imports, and stabilized the economy.

This is a major shift. In 2012 and 2013, Iran’s economy was crashing. It had been hit with an asymmetric shock from sanctions, including those targeting its central bank, oil exports, and access to the SWIFT financial messaging system.  The economy shrank by more than six percent in the 2012/13 fiscal year, largely due to the drop in oil exports and revenue because of tightening sanctions, and bottomed out the following year, contracting by another two percent.  Accessible foreign exchange reserves were estimated to be down to only $20 billion, limiting imports.

This changed during the nuclear negotiations, as previous reports from Roubini Global Economics and the Foundation for Defense of Democracies have detailed. During the 18-month period starting in late 2013, interim sanctions relief  and the lack of new shocks enabled Iran to move from a severe recession to a modest recovery.  During that time, the Islamic Republic received $11.9 billion through the release of its restricted assets, while sanctions on major sectors of its economy were suspended. This facilitated strong imports, especially from China, that in turn supported domestic investment. The Obama administration also de-escalated the sanctions pressure by blocking new legislation that would have maintained or tightened sanctions on oil-related and other economic transactions.  Jointly, these forces rescued the Iranian economy and its leaders, including the Revolutionary Guards, from an imminent and severe balance of payments crisis. As this report finds, in the 2014/15 fiscal year, the Iranian economy rebounded and grew at a rate of at least 3 percent.

Now, under the Joint Comprehensive Plan of Action (JCPOA), Iran has received access to an additional $100 billion in previously frozen foreign assets, significantly boosting its accessible foreign exchange reserves.  As we described in our previous reporting on this topic,  while Iran has access to $50-60 billion in liquid assets, its total funds are closer to $100 billion. Excluding previously allocated funds from this total fails to adequately estimate the effect of releasing previously frozen assets on the economy. Some of these allocated funds are collateral for joint ventures or deposits for imports. Thus, while these funds are unavailable for new investments, the payoff from the previous allocations will positively impact the Iranian economy.

Sanctions were also lifted on Iran’s crude oil exports and upstream energy investment and on key sectors of the economy and hundreds of Iranian banks, companies, individuals, and government entities. The additional access of Iranian institutions to global financial payments systems, such as SWIFT, has reduced transaction costs and the need for intermediaries.

This report demonstrates that in the fiscal year that has just ended – with declining oil prices, a tight monetary policy implemented to rein in inflation, and a tight fiscal policy imposed given revenue shortfalls – Iran’s economy grew only slightly, and may have even experienced a modest contraction.  But in the coming fiscal year, Roubini Global Economics projects that Iran’s economy will grow at a rate of 3.7 percent. Assuming that Iran continues to make modest economic reforms to attract investment, this report forecasts its economic growth will stabilize around 4 to 4.5 percent annually or higher over the next five years.

The future success of Iran’s economy depends on privatization, encouraging competition, addressing corruption, recapitalizing banks, and strengthening the rule of law. If Tehran wants to encourage foreign investment and alleviate international banks’ concerns, it also needs to end its support for terrorism, missile development, and destabilizing regional activities, and to reduce the economic power of the Revolutionary Guards and the supreme leader’s business empire. All of these factors increase the risks of investing in the Islamic Republic, regardless of what deal-sweeteners the White House provides.


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