Iran: Threat of Renewed Sanctions Reshapes Economic Thinking

In the wake of recent anti-government protests, Iran’s Supreme Leader Ayatollah Ali Khamenei appears to have put his weight behind President Hasan Rouhani’s repeated calls for reduced military and Revolutionary Guards involvement in the economy.

Mr. Khamenei signaled his support by ordering the military and the Guards to start divesting from commercial holdings and businesses that are not related to their core tasks. The only exception is for construction projects considered essential by the government.

Meaningful step

The order is a significant development. This applies all the more so as it addresses protesters’ grievances that were sparked in part by losses suffered by millions of Iranians as a result of the collapse of fraudulent financial institutions with links to the Guards and other public institutions. These financial entities lured investors with high interest rates that they could not pay.

Europe’s interests

Mr. Khamenei’s order could also sweeten Iranian efforts to persuade Europe to put in place legal measures that would allow its companies to invest in the Islamic republic even if the United States imposes new sanctions and withdraws from the 2015 international agreement that curbed Iran’s nuclear program.

Europe shares the concern about the role of the Guards in Syria, Yemen, Iraq and elsewhere in the Middle East.

Reining in the Guards

A target of U.S. sanctions, the Guards reportedly are not opposed to a reduced stake that, according to analysts, accounts for as much as 30% of the Iranian economy.

The Guards operate, among others, Khatam al Anbia, a huge construction company with tens of thousands of employees that is involved in civil development, the oil industry and defense businesses.

The Guards also build roads, operate ports, manage telecommunication networks and own business in sectors as far flung as finance and medical.

The “top brass have realized that running companies is actually not their competency. The poor management has been a drag on the economy and–as seen in the recent #IranProtests–a risk to internal security and to the prestige of the armed forces,” said Esfandyar Batmanghelidj, an Iran analyst, commentator and business consultant.

In a world in which everything is interlinked, disinvestment by the Guards and military as well as other public institutions like the Social Security Organization, Iran’s largest pension fund, would involve steps toward privatization.

That is difficult in a country that has problems to attract any foreign investment because of the threat of a re-imposition of U.S. sanctions that were conditionally lifted as part of the nuclear agreement.

The Trump factor

Donald Trump, the U.S. President, has threatened not to renew U.S. sanctions relief in May if Europe and the U.S. Congress failed to work towards an agreement with Iran on an addition to the nuclear accord.

Trump wants to restrict Iranian missile testing and development, provide for expanded inspections of Iranian facilities and extend prohibitions on nuclear-weapons work. Iran insists that the accord cannot be renegotiated.

Europe has been pressing the Trump administration not to walk away from the accord. Iranian officials, for their part, have suggested that Tehran would adhere to the nuclear deal in case of a U.S. walkout provided that it served its interests.

The Iran-Europe dance

For Iran to see continued merit in the nuclear deal, it would have to believe that European companies would remain interested in investing in the Islamic republic. That would require the European Union adopting legislation that would shield European companies from U.S. secondary sanctions that would target non-American entities invested in Iran.

Privatization of military and Guards-owned companies, given Iran’s undercapitalized financial markets and its small pool of viable domestic investors, would depend on foreign investors, who in turn are unlikely to risk being penalized by potential renewed secondary U.S. sanctions.

“Europe should put in place a viable contingency plan if the United States continues backtracking on the deal and let Washington know it’s ready to use it… Europe will need to present a package (together with China and Russia) that can entice Iran to continue abiding by the core elements of the current nuclear agreement,” said Iran expert Ellie Geranmayeh.

A reality check

In practice, European companies, if forced to choose between doing business with the United States or Iran, would undoubtedly opt to steer clear of the Islamic republic.

As it stands, the EU is banking on the expectation that the Trump administration would ultimately opt to compromise in a bid to avoid a deterioration of trans-Atlantic relations.

In the meantime, European investors, like their Russian and Chinese counterparts, are likely to take a wait-and-see attitude.

Iran’s very limited economic options

That, in turn, could put efforts to reduce the military and Guards’ economic stake in jeopardy. Iran would find itself caught between a proverbial rock (i.e., lacking Iranian transparency) and a hard place (i.e., weak domestic financial markets and a limited pool of investors).

If that weren’t tough enough, Saudi efforts to counter Iran could further dampen foreign investor appetite.

In a sign of the times, South Korean construction company POSCO Engineering & Construction (in which Saudi Arabia’s Public Investment Fund has a 38 percent stake) cancelled a $1.6 billion contract to build a steel mill in Iran because of objections by the company’s two Saudi board members.