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Bartering is Iran's best hope to bypass sanctions

With oil exports in freefall, the country is hoping that a new EU-backed plan to help companies continue trading will work. But optimism is low

For many Iranians, it is a case of déjà vu. Under intense US pressure, the Islamic Republic's oil exports are being squeezed hard. In an echo of the darkest days of 2012, when sanctions brought Iran's exports of crude and condensate to just 1.5m barrels a day—their lowest level since 1986—the latest export figures made for grimly familiar reading.

In the first week of October, Iran's crude oil exports fell to just 1.1m b/d, according to tanker data cited by Reuters. The decline has been precipitous. In April, the last month before President Donald Trump pulled the US out of the 2015 nuclear deal with Iran, the so-called Joint Comprehensive Plan of Action (JCPOA), Tehran was selling 2.5m b/d.

Total estimated export volumes on Aframaxes, Suezmaxes and VLCCs from Iranian ports sank by 11.5% to 1.7 b/d in September, from 1.92m b/d in August, according to data from S&P Global Platts. The drop in demand has stunted Iran's overall production. According to figures from the International Energy Agency (IEA), Iran's oil output fell from an average of 3.81m b/d in the first half of 2018, to 3.63m b/d in August.

This is far in excess of the 0.5m-b/d loss that state-owned National Iranian Oil Company was anticipating as recently as July.

More troubling still for Tehran, these sharp declines in oil sales have set in well before the 5 November 2018 deadline, by which full US sanctions curbing Iranian oil exports come into effect. Under intense lobbying by US officials, major importers of Iranian oil such as Japan, China, South Korea and India have begun to wind down their purchases of Iranian crude.

Iran's travails will have triggered a degree of Schadenfreude across Middle Eastern capitals. Saudi Arabia—Tehran's major regional adversary—is ready to help the market fill any Iran-sized gap in the Asian market with new barrels (though the scale of the decline might eventually test the kingdom's ability to keep the market supplied from its declared spare capacity buffer).

This view isn't shared in much of Europe, where anger at Trump's tearing up of the JCPOA runs deep.

Enter the SPV

The EU is preparing to test the water with a new scheme designed to enable companies to circumvent the sanctions. On 25 September, France, the UK and Germany agreed with Russia and China—the other permanent members of the UN Security Council—along with the EU itself, to set up a payment system to facilitate trade with Iran.

Under EU foreign affairs commissioner Federica Mogherini's plan, a special purpose vehicle (SPV) would be established to facilitate payments related to Iran's exports and imports—so long as the firms involved were carrying out legitimate business under EU law. The proposal comes on top of a blocking statute passed by the EU in August that seeks to insulate EU companies from sanctions.

1.1m b/d—Iran's October oil exports

The SPV—details of which are still being worked out—will usher in a barter system. Iranian oil would be exchanged for goods without money changing hands, with the SPV serving as a third-party entity to handle transactions. According to one model cited by the Atlantic Council, if Iran exports crude to a French company, the latter would register an agreed amount of "credit" with the SPV. Iran could then arrange to import goods from, say, an Italian company. That company could then claim back the credit from the SPV as payment.

So much for the theory. EU advisors will have their work cut out in the next few weeks devising a workable scheme that can win over sceptical companies.

Michael Lyons, a partner at Clifford Chance who specialises in sanctions and financial crime, tells Petroleum Economist that if the SPV is going to work, it will probably need to be entirely disconnected from the global payments system. That's because its very existence stems from the fact that most European banks will be unwilling to process any payments that relate to Iranian trade, whatever the currency.

"Most of the main European players have said they will stop purchasing Iranian crude after 5 November, not simply because of the practical issues in making payment, but because of the risk of US secondary sanctions associated with that trade," says Lyons.

If the barter system works only on a European basis, it will likely have a limited impact as that region's purchases of Iranian oil will decrease dramatically, thus reducing the value of European imports from Iran to set off against exports.

Many European buyers of Iranian oil are planning to phase out purchases, if they haven't already done so. "It seems unlikely that this new payment channel or bartering system would encourage them to start purchasing again, given the ever-present threat of sanctions from the US—it's very unlikely to be solely the lack of an ability to make payment that is deterring them," says Lyons.

And, says Lyons, if the US imposes sanctions on the SPV, many European entities will be unable to continue using it. This is because in most cases the banks which provide their credit lines will have required undertakings that they don't do any business with sanctions targets.

Accentuate the positive

There are some positives from the SPV plan, say analysts. For example, it should make it slightly easier for small and mid-sized companies dealing with Iran, without huge exposure to the US, to continue to do business.

"The SMEs now see this as extra security from European governments, providing a mechanism of payment and insurance. But it's not going to encourage the Shells and Totals to make investments in Iran, nor the Vitols and Glencores to buy and sell Iranian petroleum products. Nobody is going to push the envelope on this," says Ali Ghezelbash, director at AdAugusta Consulting.

The other issue is the degree to which the US will escalate sanctions, once the SPV is in place and companies are seen to be using it to avert US-imposed penalties.

"I'm generally sceptical as to how the SPV scheme could work unless the Europeans were willing to push back against US escalation on this issue," says Ghezelbash.

Iran has other weapons in its armoury to combat US-led pressure. One instrument used before, and being deployed again, is the use of so-called ghost tankers. Reports suggest that Iranian oil tankers are switching off their transponders, which makes it difficult to track the amount of oil being shipped, and to whom it is being offloaded.

Again, the pattern is familiar. Ghost tankers were a regular feature of the previous sanctions' regime. But there are also sharp differences between the situation five years ago and now.

"Some of the elements of what happened last time are going to be repeated this time around, related to the way that the US pressurises companies and countries to reduce oil purchases," says Ghezelbash. "But then there are elements that are not similar. For example, there was this grand coalition against Iran in 2012-13, and even if there was some resistance from the Chinese and Russians, they all went along with it. This time around, there isn't that consistent implementation."

Does that mean it has become easier for Iran to get around these sanctions? Not necessarily. At the end of the day, US leverage is still immense.

On the other hand, those opposed to Trump's Iran strategy will hope that the roots of a new, less US-dominated global order may yet emerge from the wreckage. Were the planned SPV scheme to show a path to building trading relations that have a greater degree of protection from potentially politically-driven US financial watchdog overreach, the glass half-empty view could yet be replaced by a glass-half full variant.

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