Issue 83 - February 2019
Europe finally puts its payment mechanism where its mouth is
Europe’s long awaited
Special Purpose Vehicle for facilitating trade with Iran has arrived. It is a
small step on a long journey, but it does illuminate the way forward for
Iranian businesses. With the US determined in its pursuit of sanctions, this is
the platform that will define Iran’s economic and financial relationship with
the wider world. For that reason, Iran should embrace it and play its part in
bringing the payment mechanism to life.
Almost eight months
after the United States withdrew from the Iran Nuclear Deal, the European Union
has taken its first major, tangible step to keep the deal alive. France,
Germany and the United Kingdom launched their long awaited special financial
channel for reinstating Iranian trade on the 31st of January 2019. The
vehicle is called INSTEX (short for Instrument for Supporting Trade Exchanges).
It will be based in the French Finance Ministry, headed by a well-regarded
German banking expert, Per Fischer, and with UK representatives heading the
supervisory board.
In this month’s Verity Iran newsletter, we provide a primer
on the INSTEX, and what it means for Iranian businesses.
How will the
INSTEX work?
When INSTEX is up and
running, European and Iranian businesses wanting to engage in legitimate trade
will be able to transact through a safe financial clearing mechanism with
mirror entities in Paris and Tehran. The
mechanism will essentially operate as a barter system, enabling an Iranian
company to match its purchases of
European pharmaceuticals, for example, against the value of a European
company’s imports of Iranian crude. The INSTEX will create a legal shield
around European companies that are making transactions that fall within the
scope of the JCPOA nuclear agreement. These transactions would otherwise be
subject to US extra-territorial sanctions, but the new entity acts as a
blocking statue that nullifies the sanctions’ power within the EU and allows EU
businesses to recover damages incurred by them. It is important to note that
numerous legal obstacles and complications are yet to be overcome before the
channel is operational, so it is expected to take at least a further two or
three months yet.
How effective will
the EU be in protecting firms from US sanctions?
The INSTEX’s strength
in the face of US sanctions pressure is yet to be tested. The US State
Department immediately responded to the EU3’s announcement by reiterating its
stance on companies dealing with sanctioned Iranian entities; a loss of access
to the US financial system, the US dollar and the US market. The European Union
used a similar blocking statute with some success in the 1990s to guard
European entities against the US’ Cuban embargo. But the political context and
legal force of the US extra-territorial sanctions are much more powerful now
than they were then. The efficacy of the new European
legislation may well be decided in the courts.
European businesses
will each have to weigh up the risks on a case by case basis and it is small
and medium enterprises, with limited exposure to the US market, that are most
likely to be the first movers. Whilst large enterprises with an international
footprint might be highly reticent to risk losing their access to the US
market, EU officials hope that many small and medium-sized enterprises will see
a different balance of risk and reward. Access to Iranian oil and other
products, as well as opportunities to sell into the large Iranian market,
particularly food, pharmaceuticals and medical equipment are compelling. These
so called ‘humanitarian’ goods are in great demand and exempt from sanctions,
so present immediate business opportunities.
What will this
mean for Iran’s economy?
There is a question
mark over whether Europe’s efforts will ever deliver sufficient value to
Iranian businesses in the face of stern US financial pressure. Europe’s
goal is to secure Iran’s commitment to the JCPOA. To do that it aims to
materially improve Iran’s export revenues and access to finance, with positive
implications for tax receipts, jobs and a generally stronger economic
trajectory. But expectations are for the vehicle to facilitate only small
volumes of humanitarian trade to begin with. Even that will depend on the level
of engagement from European businesses and the political climate that surrounds
the trade in Europe and Tehran.
In time, if political
will remains and Iranian compliance with the JCPOA continues, the new mechanism
could grow and prove to be a vital channel for trade. It provides a
workable platform for legitimate payments outside the reach of the US
dollar-dominated global financial system. This is something Iranian businesses
currently do not have. Over time, Europe’s ambition is for the mechanism to
gain trust, grow the value of transactions and potentially even extend the function
to non-European parties wishing to trade safely with Iran.
The Trump
administration has demonstrated its intention to maximise the sanctions
pressure on Iran. As long as this position holds, the options for Iranian
businesses are limited. The worst case scenario is a withdrawal from the JCPOA
terms, which would mean a sure return to isolation from the global economy and
financial system, as well as an escalated risk of military conflict. Despite US
antagonism, the INSTEX is a clear political statement that European partners
want to preserve the JCPOA and deliver on its side of the bargain. It is a
basis upon which to build.
What must Iran do
to make it work?
Iran should seize the
INSTEX opportunity for the sake of Iranian businesses and households. That
means developing the necessary financial infrastructure as quickly as possible,
creating the political and legal conditions for Iranian businesses to engage
and continuing its principled adherence to the terms of the JCPOA.
Iran must match the
INSTEX with a mirror-mechanism in Tehran; that means matching European compliance
with UN trading standards, including anti-money laundering and anti-terrorist
regulations. Iran’s parliament successfully passed the legislation required
to bring Iran into line with the global financial rules established by the
Financial Action Task Force (FATF) and to remove its name from the FATF black
list. But the legislation has stalled controversially in Iran’s Expediency
Council. The extra financial transparency that the FATF related bills deliver
has sparked fierce resistance from many of those stakeholders that benefit most
from informal, under-the-radar financial dealings. Further delays to the bills will
also hold up progress towards the European financial trading mechanism.
In the meantime, Iran
can continue to build its trading relationship with non-EU partners. Iran’s new arrangement for
processing Indian payments for Iranian oil exports is aligned with the INSTEX
approach. Indian buyers deposit rupee denominated revenues in a state-owned
Indian bank and the funds are made available for purchases or investments
within the Indian market. Similar bilateral funding arrangements being developed
with Turkey, China and Russia too.
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