The Trump Sanctions: What Will the Global Impact Be?

No matter what, Iran will be hit hard

TOPSHOT - US President Donald Trump signs a document reinstating sanctions against Iran after announcing the US withdrawal from the Iran Nuclear deal, in the Diplomatic Reception Room at the White House in Washington, DC, on May 8, 2018. / AFP PHOTO / SAUL LOEB
SAUL LOEB/AFP

U.S. President Donald Trump’s announcement that the U.S. is withdrawing from the 2015 nuclear accord with Iran and reimposing sanctions elicited only a mild reaction from the world financial markets

U.S and European stocks advanced on Wednesday as a surge in oil prices boosted energy shares. Shares of companies like Renault, Peugeot and Airbus, all of which have significant interests now at risk in Iran, showed only moderate losses. Even on the Tehran Stock Exchange the reaction was muted, with shares actually eking out a 1% gain for the day.

If that were the reading on how the world economy is going to be affected by renewed American sanctions, it would seem the impact will be slight.

But in Iran, the dollar was being traded at as much as 75,000 of the already battered rial, compared to around 65,000 just before Trump announced his decision on Tuesday night. Many Iranians regard the dollar-rial exchange rate as the best barometer for the economy.

Moreover, oil prices rose more than 3% on Wednesday, after climbing to their highest in three-and-half years. Brent crude futures rose, to $77.18 a barrel and U.S. West Texas Intermediate crude futures rose to $71.24.

Iran has been exporting two million barrels a day, or about 4% of the world total. The Obama-era sanctions had slashed iran exports by as much as 1.5 million BPD; estimates now are that the renewed sanctions regime of American could cut it by a more modest 500,000 barrels, according to a survey by Bloomberg News, or even as little as 200,000-300,000 barrels.

Either way, supplies will be constrained – unless Saudi Arabia agrees to export its space capacity, which is by no means a given. While the U.S. might pressure it act, Riyadh has an interest in seeing prices rise for domestic reasons.

Higher oil prices can reverberate throughout the world economy, although not the way did in past episodes of surging prices.

As Greg Sharenow, analyst at the U.S. bond trader Pimco, said in a note this week that even though the U.S. is no longer the big energy importer it once was, it isn’t immune to the impact higher oil prices.

His take on what will happen next: “U.S. producers will more likely apply the benefits of higher prices to balance sheet repair rather than investment, while consumers will feel the burden of higher gasoline prices. ... On net, rising oil prices will likely act like a regressive tax on consumption.”

A lot depends on what the Trump administration’s goals are in re-imposing sanctions and how strictly it chooses to enforce them.

Officially, the U.S. is only seeking to force the government of Iran to agree to a tougher agreement that would permanent ban it from seeking nuclear weapons. However, Trump’s rhetoric suggests otherwise and that America’s goal is to bring about regime change, as one European official said.

Neither goal is going to be easy achieve, if Iranian statements can be taken at face value, but regime change would be much harder to implement and would meet even more resistance from America’s allies.

Then there’s the issue of enforcement. America is giving European companies will have 90 to 180 days to wind down their operations in Iran, or they will run afoul of the American banking system. The sanctions on oil will require European and Asian countries to reduce their imports from Iran. Foreign financial companies are liable to penalties if they deal with Iran’s central bank.

On the one hand, the U.S. might make some exception, as U.S. Treasury Secretary Steven Mnuchin; on the other hand, Trump’s national security adviser John Bolton suggested that additional sanctions on top of the revival of the pre-2015 regime already declared, might be added.

Mnuchin on Tuesday expressed confidence that they would still be powerful even if other American allies did not follow suit. “We do not want to let Iran use the U.S. financial markets and financial system and transact in dollars until they agree that not only will they not have a nuclear weapon now, but we’ve put in provisions that they will never have one,” he said.

In any case, since the sanctions were lifted under the nuclear agreement in January 2016m Western investment and trade with Iran has been minimal. The French energy company Total has a $2 billion partnership with China’s CNPC to develop Iran’s South Pars gas field and has already spent $90 million of that.

The world’s two big plane makers, Boeing and Airbus, both have big contracts with Iranian airlines – Boeing for $20 billion, though work had not begun on the order, and Airbus for $19 billion. France’s Renault has a joint venture to build 150,000 cars a year in the Iran, while PSA Group and its Iranian partner agreed to invest 400 million euros ($474 million) to upgrade a factory making Peugeots.

The biggest loser from the sanction, however, is likely to be Iran. The economy got a boost in the year following the end of the sanctions but by 2017 growth had slowed. In December and early January, Iranians took to the streets to protest economic conditions.

The fact that the pre-2015 sanctions regime was never entirely dropped and companies remained resistant to invest or trade with Iran has hurt. But the Iranian economy is mismanaged and corrupt. Hundreds of thousands of Iranians lost money in banks that have collapsed in recent years and the International Monetary Fund said in December said the banking system needed to be restructured and recapitalized, a task warned would be expensive.

The trump sanctions will hit Iran’s key energy industry hard and strike a blow at the automobile sector it had hoped to revive.