The Joint Comprehensive Plan of Action (JCPOA) was signed in Oct 2015 between Iran and the six major nuclear powers: the US, UK, France, China, Russia, and Germany, (or the P5+1). The withdrawal of the US from the deal in May 2018 continues to negatively affect the business environment in Iran despite the commitment of the other countries (the UK, France, China, Russia and Germany, hereinafter the P4+1). During the June 2018 meetings between the P4+1 countries and Iran , the European Union decided to update its blocking regulation to include US sanctions, which will be reimposed on Iran soon. The update is meant to protect the interest of European companies that have invested in Iran and to facilitate further investment. The P4+1 countries have delivered a package of ‘economic measures’ that are deemed to be protective and beneficial to Iran, but they in fact seem quite unattractive for the country. The Iranian government is urging the P4+1 to come up with an actionable plan that will protect the rights of Iran as well as provide benefits for limiting the country’s nuclear activities.
With the 90-180 wind-down periods expiring in August 2018 and November 2018, respectively, the US sanctions will soon be reimplemented. As a result, some foreign companies are terminating their relationship with Iranian business partners. The main US strategy regarding the Iranian oil sector is to reduce the oil export to nearly zero. The sanctions impacting the oil sector aren’t due to take effect until 4 Nov 2018, but this has already caused oil prices to rise in recent days. Certain countries including China, India, South Korea, Japan, and the EU Member States will seek exemption from the sanctions so they will be able to import oil from Iran. US Secretary of State Mike Pompeo said that Washington will consider the requests but it is expected that the exemption would be granted only for a short period of time and for a limited volume.
Various other sectors have also been affected prior to the wind-down periods. Shipping companies such as Maersk and CMA CGM have already decided to cut ties with their Iranian counterparts, a move that will affect the export of oil and non-oil products in terms of cost and time.
The railway sector was receiving attention from foreign investors – namely Germany, France, Italy, Japan, and South Korea – but it seems that with the US withdrawal from the JCPOA, these countries are reconsidering their decision by limiting or terminating their investments. This puts Iran at a disadvantage because the country’s railway system needs updating and could benefit from recent technological advancements funded by foreign investors. Iran currently has a railway network of approximately 10,000 km and plans to expand it to 25,000km. Based on recent estimations, the railway network needs $25 billion in investment, which would obviously come from FDI and technological cooperation with foreign investors. If the European investors cannot be protected from the impact of US sanctions, then these renewal and expansion projects would be given to the local Iranian companies, which are not as competitive as European partners and also lack financial resources. This however, will provide opportunity for Russian and Chinese firms to negotiate business deals with Iran in the infrastructure sector.
Another immediate impact of the reimplementation of the sanctions is on the exchange rate market. The exchange rate has worsened over the period of May to July 2018 by a depreciation of almost 14% of the local currency (IRR). This is in addition to the previous depreciation of 90% from January to May 2018. This currency devaluation has created a high demand in the market for foreign currencies especially the US dollar. The shortage of the USD notes in the market has created doubt that the government is able to supply the market with USD to prevent further depreciation. This shortage has also encouraged the smuggling of USD notes from neighbouring countries, profiting smugglers, but at the same time preventing further depreciation of the IRR. Despite the Iranian government’s announcement of a fixed exchange rate of $1 USD to 42,000 IRR in May 2018, this rate couldn’t be maintained and has since increased to $1 USD to 43,100 IRR. The black market rate jumped from 70,000 IRR in May to 80,000 IRR for $1 USD in July.
According to the World Bank outlook for 2018, inflationary pressures are likely to increase as an outcome of a widening output gap and further currency depreciation. The IMF predicts a steady growth rate of 4% until 2022, but this is subject to a similar level of economic activity as we see today. The reintroduction of US sanctions on Iran would severely affect oil production and oil exports, hence reducing the growth rate.
The US’s pressure on other countries to cut business relationships with Iran is more likely to worsen the economic condition in near future and in turn push the government to seek a political solution that among other options, could be revisiting the JCPOA deal.