They Want War With Iran, They’re Settling For Economic War

This article was originally published on LobeLog. 

On Tuesday, the U.S. Treasury’s Office of Foreign Assets Control (OFAC) sanctioned Valiollah Seif, governor of the Central Bank of Iran (CBI) as a “Specially Designated Global Terrorist,” accusing him of moving “ millions of dollars on behalf of the Islamic Revolutionary Guard Corps-Qods Force (IRGC-QF) to Hezbollah.” OFAC’s move opened a new front in the Trump administration’s accelerating conflict with Iran. The designation of a single individual, even the central bank governor, may not seem that significant. After all, Trump announced last week that he would reimpose all primary and secondary sanctions lifted as part of the Joint Comprehensive Plan of Action (JCPOA) as part of withdrawing from the nuclear deal. But targeting Seif may prove to be the pivotal moment in an economic war.

Iranian financial institutions have long been designated for suspected terrorist financing, and the Obama administration used such measures to isolate Iran’s economy in the effort to bring Iran to the negotiating table over its nuclear program. But the move to target Seif as an individual represents a significant escalation for two reasons. First, it reflects the direct targeting of a member of the Hassan Rouhani administration in a clear role of civilian leadership. Seif is not a rogue actor. He is a public figure, who travels regularly to Europe to engage in technical dialogue. Just recently, he welcomed Swedish central bank governor Stefan Ingves to Tehran. Seif also travels to the United States when invited for meetings at the International Monetary Fund and World Bank.

Moreover, Iran’s central bank is at the heart of an expansive effort to reform the country’s anti-money laundering (AML) and counter-terrorist financing (CTF) standards. Iran’s parliamentary research center recently concluded in a comprehensive report that “a considerable portion of the problems in Iranian banks’ correspondent relations with global counterparts is rooted in non-sanction reasons” including poor AML/CTF standards. Seif has been a central figure in the effort to improve these standards. Politically speaking, OFAC’s action could not be more different from the routine targeting of Iran’s military brass.

Second, the move represents an escalation because of who was likely behind it. It had long been assumed that OFAC was relatively immune to the more irascible political impulses in Washington. The application of sanctions was informed first and foremost by the need for restraint. As noted by former Treasury Secretary Jack Lew in a 2016 speech, OFAC was expected to “guard against the impulse to reach for sanctions too lightly or in situations where they will have negligible impact.” Lew advised his colleagues to be “be conscious of the risk that overuse of sanctions could undermine [America’s] leadership position within the global economy, and the effectiveness of [American] sanctions themselves.”

The Strategy of Economic Warfare

Neither Trump nor his close advisors are averse to undermining America’s leadership position in the world. The decision to sanction Seif under a terror designation carries the hallmarks of the Foundation for Defense of Democracies (FDD). A 2016 policy brief by FDD’s Mark Dubowitz and Annie Fixler, written on the occasion of Seif’s visit to Washington for meetings at the IMF, identifies the central bank governor as “no stranger to illicit finance” and claims that CBI “stands out for its long rap sheet of financial crimes.” More recently, Richard Goldberg and Saeed Ghasseminejad argued that “the White House should re-impose sanctions on the Central Bank of Iran” in order to push Iran’s currency into a “freefall” and precipitate a deeper economic crisis. This later piece makes it especially clear that FDD is not interested in the application of sanctions to achieve economic coercion. It seeks economic destruction.

As a strategy to confront Iran, economic warfare has clear advantages for the White House. The strategy allows Trump to continue to claim to be a non-interventionist and does not require him to send American troops to die in another quagmire. Economic warfare also allows avowed interventionists such as National Security Advisor John Bolton to pursue their destructive ends without the disapprobation following their support of the Iraq War. By trying to force Iran to collapse from within, by goading the Iranian people to tear down their own state, and by portraying that process as a popular revolution, Bolton can achieve his messianic goal without the high risk of blowback that would certainly face this chaotic administration from a military conflict.

Acknowledging that the Trump administration is adopting a strategy of economic warfare towards Iran means recognizing that the long-held distinction between economic concerns and security concerns vis-a-vis Iran are collapsing. In recent months, European and Iranian officials have made an effort to clarify that the JCPOA is “not an economic deal” but “a very important deal in the field of the non-proliferation regime.” In this formulation, the economic component of the deal is only valuable insofar as it serves a security goal. But Trump’s move to reapply sanctions on Iran—despite the country’s compliance with its commitments under the deal and with the clear purpose of fomenting instability in Iran—transforms the effort to save the JCPOA into an effort to shield Iran from an unjust economic war.

Europe’s Response

Seeing the economic threat to Iran as a security threat should have a significant bearing on how Europe responds to Trump’s provocations. In its recent formulation of a diplomatic strategy to save the JCPOA, Europe is seeking to preserve the economic benefits of the nuclear deal to incentivize Iran’s continued commitment to its non-proliferation commitments. But in the aftermath of the U.S. snapback of sanctions, and the likely escalation of those sanctions beyond levels previously seen, the imperative must be to insulate Iran’s economy and the Iranian people. The U.S. is seeking to instigate instability by putting pressure on the Iranian people, who know all too well the pain of shortages in foodstuffs and medicines that sanctions portend.

Iran will likely be able to prevent internal instability, but doing so will entail securitizing larger parts of the economy and society as was the case during the Mahmoud Ahmadinejad administration. In such a scenario, the ascendency of the IRGC will risk regional conflict by exacerbating the security dilemma with Saudi Arabia and Israel. Europe must recognize that a strong Iranian economy is fundamental to both internal and regional security, especially in the face of sustained pressure from the United States.

On Tuesday, French officials convened a briefing for French business on possible responses to Trump’s reimposition of secondary sanctions. French Minister of Economy Bruno Le Maire reportedly cited the French parable that “money is the nerve of war” to describe what is at stake. Later that day, reports emerged that the foreign ministers’ meeting among the EU, France, Germany, the UK, and Iran focused on a “nine-point plan” devoted to “maintaining economic ties with Iran, continuing Iran’s ability to sell oil and gas products and protecting EU companies doing business in Iran.”

The limits of European independence in international relations and tradecraft have been exposed by the break with the United States over Iran. As described by Siemens CEO Joe Kaeser in a recent interview, the corporation’s decision to wind down operations in Iran is a reflection of the “primacy of [the American] political system. If that primacy says ‘this is what we’re going to do’, then that is exactly what we’re going to do.” As in the case of the primacy of American military might, Europe long relied on the primacy of U.S. sanctions enforcement, grafted as it were onto the primacy of the U.S. financial system, in order to lend power to the once cohesive foreign policy of the transatlantic partnership. Now, the primacy of the U.S. system is a liability for Europe and a threat to Iran.

Photo Credit: IRNA

Iran’s Currency Crisis Spurs Action in Financial Reform Efforts

In the 2017 anti-money laundering (AML) index report published by the Basel Institute on Governance, which develops standards for financial regulations and compliance, Iran topped the list of the world’s 10 highest-risk countries failing to comply with AML standards. This index, published since 2007, ranks 140 countries in terms of their efforts combatting dirty money transactions and countering terrorist financing (CTF). Iran has made little progress to date in improving its standing. Yet, the recent reunification of Iran’s exchange rates by central bank is seen to be an effective step toward more economic transparency and part of wider efforts against smuggling and rent seeking in their diverse forms.

The high-risk assessment of Iran highlighted in the Basel Institute report is primarily due to weak AML/CFT regimes practiced in the jurisdiction. High rates of perceived corruption combined with poor financial sector regulations are major drivers of the structural and functional failures in the Iranian economy. Importantly, these are among the critical issues, which the Financial Action Task Force (FATF), an intergovernmental organization which develops politics to combat financial crime, had mandated Iran to address as part of its "action plan."

Following an extension granted in February, the deadline for Iran’s compliance with FATF’s action plans is set for June 2018. This means that Iranian authorities have limited time at their disposal to earn the continued suspension of counter measures against Iran. Lack of membership in organizations such as the World Trade Organization and the FATF, in particular, has led to a myriad of problems in the implementation of the Joint Comprehensive Plan of Action (JCPOA) nuclear deal agreed by Iran and E3+3 in 2015. Due to shortcomings in meeting FATF technical requirements and Basel II and III banking regulations, Iran has failed to expand its business and correspondent banking ties with International financial institutions, with significant consequences. For example, the number of letters of credit  opened since “Implementation Day” has been far lower than expected.

As such, financial reform in Iran is motivated by the need to spur economic growth. The mandate that the Supreme Leader of Iran Ali Khamenei gave to the Rouhani government to start negotiations with world powers over Iran’s nuclear program reflects the wider policy of the state to continue interacting with the international bodies on economic matters. To that end, cooperation with the FATF is set to carry on unless that authorization is withdrawn. Yet given the importance of such reforms, this authorization may remain in place regardless of what happens on May 12 with respect to President Trump’s decision to extend sanctions waivers issued as part of the JCPOA.

According to some estimates, the magnitude of organized money laundering in Iran amounts to some USD 26 billion per year. Transacting such sizeable amount of money outside the official financial system is impractical and requires that criminals abuse the conventional financial system to support their illegal activities. The Central Bank of Iran is seeking to increase its powers of supervision to monitor and prevent suspicious money transfers and smuggling of goods, ensuring the integrity of Iran’s financial system.

The central bank's recent moves to stem currency market volatility will make financing of illegal businesses in the economy more difficult. CBI’s new policies prohibit purchasing or holding of more than USD 10,000 or its equivalent in international currencies. In the same parallel, any bank account that whose aggregate debits and credits exceed IRR 50 billion rials  will be subject to anti-money laundering probes to monitor for suspicious activities.

Although it will remain possible to find loopholes in the new regulations, these moves reflect significant progress after years of unfulfilled promises to unify the dual foreign exchange rate regime. The move is also viewed as an important step towards obtaining approval from FATF in respect to countering money laundering and removing the rentierism prevalent in the country’s largely state-controlled economy.

In addition, based on the new legislation, revenues from petrochemical exports that are not repatriated to the country will be subject to greater supervision. Firms in the industry will now be required to report their trade transactions in the same system used to record the oil companies’ export revenues.  Previously earnings from petrochemical products sales were kept outside Iran in offshore bank accounts in the absence of proper supervision over their transactions and trades.

Interestingly, to further reinforce its oversight, the central bank has launched the an integrated system for monitoring foreign exchange deals or known as NIMA. This is a system which will monitor the activities of four groups of actors who shape the currency market: merchandise and service importers who purchase foreign currency, exporters of goods and services who earn foreign currency, banks and brokerages who act as intermediaries, and the policymakers who seek to manage supply and demand.

According to CBI governor, Valiollah Seif, the operationalization of the NIMA, will change CBI’s current reactionary response mechanism to one that is more proactive and will make controlling hazardous speculative or systematic fluctuations in foreign exchange markets possible by enabling the calculation of the effective demand so that the bank can aptly manage the available foreign exchange reserves.

In sum, the implementation of these targeted measures by CBI is expected to gradually put an end to capital flight and massive conversion of rial to other hard currencies. These moves can also undercut crimes such as smuggling and money laundering by increasing oversight and the likelihood of penalties for their perpetrators. But the effectiveness of CBI’s mandate will be determined by the political will of both the government and the state to fully enforce the letter and spirit of the new regulations and laws. A great deal is at stake. If the Rouhani government can continue to persist in its long-awaited macroeconomic policies and resist pressure from vested interests, then it remains possible that Iran’s economy could find new momentum after years of recession.

Photo Credit: Tasnim

Rouhani Government Unifies Iran’s Exchange Rates in Decisive Move to Stabilize Currency

In a decisive move intended to stop the further devaluation of the rial, the Rouhani government announced it would unify the official and free market dollar exchange rates, settling on an official rate of IRR 42,000.

First Vice President Eshagh Jahangiri made the announcement last night, declaring that trading dollars above the new rate would be a serious crime.  "Just like the smuggling of drugs, no one has the right to buy or sell [above the new rate]... If any other exchange rate is formed in the market, the judiciary and security forces will deal with it," he warned.

"There should not be such incidents in an economy that always has a surplus of foreign currency. Some say interference by foreign hands is disrupting the economic climate and some say domestic machinations are spurring these things in order to destabilize the climate in the country," added Jahangiri.

Earlier in the day, the Economic Commission of Iran’s parliament had summoned Minister of Economic Affairs Masoud Karbasian and Central Bank Governor Valiollah Seif for an emergency meeting regarding the careening value of the rial, which had reached a record low of IRR 60,000 to the dollar.

Speaking to reporters after the meeting, Karbasian continued the government line that the devaluation was not a reflection of the true state of the economy. Rather, he obliquely suggested that the “security agencies” ought to be summoned to explain the real cause for the fluctuations. His comments were an apparent reference to rumors that certain actors opposed to the Rouhani government, likely in the security establishment, were hoarding dollars in order to exacerbate speculation and undermine confidence in the government’s economic management.

However, in the face of this significant political pressure, the Rouhani administration made a bold move, instituting a policy that has eluded the country’s economic planners since the 1979 revolution. Rate unification has long been considered a necessary step to introduce more stability in Iran’s monetary policy and foster a better business environment for the country’s enterprises.

Iran's last major currency crisis of a similar scale took place in 2012. Then president Mahmoud Ahmadinejad similarly blamed psychological factors for the rout, arguing in a speech, "Are these currency fluctuations because of economic problems? The answer is no. Is this because of government policies? Never … It's due to psychological pressure. It's a psychological battle." His government similarly tried to unify rates at IRR 12,260. But sanctions made it difficult to generate sufficient supply of hard currency in Iran, and the unified rate collapsed after just a few months. 

During this most recent currency crisis, the rial had lost about one-third of its value against the dollar over the last Iranian new year, which ended on March 20. The devaluation accelerated beginning in December, and the rise in the free market price of the dollar tracked closely with that of gold. Both gold and the dollar have been typical “safe-haven” investments for Iranians wishing to hedge against inflation and general economic uncertainty. However, inflation had remained flat over the previous twelve months, and real estate prices were relatively stable, suggesting little change in the purchasing power of the rial. The net effect was a rampant devaluation more akin to a bubble, fueled by rising doubts among Iranians about the survival of nuclear deal.

Though clearly responding to the recent turmoil, the Rouhani government had already begun the groundwork necessary for such a unification. In March of last year, Catriona Purfield, a senior economist at the IMF, suggested that Iran could perhaps unify the rates earlier than expected, stating, “Half of imports have been put on the market rate and most of the goods are now at the flexible rate. Interbank FX market has been reestablished. Therefore all the elements are there, so an early move is possible.”

The new rate of IRR 42,000 is closer to the rate economists expect would be necessarily for unification. Economists Mohsen Bahmani-Oskooee and Sahar Bahrami looked at exchange rate data from 1979 to 2015. They concluded that had Iran’s rial been allowed to depreciate in accordance to changes in purchasing power parity, the exchange rate in 2015 would have been around IRR 47,000. The rial’s purchasing power has been relatively stable in the last few years and so this is likely a fair estimation of the current dollar rate in PPP terms.

Yet, despite the clear economic rationale behind the rate unification, it will remain to be seen whether the political gamble pays off for Rouhani. The official exchange rate presented a lucrative arbitrage opportunity for quasi-state actors, who could purchase dollars at the lower official rate then sell the hard currency on the black market. These entrenched interests will no-doubt see the unification as a direct challenge by Rouhani, and a further example of his administration's continued efforts to reign-in rent seeking in the economy.

But for the general public, such a confidence-inspiring move should serve as an indication that the Rouhani cabinet, despite the claims of infighting and mismanagement, remains capable of the kind of coordinated policymaking necessary to reform the economy.

Photo Credit: Vahid Salemi

Governor of Sweden’s Central Bank Visits Iran for Technical Dialogue

The governor of the Riksbank, Sweden’s central bank, will visit Iran on April 5-6 at the invitation of Iran’s central bank governor Valiollah Seif.

Stefan Ingves, the governor of the Riksbank will be leading a day of technical exchanges including a working dinner hosted by Sweden’s ambassador in Tehran, Helena Sångeland. The visit, which comes as political uncertainty around the nuclear deal reaches a fever pitch, underscores the long-standing commercial and economic relationship between Sweden and Iran. In February of 2017, Swedish Prime Minister Stefan Löfven visited Iran with an itinerary that included a visit to the Scania truck factory in Qazvin. 

For the Central Bank of Iran, the visit by one of Europe’s most seasoned central bankers is a valuable opportunity to draw on the Riksbank’s experience in central banking, financial stability, and monetary policy. Ingves has held the position of Riksbank governor since 2006 and navigated the country through the 2009 global financial crisis. He is also the chairman of the Basel Committee on Banking Supervision, which sets global standards for prudential regulation of banks. Iranian banks have been undertaking extensive reforms in order to better conform to so-called “Basel” standards.

A spokesperson for the Riksbank confirmed to Bourse & Bazaar that Ingves will give a presentation entitled “Central Banking and Financial Crisis: Lessons Learned.” The topic is of particular relevance as Iran seeks to manage systemic risk in its banking sector stemming from non-performing loans, a key driver of the 2009 crisis. Sweden was one of the fastest recovering countries in the aftermath of the last major global recession, earning praise as a “rockstar of the recovery” for its combination of intelligent fiscal and monetary measures. 

No doubt, Iran’s central bankers will listen to Ignves’ presentation attentively.

Photo Credit: Riksbank

A Swedish Training Program May Hold the Answer to Iran’s Banking Challenges

For nearly a year, “banking challenges” have vexed business leaders and investors seeking to work in Iran. While some corresponding banking relationships have been re-established between Iranian and smaller European banks, the scope and type of transactions remain limited. The largest European banks are unwilling to work with Iran. The reasons for these blockages are numerous, but the blame most often falls to the obstinance of the US Department of the Treasury, and in particular, to the Office of Foreign Assets Control, for not providing adequate guidance or licensing provisions to lend confidence to major European banks that transactions with Iran are acceptable.

However, there are additional reasons unrelated to sanctions enforcement, that have reduced the appetite for conducting business in Iran. Across Europe and the United States, new and more stringent rules for banking risk management practices, which include the introduction of personal liability for compliance officers in the event of failures, have changed the risk appetite of financial institutions. On Monday, the Financial Times reported that three of the world’s largest financial institutions—BlackRock, Vanguard, and State Street—“have expanded their corporate governance teams significantly in response to growing pressure from policymakers and clients.” The “stewardship” team at BlackRock now includes 31 specially-trained individuals. Similar expansions are taking place in compliance and risk management departments. In short, international best-practice now requires more people and more specialized training than ever before. For Iran’s banking sector, these changes raise the prospect of being left behind even in the aftermath of sanctions relief.

But history teaches us that banking sectors can catch up quickly, if provided the right support. Following the dissolution of the USSR in 1991, the former Eastern Bloc countries were struggling not merely to establish connections to Western banks, but also to adopt the fundamental structures of market economies. At the same time, financial institutions in the West were rapidly adopting new technologies, as the financial industry met with the digitalization of the economy. Just as countries like Russia, Ukraine, and Poland were reformulating their basic economic priorities, the pace of change was increasing in the world’s dominant economies.

In response to these challenges, Western governments made significant efforts to institute “capacity-building” programs across a wide range of areas including democratic governance, economic liberalization, formation of commercial law, management of industrial sectors, and reform of education systems. Naturally, banking was a crucial area of focus. The provision of financial assistance by organizations such as the International Monetary Fund and World Bank was tied to participation in “training and technical assistance” programs that sought to ensure institutions in post-Communist states were able to make responsible use of the financial support. These programs were largely successful, with banking standards rising within a decade to levels that encouraged global banks to take ownership positions in regional banks—examples include both HSBC Bank Poland and Ukraine’s Raiffeisen Bank Aval.

If capacity-building programs were able to support the establishment of extensive banking relations in countries where an independent financial sector did not even exist prior to 1990, their application in Iran should be able to generate results even faster. Iran boasts a highly sophisticated banking sector which maintained significant relations with major European banks prior to the imposition of financial sanctions in 2011. Many of Iran’s top bankers were educated in the United States and Europe. Majid Ghassemi, Chairman of Pasargad Bank, and former governor of the Central Bank of Iran, holds a PhD from the University of Southampton. Vali Zarrabieh, Chairman of Saman Bank, holds masters degrees from both CASS Business School in London and from Manchester Business School. The CEO of Middle East Bank, Parviz Aghili, holds a PhD from the University of Wisconsin. Yet, while a strong knowledge base exists in the boardrooms of many of Iran’s largest banks, there is a gap in knowledge and technical ability in middle management, particularly as many of Iran’s best and brightest young bankers seek their fortunes abroad.  

Despite this fact, there has been little effort to rekindle education as a basis for the advancement of Iran’s financial sector in the post-sanctions era. In order to gain the confidence of the world's major banks, Iran's first prerogative will be to meet the standards of the Financial Action Task Force (FATF) in the areas of anti-money laundering and counter terrorist finance. While FATF officials have had an ongoing dialogue with senior Iranian bankers and financial regulators, there is little evidence of a comprehensive effort to provide training that would reflect capacity-building within the sector at large. Similarly, while senior IMF officials have visited Iran and assessed economic reform efforts, no major commitments have been made to provide training or assistance. The Governor of the Central Bank of Iran, Valiollah Seif, suggested the creation of an IMF training center in Iran during a meeting with IMF Managing Director Christine Lagarde in April, 2015. Lagarde, herself, raised the prospect of training in a meeting with Iran’s Minister of Finance Ali Tayebnia in October, 2016.

In the absence of training and technical assistance, European banks will remain skeptical that Iranian banks are applying exacting compliance and governance standards. In order to build trust in the Iranian banking sector, a more wide-ranging effort is needed to educate and train the next generation of bankers in Iran, with a specific focus on the new regulatory and governance requirements that are currently coming into force. Encouragingly, such programs already exist. These protocols have long been offered to bankers in developing sectors worldwide. It is simply a matter of getting Iranian bankers involved.

One possible model is the Risk Management in Banking International Training Program (ITP) designed by KPMG Sweden. For over a decade, the program has worked to transfer Swedish and international standard risk management practices to countries with developing financial sectors. ITP was created as part of KPMG Sweden’s commitment to corporate social responsibility, and also as a means to build deeper connections in growth markets worldwide. The program is delivered with the stewardship and funding of the Swedish International Development Cooperation Agency (SIDA).

The program seeks to improve capacity across five key areas: financial markets, lending processes, regulation and supervision, risk management, and project management. Participants hail from a wide range of countries, including African nations such as Kenya, Uganda, and Rwanda, post-Communist states such as Ukraine, Moldova, and Georgia, and countries further afield including Thailand, Indonesia, and even North Korea. Indicatively, there have been no participants from Iran. Of the participants, 82% were between 21-40 years old, reflecting an important focus on junior and mid-career training that can help establish improved practices for the routine function of the bank, while also empowering the next generation of banking leadership. A total of 216 financial institutions, of which 131 were commercial banks, were included in the program. The remaining institutions included central banks, finance ministries, pension authorities, and insurance companies.

An extensive evaluation of the KPMG program, published by SIDA in 2014, looked at the efficacy of the initiative over the previous decade, and made three key observations: the transfer of skills was broadly achieved, new technical skills were adopted in financial institutions, and finally, elements of the training were largely sustained in subsequent years. The SIDA evaluation also found that the effort, though delivered in partnership with a private company, was broadly consistent with the international development commitments of the Swedish government. While the KPMG example is among the largest and most successful in Europe, similar development programs exist in other European countries and could be extended to Iran.

With the big four advisory firms hovering and with European governments keen to support Iran’s re-entry into international markets, it would be relatively easy to coordinate the key stakeholders to make a training program similar to KPMG Sweden’s ITP available to Iranian participants. Moreover, by funding such initiatives, major European corporations and banks could address thorny reputational concerns. These companies could demonstrate their strong commitment to establishing relations with their Iranian counterparts, while simultaneously indicating that it is of the utmost importance for the Iranian financial sector to upgrade its standards. In an ideal world, even American banks and regulatory bodies could play a role in supporting capacity-building, particularly as US sanctions provide clear provisions for education and training initiatives. However, due to President Trump's brash and ill-advised executive order, the prospects of any such training remain limited.

It is clear that full banking relations between Iranian and European banks will take time to re-institute. Rather than simply wishing for change, capacity-building programs are the vital next step. There is plenty that Iran's banking sector can learn while it awaits the rightful opportunity to fully participate in the global financial marketplace. 

Photo Credit: President.ir