New Iran Sanctions, And Fears They Could Backfire

Dec 15, 2011
Originally published on December 15, 2011 7:40 pm

The U.S. Congress has approved legislation that targets the Central Bank of Iran and is intended to make it more difficult for that country to sell its oil abroad.

But the latest sanctions could backfire. Reduced oil supplies on the world market could mean higher prices, and therefore Iran could actually make more money from its oil even if it sells fewer barrels.

The Obama administration had been opposing the legislation on these grounds, though on Thursday it appeared the president would support the measure after minor changes were made at the last minute. State Department spokeswoman Victoria Nuland said that U.S. officials were looking at how to implement the sanction in way that "maximizes the pressure on Iran while causing minimum disruption for friends and allies of the U.S."

The legislation as approved allows some exceptions and permits the White House to waive provisions in the interest of national security.

The new sanction punishes foreign firms that buy Iran's oil through that country's Central Bank. Because of concerns that Iran uses its oil money to finance a nuclear program, the measure had overwhelming support in Congress.

Whether the sanction works depends on how the oil market reacts.

"There is absolutely a risk that in fact the price of oil would go up, which would mean that Iran would in fact have more money to fuel its nuclear ambitions, not less," Wendy Sherman, a State Department undersecretary, testified before a Senate committee earlier this month.

Calibrating World Supply And Demand

That's because Iran's income depends not only on how much oil it sells, but also at what price. In the last two years, its production has gone down due to a lack of investment. But because oil prices are up, it's actually making more money from oil than ever before.

"Iran has done very well out of these high oil prices," notes Daniel Yergin, chairman of IHS Cambridge Energy Research Associates and the author of The Quest, a new book on the energy economy.

"Despite the other sanctions there, the economy continues to function, and they have more money coming into the economy, which gives them more elbow room," Yergin says.

Advocates of the new sanction say they believe other countries will boost their output to make up for reduced Iranian exports. The oil price in that case would not increase.

But do those countries have the capacity to produce enough extra to offset the lost Iranian oil? Yergin isn't sure.

"There is some capacity to make up for it, but not a lot of capacity," he says.

Saudi Arabia's Role

Most of the extra oil would have to come from Saudi Arabia. But at this week's OPEC meeting in Vienna, the Iranian oil minister claimed the Saudis told him they would not boost production to make up for any decreased Iranian exports resulting from sanctions.

The Saudis themselves wouldn't comment.

At the last OPEC meeting, in June, the Saudi and Iranian delegates quarreled. But Jason Schenker of Prestige Economics, who was in Vienna this week, says that judging by the way the Saudi oil minister emerged from the meeting, there was apparently less tension this time.

"Someone said to the minister, 'What do you think? How was it? How did it go? Did it work out?' And he waved his arms big and open and said, 'Hey, I'm smiling," Schenker says.

If the Saudis do not increase oil production and if the new sanction means the Iranians are not able to sell all that they produce, the supply and demand mismatch would presumably drive up the oil price. Iran in that case could indeed benefit, just as the Obama adminstration fears.

A Treasury Department official, responding to congressional approval of the Iran sanction provision, says the administration nevertheless shares the goal of applying pressure on Iran, "including by action against the Central Bank of Iran, and we will use all the tools at our disposal to do so."

The challenge of calculating how to reduce Iranian oil revenue without disrupting the global oil market has led some analysts to propose a fine tuning of the sanctions effort to target Iran's oil sector more precisely. One idea is to force Iran to accept a discounted price for its oil.

Who Will Buy Iranian Oil?

If European countries, for example, agree not to buy Iran's oil, but China and India boost their own Iranian oil purchases by an equal amount, the global oil market should be unaffected.

"It doesn't mean no one is going to buy [Iranian oil]," says Schenker. "It just means different people will buy it. Don't worry, those little piggies will get to market." With fewer customers, however, Iran could be forced to accept a lower price for its oil and thus would receive less revenue.

A similar result could be obtained if the European Union were to impose a tariff on Iranian oil imports, as some have proposed. In order to preserve its market share in Europe, Iran would have to lower prices by an amount corresponding to the tariff. Other countries in that case would demand the same discounted price from Iran.

Of course, there is another scenario under which Iranian sanctions would be effective. The global economy could go into recession, with the demand for oil diminishing as a result. In that case, Iranian oil revenues could suffer, either from lower global oil prices or from a decrease in exports.

But everyone else would be hurting as well.

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Transcript

MELISSA BLOCK, HOST:

Neighboring Iran could face tough new sanctions as a result of legislation passed today by the U.S. Congress. The bill targets the central bank of Iran and is meant to make it harder for the country to sell its oil. The Obama administration opposed the measure, saying it could backfire, that Iran could actually make more money from its oil, not less. NPR's Tom Gjelten explains how that might or might not happen.

TOM GJELTEN, BYLINE: The new sanction punishes foreign firms that buy Iran's oil through that country's central bank. Because of concerns that Iran uses its oil money to finance a nuclear program, the measure had overwhelming support in Congress. In fact, there are exceptions to the rule, and the White House could waive its provisions in the interest of national security. But even with those tweaks, the Obama administration was cool to the measure. Because whether this sanction works depends on how the oil market reacts. State Department Undersecretary Wendy Sherman testified before a Senate committee earlier this month.

WENDY SHERMAN: There is absolutely a risk that in fact the price of oil would go up, which would mean that Iran would in fact have more money to fuel its nuclear ambitions, not less.

GJELTEN: Here's the issue: Iran's income depends not only on how much oil it sells but at what price. In the last two years, its oil production has gone down due to a lack of investment. But because oil prices are up, it's actually making more money from oil than ever before.

DANIEL YERGIN: Iran has done very well out of these high oil prices.

GJELTEN: Daniel Yergin is chairman of IHS Cambridge Energy Research Associates and the author of a new book on the energy economy, titled "The Quest."

YERGIN: Despite the other sanctions there, the economy continues to function, and they have more money coming into the economy, which gives them more elbow room.

GJELTEN: This is what complicates the Iran oil sanction effort: If the result is that Iran sells a little less oil, other countries would have to sell a little more; otherwise, there will be less oil supply on the global market. If the demand for oil stays the same and the supply goes down, the price of oil would increase. In that case, Iran could actually end up with more oil income, even while selling fewer barrels.

Advocates of the new Iran sanctions say that should not happen. They think other countries will boost their output to make up for reduced Iranian exports. The oil price in that case would not increase. But do those countries have the capacity to produce enough extra to offset the lost Iranian oil? Daniel Yergin isn't sure.

YERGIN: There is some capacity to make up for it but not a lot of capacity.

GJELTEN: Most of the extra oil would have to come from Saudi Arabia. But at this week's OPEC meeting in Vienna, the Iranian oil minister claimed the Saudis told him they would not boost production to make up for any decreased Iranian exports resulting from sanctions. The Saudis themselves would not comment. At the last OPEC meeting in June, the Saudi and Iranian delegates quarreled. But Jason Schenker of Prestige Economics was in Vienna this week, and he says that judging by the way the Saudi oil minister emerged from the meeting, there was apparently less Saudi-Iranian tension this time.

JASON SCHENKER: Someone said to the minister: What do you think? How was it? How did it go? Did it work out? And he waved his arms big and open, and he said: Hey. I'm smiling.

GJELTEN: If the Saudis do not increase oil production and if the new sanctions mean the Iranians are not able to sell all that they produce, the supply and demand mismatch would presumably drive the oil price up. Iran in that case would indeed benefit, just as the Obama administration fears. Of course, there's another possibility: The global economy goes into recession, and the demand for oil goes down. In that case, sanctions on Iranian oil sales would hurt the Iranian economy, but everyone else would be hurting as well. Tom Gjelten, NPR News, Washington. Transcript provided by NPR, Copyright NPR.