New Sanctions on Iran and Neo-Big Stick Diplomacy

by Erich C. Ferrari and Samuel Cutler

Contained in the Defense Authorization Act (NDAA) of 2013, and signed into law by President Obama on January 2, are sweeping new sanctions targeting Iran over its disputed nuclear program. The new measures target foreign entities engaging in a wide array of transactions with Iran, including the sale of any goods supporting Iran’s energy, shipping and shipbuilding sectors, the sale of raw materials such as aluminum, steel, and coal, the provision of insurance, or underwriting services in support of any activity for which Iran has been subjected to US sanctions.

Lawmakers quoted by the Wall Street Journal said that the new sanctions move closer to a complete trade embargo on Iran. Importantly, the US currently maintains a complete trade embargo, with exceptions for humanitarian exports and a positive licensing program for divestment activities and certain academic and cultural exchanges with Iran. The new sanctions will therefore have little impact on the legality of US companies still engaging in licensed trade with Iran. Any new steps that restrict Iran’s ability to buy or sell goods and services would need to be enforced through the threat of US secondary sanctions.

Secondary sanctions, known pejoratively as extraterritorial sanctions, are designed to prevent foreign individuals and entities from conducting activities that US primary sanctions seek to prohibit by imposing various penalties, including revoking access to the US market. They have been increasingly used over the past 3 years by the United States to pressure foreign countries and entities into curtailing their business dealings with Iran. Beginning with the Iran Sanctions Act of 1996 and gaining wide spread notoriety with the Comprehensive Iran Sanctions Accountability and Divestment Act of 2010 (CISADA), the US government maintains the authority to impose secondary sanctions on a wide variety of activity involving Iran, including but not limited to the importation of Iranian crude oil, dealings with entities sanctioned under Weapons of Mass Destruction (WMD) or Terrorism-related programs and the export to Iran of refined petroleum products.

By and large, these measures have been extremely effective at cutting Iran off from large swaths of the global economy. Sanctions on Iranian financial institutions have been particularly effective as most foreign banks are loathe to risk their access to the all-important American financial system and have responded by cutting off all ties with Iran.

The effectiveness of secondary sanctions is largely dependent on buy-in from the rest of the world. Following the passage of new sanctions included in the 2012 NDAA, Iranian oil exports have dropped to under 1 million barrels per day. A number of factors contributed to the sanctions’ success. For example, international concern over the continued development of Iranian enrichment capabilities convinced some states that additional economic leverage was needed to pressure Iran to resume negotiations. While the NDAA directed countries to “significantly reduce” their purchases of Iranian oil, the European Union announced its intention to institute a full oil embargo just 3 weeks after the act’s passage.

This does not mean that all of Iran’s trading partners would have acted in the same manner without the existence of sanctions. An increase in the global supply of crude oil due to greater production levels in Saudi Arabia, Iraq, and Libya coupled with lower demand as result of the global economic slowdown has allowed Iran’s customers to reduce their purchases without dramatically increasing the price of crude. Waivers included in the law have also allowed importers of Iranian oil to gradually reduce their purchases so as not decrease the associated economic costs. So, despite repeated denunciations of US unilateral sanctions in public, China has quietly reduced its purchases of Iranian oil, as have Iran’s other East Asian customers. By complementing new sanctions with robust diplomatic engagement and managing the economic costs of compliance, the United States has been able to ensure fairly broad acceptance of its efforts to economically isolate Iran.

Indeed, secondary sanctions targeting Iran have faced roadblocks in the past when a consensus regarding their utility was lacking. In 1996, Congress passed the Iran and Libya Sanctions Act, which was renamed the Iran Sanctions Act (ISA) in 2006 following Libya’s decision to give up its WMDs. The bill directed the President to sanction foreign companies that provided investments of over $40 million towards the development of petroleum resources in Iran. The EU responded by threatening to file a World Trade Organization complaint against the US due to French petroleum giant Total SA’s involvement in a $2 billion deal to develop Iran’s South Pars gas field. President Bill Clinton was forced to issue a waiver for the project in 1998 and Secretary of State Madeline Albright later promised that similar projects would not be sanctioned. It would be another 12 years before any entity was subjected to ISA sanctions.

The reality is that the Executive’s use of secondary boycotting measures has been fairly limited. For example, only two banks have lost their ability to maintain correspondent banking relationships with the US because of the Iranian Financial Sanctions Regulations mandated by CISADA: Elaf Islamic Bank and Kunlun Bank. Moreover, the Executive branch, not Congress, is tasked with the implementation of the secondary boycotting measures. In other words, while Congress can continue to provide tools for the Executive to impose additional sanctions, the actual implementation is left to the President.

Yet the impact of numerous rounds of congressionally mandated secondary sanctions is greater than the sum of its prohibitions. Due to the confusing and oftentimes overlapping nature of different US sanctions programs, the international business community has in large part withdrawn from the Iranian market in fear of running afoul of US law. Sanctions on Iranian financial institutions have been particularly effective, as the mere existence of CISADA-authorities have convinced most foreign financial institutions to cut off all ties with Iran.

In practice, secondary sanctions are the equivalent of speaking softly, but carrying a big stick. However, the US has departed from the diplomatic strategy of Theodore Roosevelt. Indeed, the latest round of secondary sanctions are a form of neo-big stick diplomacy; the US is now speaking loudly and carrying a big stick.

– Samuel Cutler is a policy adviser at Ferrari & Associates, P.C. and Erich Ferrari is the principal of Ferrari & Associates, P.C., a Washington, DC boutique law firm specializing in US economic sanctions matters.

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