Sanctions leave Iran with difficult choices

Tighter sanctions will push the Iranian government to make some tough decisions. The Islamic republic can find ways to deal with the pressures that the next round of sanctions will bring, but probably not without political fallout.

A quarter of the country’s crude exports currently go to Europe, which has agreed in principle to a ban on further imports. And a move by the US to cut off financial institutions that deal with Iran’s central bank will improve the pricing power of customers still willing to buy or barter, says Una Galani, a Reuters Breakingviews columnist.  

Even if the new sanctions are not watertight, they will cut into oil revenue and increase the cost of imports. The government, which gets around 60 percent of its revenue from oil, will be squeezed.

All this will hit an economy that has been stifled by years of mismanagement. High oil prices have provided something of a financial cushion. The International Monetary Fund thinks Iran’s foreign currency reserves are worth $105 billion, enough to pay for 13 months of imports.

Hossein Askari of George Washington University thinks the sum is lower, perhaps just $60 billion.      

These funds could evaporate quickly if the government continues to defend the rial. The currency has been under strain since a cut in interest rates last April. The government is now clamping down on unofficial money traders, but the gap between the official and open market dollar exchange rates is still at least 30 percent.      

For President Mahmoud Ahmadinejad, there are no easy options. Either drawing down reserves or allowing a large devaluation will expose him to criticism from political opponents, who have tried to impeach him. An increase in interest rates -- still well below the official headline inflation rate of almost 20 percent -- would hurt the poor who helped bring Ahmadinejad to power.

Unofficial inflation is thought to be much higher. There are parliamentary elections in March and a presidential election in 2013.

Up to now, sanctions have only intensified anti-Western feelings in Iran. A step-up in economic hardship could change internal sentiment towards the country’s leadership. Any compromise on nuclear plans by Ahmadinejad would probably do the same.(Reuters)