Iran: The economy will suffer following the US withdrawal from the JCPOA but less than in 2012-2015

What does the US withdrawal mean for trade with Iran?

On 8 May 2018, the US withdrew from the Joint Comprehensive Plan of Action (JCPOA), known commonly as the Iran nuclear deal, an agreement reached between Iran, the P5+1 (China, France, Russia, UK, US plus Germany) and the EU that has put curbs on Iran’s nuclear program in exchange for sanctions relief, effective since January 2016. The US withdrawal implies the re-imposition of the pre-2016 US sanctions on Iran, including the secondary sanctions affecting non-US companies, within 90-180 days. In the US, big conglomerates such as Honeywell, Dover and GE are already shutting down their Iran business.

The other JCPOA signatories are opposed to the US decision and remain supportive of the deal. The EU is likely to resist imposing new sanctions, but EU-based companies will become more risk-averse to doing business with Iran in order to avoid US secondary sanctions . European companies that have already suspended or pulled out of operations in Iran include Total, PSA, Maersk and Danieli. China and Russia will not impose new sanctions on Iran, in particular as tensions between these two and the US are currently high over other conflicts (protectionism, Syria). China in particular already has some experience in doing business with Iran outside the reach of US sanctions, meaning that the two countries are likely to maintain economic ties. In Iran, authorities will attempt to protect the economy. We expect them to continue to initially comply with the JCPOA and see whether the non-US signatories uphold the deal.

Economic impact on Iran

Under the above assumptions, the impact of re-imposed sanctions on the Iranian economy will be significant, including currency depreciation, higher inflation, reduced oil output, and slower growth. However, the economic impact in 2018-2019 should be less dramatic than in 2011-2015, since the US this time does not have a broad-based support from other countries.

Pressure on the rial has already increased after the US withdrawal and the Central Bank may devalue the currency by up to -50% over the next 12 months, and perhaps re-introduce the dual exchange rate regime, which it had just abolished in April. The likely currency depreciation/devaluation will fuel CPI inflation, which could rise from currently around 10% up to an average of 25% in the next 12 months.

Iran’s oil output rose from 3.4mn bbl/day in 2015 to 4.7mn bbl/day in 2017, following the JCPOA. Going forward, countries with firms having strong business links with the US will have to reduce their oil imports from Iran. However, China, Turkey, India and many smaller countries are unlikely to follow this path. Overall, we forecast that Iran’s oil output will fall back to around 4.5mn bbl/day in 2018 and 4mn bbl/day in 2019, i.e. less sharply than in 2012-2015.

The US move also threatens Iran’s economic recovery. We forecast real GDP growth to slow down from an estimated +3.5% in fiscal year (FY) 2017/18 to +3% in FY 2018/19 and +2% in FY 2019/20 (instead of rising to +4% in both fiscal years in the absence of re-imposed or new US sanctions).

Impact on Iran’s trade partners

To analyze the export losses for countries having some exposure to Iran we assume a size of the shock being equal to 50% of the fluctuations registered in nominal trade following the 2011-2012 first round of sanctions. The 50% discount factor could be justified by the fact that trade relations have been only partially restored since the signature of the JCPOA as well as the assumption that China and Russia will not comply on a broad scale with any re-imposed US sanctions.

The UAE is the most heavily exposed to export losses as Dubai is traditionally used as a re-export hub towards Iran. China, despite being the most important trade partner of Iran, would be slightly impacted as this country is unlikely to significantly alter its trade relation with Iran post renewal of sanctions. Germany could register USD1bn of export losses between 2018 and 2019, while France’s losses could amount to almost USD300mn (see Chart 1).