Washington’s Dangerous New Consensus on China
Don’t Start Another Cold War
A year ago this week, the administration of U.S. President Donald Trump kicked off what it called a “maximum pressure” campaign against Iran. The United States had withdrawn from the Iran nuclear deal in May 2018. In November, it reimposed a raft of economic sanctions squeezing Iranian oil exports and curtailing the country’s access to the international financial system. Some analysts predicted that Iran’s friends in Europe and Asia would defy the United States to lend Iran economic help. Others reckoned that the sanctions would send Iran’s economy into a “death spiral,” leaving Tehran the choice to either surrender or collapse. Neither of these predictions came to pass.
Rather, Iran now enters its second year under maximum pressure strikingly confident in its economic stability and regional position. Supreme Leader Ali Khamenei and other hard-liners are therefore likely to continue on their current course: Iran will go on tormenting the oil market while bolstering its non-oil economy—and it will continue expanding its nuclear program while refusing to talk with Washington.
Even after the United States withdrew from the nuclear deal, Iran expected that other parties to the agreement would help shore up its economy. After all, the deal’s signatories had committed to sustaining Iranian oil exports. Owing to U.S. pressure, however, this support never materialized. Europe did help devise a financial mechanism that would bypass U.S. sanctions, but the mechanism will only handle humanitarian trade. Ultimately, European governments could do only so much to support trade with Iran, because they could not force private companies to defy U.S. sanctions.
Nor did other friendly governments—China, Russia, and India—pick up the slack. These countries all have higher priorities that they don’t wish to jeopardize in their relations with the United States. For China, trade negotiations and the broader strategic relationship take top billing. Russia wants to avoid giving Congress another reason to pursue sanctions against the Kremlin. And India is keen to deepen defense ties with Washington, taking advantage of the U.S. break with Pakistan.
China, India, and Russia face little pressure from the oil market to go out on a limb for Iran. Global demand is slowing, supply is abundant, and prices are low—so why should these countries risk U.S. sanctions to buy Iranian oil? China is Iran’s biggest oil customer, but its purchases are relatively small. Since sanctions hit, Beijing has turned to Saudi Arabia to meet much of its oil needs. India, too, has plenty of sources for cheap crude that don’t carry the risk of sanctions. Russia has little incentive to help a fellow oil exporter, given that it is working closely with OPEC to reduce the volume of crude oil on the market today.
Iran has suffered a severe shock from its international economic isolation. The country’s oil exports plummeted from 2.4 million barrels per day in April 2018 to fewer than 500,000 in September 2019. The economy entered a recession, inflation soared, and the currency lost 60 percent of its value against the dollar. The Trump administration touts these statistics as evidence of the sanctions’ success. But other signs show that Iran’s economy is stabilizing.
The International Monetary Fund and World Bank predict that Iran’s economy will rebound from a recession to near zero percent growth in 2020. The IMF further forecasts that Iran’s inflation will fall from 35.7 percent in 2019 to 31 percent in 2020. Iran’s wildly fluctuating currency, the rial, has stabilized between 115,000 and 120,000 to the dollar, restoring some much-needed calm to daily transactions. Labor-force participation and employment continue to rise. Iran’s economy will be a shell of its former self—its GDP in 2020 will be about the same as in 2015—but it will be stable, and the country’s leadership will likely conclude that Iran can withstand U.S. pressure for the next year.
Iran’s economy will be a shell of its former self, but it will be stable.
The Iranian economy stays afloat in part because it is diversified—a trait that Washington often overlooks. In 2017, crude oil accounted for only 43 percent of Iranian exports—as compared with 78 percent in Saudi Arabia, for example. For this reason, Iran’s service, agricultural, and non-oil industrial sectors were able to cushion the blow from the collapse of oil revenues under sanctions. The non-oil sectors generate most of Iran’s economic output and jobs. They have proven more resilient under U.S. sanctions than the energy sector, which relies heavily on access to the global market.
Iran’s economy is not entirely out of the woods. Unemployment remains a persistent problem, the banking system is chronically weak and undercapitalized, and the private sector is anemic. But looking out over the next year, the situation does not appear to be dire, and the country’s leaders are taking proactive steps. According to official news sources, the government plans to underwrite its operating budget without oil revenue. It can draw upon its $100 billion of reserves to cover any gaps and to ensure the continued strong social spending that Iranians expect. While these measures are not indefinitely sustainable, they will shore up Iran’s economic stability over the next year.
Among the objectives of the maximum pressure campaign was to raise the cost of Iran’s regional adventures. But Iran now seems likely to spend its second year under U.S. sanctions buttressing an already strong regional position.
Over the past month, the Trump administration hastily retreated from its Kurdish allies in Syria and from its commitment to energy security, leaving a vacuum that Iran is well situated to fill. Moreover, the U.S. administration has repeatedly signaled that it will not act militarily in response to even the most provocative Iranian behavior: Trump did not respond aggressively to the downing of a U.S. drone, the assaults on six commercial vessels in the Persian Gulf, the seizure of an oil tanker, or the September 14 strikes that knocked half of Saudi oil production offline. The Trump administration insists that it is not abandoning its regional partners. Indeed, the U.S. military has sent 14,000 additional soldiers to the Middle East since May. But for Iran, Saudi Arabia, Israel, and the United Arab Emirates, the message is clear: Trump may be bulking up defenses, but he doesn’t have the stomach for a fight.
Instead of collapsing, Tehran will continue its provocative behavior.
Iran has an extraordinary opportunity to press its advantage with little military or diplomatic opposition. Tehran will exploit this opening by escalating its efforts to disrupt the oil trade and by taking provocative steps in nuclear production, such as expanding its supply of advanced centrifuges and enriched uranium. Iran will almost certainly continue to interfere in the internal affairs of neighboring countries, especially Iraq, where Iranian-backed forces are even now killing protesters and seeking political influence. Tehran has wielded significant influence in Iraq for years, but the U.S. administration’s disengagement has dispelled any qualms about taking a direct role.
Neither the Islamic Republic nor its regional activities have suffered a deathblow from the return of sanctions. But diplomacy involving the United States and Iran may have taken a fatal hit. Third parties will persist in trying to bring Washington and Tehran back to the table—but they will likely fail. Khamenei likely views Iran’s domestic and regional situation as stable, and so he will feel no need to allow high-level meetings between Iranian officials and a U.S. administration perceived as hostile—especially during an election year in the United States. Instead of diplomacy—and instead of collapsing—Tehran will continue its provocative behavior. The second year of maximum pressure may be more tumultuous than the first.
Tehran’s Foreign-Policy Makers Act as One