Europe’s trade with Iran is worth saving

Bloomberg | Esfandyar Batmanghelidj: Can trade between Europe and Iran be saved? French President Emmanuel Macron’s $17 billion Hail Mary pass came up short. Instex, the so-called “special purpose vehicle” to evade American sanctions, is stuck in the doldrums. Most European companies are steering clear of business with Iran. European imports of Iranian oil have dropped to zero.

As the Trump administration’s “maximum pressure” sanctions campaign rolls on, it might seem like Europe not only lacks the means to defend its trade with the Islamic Republic, but also that there’s little left to defend.

But a closer look at the trade data tells a different story. European technology is deeply embedded in Iran’s economy, particularly in the country’s large industrial sector, which employs around one in every three Iranian workers. (By comparison, the oil sector employs around one in every 200.) The export of European parts, machinery, and transport equipment—captured under Chapter 7 of the Standard International Trade Classification system—is arguably a more important indicator of Europe-Iran trade relations than Europe’s purchases of Iranian oil.

The value of European SITC 7 exports to Iran has halved since the Trump administration reimposed secondary sanctions in November 2018. Looking to European Union totals, the average monthly export value was $970 million in the 12 months prior to the reimposition of sanctions, falling to an average of $433 million in the subsequent 10 months for which data is available. Iran’s industrial sector is largely dominated by state-owned enterprises, most of which are included in the U.S. Treasury Department’s sanctions list and therefore off limits for European firms that want to maintain commercial links with the U.S.

But even with these significant barriers, Europe continues to export billions of dollars of parts, machinery, and transport equipment to Iran. Exports to private companies are not proscribed under U.S. sanctions where sector-wide sanctions, such as those on Iran’s energy sector, are not in place. This means that so long as European firms are able to find a bank willing to accept payment for exports—an increasingly difficult task—trade can take place.

This trade is worth defending and European officials should not be disheartened by their recent struggles to sustain bilateral trade in the face of American sanctions. The persistence of this trade also makes clear that Iran, cannot simply give up on Europe, despite the political rhetoric of Supreme Leader Ali Khamenei.

There is a common misconception that the multilateral sanctions campaign which ran from March 2008 to January 2016, and which included EU sanctions, forced Iran to turn away Europe in favor China. While Iran’s trade with China grew considerably in this period—Chinese exports of parts, machinery, and transport equipment grew from $2.9 billion in 2007 to $7.8 billion in 2015—similar growth can be seen in most industrializing countries of the world. After all, the sanctions period corresponded with the emergence of China as a major exporter of high-value manufactured goods.

However, European exports to Iran rebounded immediately after sanctions were lifted. The relative proportion of Chinese-to-European exports in the SITC 7 category fell from 2.58 in 2015 to 1.13 last year. Despite China’s newfound dominance, Europe was able to win back much of its share of Iran’s imports of parts, machinery, and transport equipment.

Why? Because of a kind of path dependency. When Iranian industry went through its last major phase of modernization, in the early 2000s, European firms took the lead in establishing factories and transferring technology. French engineers got Iran’s automotive sector in gear, German engineers got locomotive manufacturing on track, and Italian engineers got the food industry cooking.

To keep those assembly lines running, Iran needs European inputs. Even if Chinese firms have become major suppliers, they have not yet been able to wean Iranian industry away from dependency on Europe. In large part, this is because the previous round of sanctions was at its peak intensity for only 20 months—from January 2012 to November 2013, when the nuclear negotiations resulted in some initial sanctions relief, including the suspension of sanctions on the automotive sector.

As a result, Iran’s industrial sector has never felt it had to fully eliminate its reliance on European parts and technology. It takes years to set up factories and supply chains; it will take years for sanctions to undo the path dependencies established through historical trade ties.

Even if the overall value of European trade with Iran has fallen in both absolute and relative terms, Europe retains a crucial and assured role in the future of the Iranian economy. Iranian politicians—however disappointed with European efforts to withstand U.S. sanctions—cannot simply cast aside relations with the West. This gives Europe unique leverage.

As Iran announces further reductions of its commitments under the nuclear deal, some in Europe will call for the reimposition of EU sanctions, which would devastate industrial trade with Iran. Iranian authorities no longer believe that the U.S. can impose meaningful economic pressure on Iran—but Europe can.

This makes Europe a more consequential party to any negotiations than is widely appreciated. Whereas the U.S. reimposed sanctions and then sought talks, Europe ought to take a different approach. Rather than making the future of the nuclear deal beholden to a $17 billion credit line or the innovations of Instex, Europe should put its regular trade with Iran at the center of its diplomacy. The practical need for parts, machinery, and transport equipment can inspire pragmatism at a time of rising tensions.

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.