New special purpose vehicle: Countering US-Iran sanctions with INSTEX?

The Iran nuclear agreement, known as the Joint Comprehensive Plan of Action, has been in jeopardy since at least May 2018 when President Trump announced that the US would withdraw from the deal. Since then there have been calls in Europe for a special purpose vehicle to be set up to continue to ensure export trade outside the US banking system. On 5 November 2018, the US sanctions against Iran came back into full force (see our article) – however, the special purpose vehicle took some time (see our article). But the wait is now over.

INSTEX launched

The new special purpose vehicle is called INSTEX (short for Instrument in Support of Trade Exchange) and is being financed by France, Germany and the UK – which are all parties to the JCPOA. The E3 trio, as it is known, is also reflected in the internal structure of INSTEX: it is based in Paris, managed by a German, and has a Briton as chair of the supervisory board. Other countries will be able to join INSTEX in future.

Although this is not an EU project, it is certainly an initiative coordinated with all EU Member States. Thus at the meeting of EU foreign ministers in Bucharest on 31 January 2019, the EU’s High Representative for Foreign Affairs and Security Policy, Federica Mogherini, welcomed the foundation of INSTEX. Ultimately, all EU Member States are pursuing the same goal: to maintain the JCPOA, especially since Iranian statements of displeasure had recently increased.

Barter clearing – Initially limited

From the outset the plan was to enable trade with Iran without involvement of the US financial market infrastructure, which e.g. would have to be used if there were any US dollar transactions, and without the risk of sanctions against European or other banks. To this end, there is to be an exchange of goods between Iranian and non-Iranian companies without any direct financial transactions. Therefore INSTEX will act as a barter clearing house. This means, for example, that an Iranian company delivers a product to Germany while a German company delivers another product to Iran, and neither the Iranian nor the German side makes payments to the other – instead, INSTEX nets the receivables due to both companies with each other. When exactly INSTEX will come into operation and how the clearing will be handled from a technical perspective is not yet known.

However, as the E3 foreign ministers stated, trade by non-Iranian companies will initially be limited to products for humanitarian aid, medicines and medical devices as well as agricultural goods. These are all likely to be goods not covered by the US secondary sanctions (see our news articles on 7 August 2018 and on 5 November 2018). The trade handled via INSTEX is to be extended to other goods at a later date.

What is the benefit to Iran? And how will the US react?

Too little, too late? It could be seen like that, at least if INSTEX needs too much time for the transition to unrestricted trade. Given the increasingly vocal opponents of the JCPOA in Iran, it might then be too late. On the other hand, the export of medicines and medical devices from Europe in 2017, in other words before the full revival of the US-Iran sanctions, was worth the remarkable sum of nearly €800 million. Also, the time of transition to unrestricted trade could help market players (primarily SMEs) build confidence, and in this phase INSTEX can also prove and improve its functionality.

Overall, fears predominate in the market that INSTEX will fail to have the desired effect. Firstly because INSTEX or the countries behind it may not be able to politically withstand American pressure. Secondly because the banks and companies’ fears of the economic consequences of US sanctions directed at them are too great.

The US has already announced it does not intend to deviate from its ‘policy of maximum pressure.’ However, last Tuesday the head of the US security services made it clear to Congress that Iran has complied comprehensively with the requirements of the JCPOA. It is currently unlikely that this will led to a change in the US President’s Iran policy, especially after his recent tweets.

Any sanctioning of INSTEX, which is conceivable, would no doubt drive transatlantic relations to a new low. But at least in the transitional phase, that does not seem very likely.

Outlook

Companies that want to do business with Iranian partners and face financing problems due to potential sanction risks should consider INSTEX. It is likely that the founder countries will soon extend the trading transactions carried out via INSTEX to other goods and finally to the trading of all goods tradable under EU law. That is the only way to achieve the political goals pursued using INSTEX. There is still hope that by then the political and diplomatic course will have been set in such a way as to avoid escalation, whether in relation to the US or to Iran.