How Badly Would Sanctions on Gas Imports Hurt Iran?

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Melik Baghdasarian / Photolure / Reuters

A new gas pipeline is seen near the Armenian settlement of Agarak, near the Armenia-Iran border, on March 19, 2007

Could the U.S. block sales of refined gasoline to Iran as a way of ratcheting up pressure on Mahmoud Ahmadinejad and the Iranian regime? That's a prospect U.S. politicians have talked up for months. But as the U.S., Britain, France, Germany, Russia and China prepare for crucial talks with Iran in Geneva on Oct. 1, there's a growing realization that the strategy might not work. "The hype around blocking gas is hugely overdone," says Richard Dalton, who was British ambassador to Iran until 2006 and is now an associate fellow at the London think tank Chatham House. "People use this term Achilles' heel, but it has got very little substance to it."

The idea of blocking refined gas to Iran was raised several times during last year's U.S. presidential campaign. Barack Obama described the plan in a debate with John McCain as "putting the squeeze" on Ahmadinejad. In April the U.S. Senate introduced the bipartisan Iran Refined Petroleum Sanctions Act, which would expand sanctions imposed by Bill Clinton in 1996 and give the White House the authority to sanction companies that export gas to Iran. Senator Joe Lieberman told reporters at the time that the law would "target Iran's Achilles' economic heel, which is its dependence on imports of petroleum ... most notably gasoline."

Iran sits atop mammoth energy reserves —about 136 billion bbl. of oil and some 14 trillion cu m of natural gas. But because its refineries are too few and too old, the country refines just two-thirds of the gas it needs to keep its economy working and its 65 million people lit, driving and heated. The remaining third — about 120,000 bbl. a day — has to be imported.

Blocking one-third of Iran's gasoline supplies might seem relatively simple. The country's imports come from a fairly small number of firms, including Swiss-Dutch companies Vitol and Trafigura and India's Reliance Industries. New U.S. sanctions would force those companies to choose between doing business in the U.S. or doing business with Iran — a no-brainer for most firms. "They have bigger fish to fry [than Iran]," says Mark Fitzpatrick, a former State Department official and now director of Nuclear Nonproliferation at the International Institute for Strategic Studies in London. "They all have bigger markets elsewhere, including in the U.S." Indeed, even talk of a refined-petroleum blockade convinced British Petroleum to halt its exports to Iran last year. Oil analysts believe Reliance has suspended sales to Iran too.

But that early talk gave Iran time to prepare for new sanctions. Earlier this year, it began importing far more than it was using. Intelligence consultancy Stratfor noted last week that Iran has probably stockpiled at least three months' worth of gasoline. The National Iranian Oil Refining and Distribution Co. estimates that the country has some 15.7 million bbl. of gasoline — about four months' worth — stockpiled in tankers on land and off its Persian Gulf coast. After BP and Reliance halted exports to Iran, Chinese state-owned oil companies filled the gap, supplying about one-third of Iran's gasoline imports as of last month, according to the Financial Times. Lawrence Eagles, head of commodities research at JPMorgan, told the paper last week that Iran was importing 30,000 bbl. to 40,000 bbl. a day from Chinese companies. And Malaysia's state-owned oil company Petronas delivered three shipments of gas to Iran last month, each containing about 93,000 bbl., according to Stratfor.

It is far from certain that Chinese and Malaysian companies would bend to the same pressures that Western firms have to stop exports to Iran. Even if they do, Iran has other options. For one thing, gas-guzzling Iran could cut its consumption. As any visitor can testify, driving across Tehran can take hours in clogged traffic, which barely eases up at night. That's because Iran's regime, keen to keep voters happy, heavily subsidizes gas. Iranians are entitled to 26 gal. (100 L) of fuel a month at 38 cents per gal. (about 10 cents per L) — a tiny fraction of what it costs in the U.S. or Europe. If the U.S. blocked imports of refined gas, Tehran could simply ease its subsidies while pointing to Washington as the cause of the pain. As Iranian ire and the price of a tank of gas rose, demand would dip.

And then there's smuggling. Ahmadinejad could — perhaps easily — boost his gas supplies by cracking down on rampant smuggling. About 10.6 million gal. (40 million L) of gas are smuggled out of the country daily to neighboring countries like Azerbaijan, Afghanistan and Turkey, where it is sold at higher prices, according to Iranian officials. "In some border regions, smugglers are using underground pipelines up to the frontiers," the ministry's director of economic affairs, Mohammed Reza Farzin, told an Iranian newspaper last week, explaining the difficulties of stopping the smuggling networks.

Tehran could use all these stopgap methods to buy time — which is all it really needs to do. Chinese firms and, until recently, India's Reliance, have been working on massive upgrades of the country's refineries. "If Iran can maintain its refinery upgrades, they'll be self-sufficient in gas by 2013," says Dalton.

U.S. officials believe going after oil imports may still be worth it. Rather than passing laws or attempting to push new sanctions through the U.N. Security Council — where Russia and China could veto them — officials are quietly approaching companies directly, convincing executives that the cost of doing business with Iran has become too high. In the past few months, Washington has leaned on insurance companies that underwrite Iran's shipments abroad and as many as 80 banks that handle financial transactions for the country. In January, the U.S. slapped a $350 million fine on Britain's Lloyds TSB Bank for funneling money from Iran and Sudan into U.S. institutions. "The U.S. Treasury Department has been encouraging major firms to be cautious in their dealings with Iran," says Fitzpatrick. "They are informally advising them not to be investing in the Iranian oil and gas sector."

The message seems to be getting across. The French energy giant Total recently failed to bid on a major block in Iran's South Pars field — the world's biggest natural gas field — after spending years eyeing the business. Like other energy companies, it calculated that its Iran business was becoming a problem it could live without.