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    Greater China
     Jun 30, 2012

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Who will Iran sanctions really cripple?
By Peter Lee

South Korea has announced it will accept no Iranian cargoes; Japan has announced it will sovereign insure; China will come up with some, as yet unannounced mechanism that will probably sluice profits into the hands of some lucky state insurers; and India is floundering but simply has to come up with something.

In any event, the European insurance industry can regard the loss of income - and the state-mediated creation of a competing maritime insurance infrastructure in Asia - as simply the cost of doing business in the free world, 21st-century style.

The only major Iran energy import outlier, of course, is China. China's number was supposed to be up on June 28. However, on


that day the Obama administration cleared China and Singapore from possible US economic penalties, citing their sharp cuts in imports of Iranian oil, and announced a six-month exception for them to continue buying Iranian crude at lower levels.

Earlier, the United States had held out hopes that China's unapologetic support for Iran (and its energy) could be finessed. Secretary of State Hillary Clinton professed to seeing signs of progress in Chinese reductions. [4]

Unfortunately, this is all just a desert mirage, created by a pricing and delivery spat between China and Iran that may have had a lot to do with Iran wanting to get paid at least partly in gold, and not all in yuan. The net effect was to collapse purchases in the first quarter, so that subsequent imports at China's normal level of over 500,000 barrels per day would, on an annualized basis, add up to a cut in imports that approaches, if does not meet, the coveted 20% level. [5]

Would the United States pull the trigger on China?
It doesn't seem likely that the US would tip relations with China (and perhaps the world economy along with it) into the abyss in the service of its Iran policy.

In any case, China has saved the United States the embarrassment by making sure it has no vulnerable bank to sanction.

Since 2006, China has denominated its trade with Iran in euros, placing a significant degree of separation between itself and US sanctions, which rely on the nominal clearing of international dollar transactions through the Fed in the United States to enable implementation.

Now, with the euro route foreclosed by the cutoff of Iranian banks from the European financial system, China's trade with Iran, including its energy business has migrated to a barter, yuan, and/or gold basis. [6]

Western commentators who have noted this situation persist in regarding this as a big loser for Iran, which has to hold cruddy yuan instead of wonderful dollars or somewhat less than wonderful euros.

Indeed, the dollar shortage is causing the rial to crater against the dollar in forex trading. [7]

However, the bottom line is that, by necessity, two way Sino-Iranian trade and integration between the two economies has exploded with the cutoff of Iran from the West and forcing Iran to denominate its trade in yuan will simply accelerate this trend.

As an investigative report in the South China Morning Post put it: "Sanctions against Iran drive up China trade tenfold in decade".

According to the SCMP, bilateral Sino-Iranian trade grew from $2.5 billion in 2000 to $29.3 billion in 2010, and is expected to reach $50 billion by 2015. [8]

Iran's current trade surplus with China runs to $7 billion per annum, a sizable amount of which is probably sequestered as yuan in some Chinese bank yielding zero interest, a less than desirable state of affairs than holding dollars.

Nevertheless, Iran has few options and will presumably start figuring out creative ways to spend it, thereby further tightening the economic ties between Tehran and Beijing.

Iran can also draw some consolation that the yuan is a preferred currency holding for people who can get their hands on it, since the yuan is acknowledged to be undervalued and Iran can look forward to a healthy gain on its holdings if and when the yuan is allowed to appreciate.

It is also not inconceivable that Iran will be able to convert some of its yuan holdings to Russian rubles, Indian rupees or Brazilian pesos through Chinese good offices, thereby easing some more of its foreign-trade related headaches and the sanctions-related heartaches of its trading partners. [9]

So there might not be anything in China in the way of a US-linked financial institution for the United States to sanction, and significant options for the Iranian regime to improve its economic outlook.

Of course, since waivers are issued strictly at the discretion of the Secretary of State (without even the semblance of due process that attended the administrative findings of FinCEN in the matter of BDA), the United States is free to do whatever it sees fit, facts, evidence, and evasions be damned.

Given the sizable economic risks and limited geopolitical rewards of sanctioning China, however, the smart money feels that the waiver will be granted-unless the US government decides to prolong the agony instead under the "more data collection is needed" pretext.

The bigger story, of course, is that pushing Iran into the arms of China is not a particularly good thing for the almighty US dollar.

One of the most precious advantages of the United States is that only the United States offers enough currency liquidity to absorb the trade surpluses of the energy-exporting countries. A switch from US-denominated energy sales is never seen as a good thing. If more oil and gas revenues disappear into bilateral trade, such as Iran's China swap, that's less dollars to buy nice things - not just iPods and Nikes, but things like the US government debt that keeps the US government and its massive deficit afloat.

The bad news for the United States is that China is not denominating its foreign trade in yuan just to deal with the Iran situation and threats of US sanctions.

China has concluded swap agreements with Brazil, Australia, Turkey, and the United Arab Emirates that enable them to conduct significant chunks of their bilateral trade in their local currencies without reference to the US dollar. Russia-China trade is already normalized on a ruble to yuan basis. Japan is considering a swap agreement with China. Hong Kong & Shanghai Bank estimates that China will soon be settling half of its international trade in non-US currencies, making the yuan the number three international currency in the world. [10]

China's master plan for internationalizing its currency involves setting up bilateral swap arrangements with its major trading partners.

Faced with the reality of a dollar hobbled by an overextended and gridlocked federal government, and the opportunities offered by a yuan whose undervaluation may be a significant geostrategic as well as economic asset, even US allies have entered into swap agreements with China.

At least for the time being, China is shunning the responsibilities and headaches, as well as the advantages of emerging as an authentic global reserve currency. It is apparently happy to cede that role to the United States.

In sum, sidelining Iran from dollar transactions plays into the hands of China, which is looking to reduce its dollar exposure and fortuitously discovers a significant trading partner, Iran, which has no choice but to start denominating a significant amount of its energy exports in yuan.

Therefore, the US sanctions, in addition to granting China preferential access to the Iranian economy, are also facilitating the gradual displacement of the US dollar from the absolute center of the world financial system and compromising a critical weapon in the American soft power arsenal.

It remains to be seen if this will be remembered as the finest hour of US geopolitical strategy.

This state of affairs also begs the question of why China should support efforts to resolve the Iranian crisis, if prolonging it simply allows Beijing to entrench its advantage which, in addition to the trade and financial factors described above, enables China to stockpile Iranian oil at firesale prices?

Taking it a step further, perhaps Russia and China have a continued interest in propping up the regime of Bashar al-Assad not because they still hold optimistic views on the positive outcome of the Syrian crisis, but simply because denying Damascus to a new, hostile, and pro-Gulf and pro-Western government may make it less likely that Iran will decide on a strategic capitulation on the nuclear issue that will enable EU and Japanese states and corporations to return to the economic hunt in Iran in competition with Moscow and Beijing.

Perhaps US geopolitical thinkers are looking beyond their success in sowing misery among the regimes and citizens of Iran and Syria and are asking themselves what happens if their half-measures fail to crush these states and replace them with new outfits eager to turn their loyalties and resources to the West?

The simplest answer is not the prettiest: recognizing that sanctions, in the most important cases of Iraq, Libya, Cuba, North Korea, and Iran have yet to destroy an anti-Western regime unless followed up by decisive military action.

For the sake of the people of Syria and Iran, maybe we should hope that America's military planners are as smug and blind as - with my sincerest regrets and apologies - Nicholas Kristof.

1. Pinched and Griping in Iran, NY Times, Jun 17, 2012.
2. Iranian-Rights Groups Blast Apple, Discovery News, Jun 27, 2012.
3. Apple store the front line of Iran trade sanctions, Smh.com, Jun 25, 2012.
4. Clinton hints China could avoid oil sanctions, The Hill, Jun 21, 2012.
5. Sinopec turns down cut-price Iran crude: source, Reuters, Jun 12, 2012.
6. Yuan today, gone tomorrow? Breakingnews, May 9, 2012.
7. India and China Skirt Iran Sanctions With 'Junk for Oil', Bloomberg, Mar 30, 2012.
8. Sanctions against Iran drive up China trade tenfold in decade, SCMP, Jun 28, 2012.
9. Guest post: Brics "hostage" to west over Iran sanctions, need financial institutions, FT, Jun 27, 2012.
10. China Busy Signing Currency Deals, Forbes, Jun 26, 2012.

Peter Lee writes on East and South Asian affairs and their intersection with US foreign policy.

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