Haven’t India’s oil companies heard of Federica Mogherini?

The country’s biggest oil buyers haven’t booked any cargoes from Iran for November, potentially cutting imports to zero, officials at the companies told Debjit Chakraborty, Dhwani Pandya and Javier Blas of Bloomberg News on Wednesday.

The move will mean the importers don’t fall foul of US sanctions, which will be imposed on any businesses transacting with Iranian companies via the Swift payment system starting that month. At the same time, it cuts off India from the source of about one-seventh of its oil imports, at a time when fuel prices for consumers are already at multiyear highs.

Mogherini, the European Union’s foreign affairs chief, presented a solution to this problem just hours earlier. Sitting alongside her Iranian counterpart on the fringes of the United Nations General Assembly on Tuesday, she announced plans to set up a special-purpose vehicle enabling EU states, China and Russia to continue trading with Iran under the scope of the 2015 deal reached with the Obama administration, without being caught up by US secondary sanctions. In time, the mechanism could be extended to other countries, she added.

There weren’t any details about exactly how that vehicle would work, but it’s not hard to speculate. The weakness in the Swift system is its reliance on US dollars. If European, Russian or Chinese companies instead paid for their Iranian crude with euros, rubles or yuan (ideally the former, given what’s been happening to emerging-market currencies), Iran could turn around and use that hard currency to buy European, Russian or Chinese goods, keeping the entire trade out of reach of US prosecutors.

There’s a problem, however. India had a bilateral deficit of about $8.5 billion with Iran in 2017, according to the International Trade Centre. Setting up an EU-style special-purpose vehicle to balance out trade in essence requires Tehran to sell its oil on credit.

Where bilateral trade is roughly in balance—for example, in China, Russia and the EU as a whole—that’s a sticky but essentially short-term issue, since Iran gets paid back the moment it receives goods in the other direction. All that’s needed is a little belt-tightening by its importers, which you’d expect to happen anyway in a country being hit by sanctions.

But with India—and Japan and South Korea, which have already stopped imports of Iranian crude—Tehran has substantial surpluses, representing a potential black hole. Together, the three countries’ deficits account for more than 100% of Iran’s overall $14.5 billion trade surplus. Simply switching the existing relationship into a different currency would necessitate economically strapped Iran extending ever-increasing amounts of credit to its larger trading partners.

There may well be ways out of this. New Delhi and Tehran have for years been stumbling over on-again, off-again plans to develop a new port at Chabahar close to Iran’s border with Pakistan. As China has shown with its own Belt and Road investments in Pakistan, such as the already-completed Gwadar harbour down the coast from Chabahar, giant infrastructure projects can be a good way of spending billions abroad and rebalancing via the capital account.

Less structured routes also may play a part, such as the informal hawala system that has seen Iran through previous sanctions periods. Iran’s oil tankers also are switching off their transponders and disappearing from satellite tracking systems, Bloomberg’s Julian Lee reported Tuesday, suggesting another way to conduct the trade under the counter.

That may not be enough to halt the rise in fuel prices, which already are weakening prospects for Prime Minister Narendra Modi in elections due next year. As much as Indians like to promote the virtues of the country’s services-led development model, the Iranian sanctions reveal an Achilles’ heel. If you’re dependent on importing crude from a sanctions-threatened country to fuel your economy, you’d best have some goods of your own to exchange for it.

This is because any transaction in US dollars must ultimately be cleared via US-based correspondent or intermediary banks, even if most of the nuts and bolts of oil trade involves non-US banks making matching debits and credits in their respective accounts. Transactions settled in other currencies don’t require US correspondent or intermediary banks so don’t risk violation of US sanctions on Iran.

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