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Will Iran’s pro-reform election result change your sanction risk?

A woman holds a poster of Iranian President Hassan Rouhani during a campaign rally in Tehran, Iran, May 17, 2017
A woman holds a poster of Iranian President Hassan Rouhani during a campaign rally in Tehran, Iran, May 17, 2017. Photographer: Reuters.

Iran’s recent Presidential election has kept the country on its path of re-engagement with the outside world. But, as our upcoming webinar on sanction risk will highlight, the Islamic Republic remains a significant trading hazard for global organizations.

Hassan Rouhani’s victory in May’s Iranian presidential election by a considerable margin reflected a popular desire for more economic engagement with the outside world, the reform of governmental processes and the relaxation of social controls.

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Rouhani also promised to ensure that the domination of public life by vested interests would be curbed and their influence reduced, specifically mentioning the Iranian Revolutionary Guard Corps (IRGC), the judges, the state media and several conglomerates that are dominated by the religious establishment.

Join our webinar on 26 June 2017 — ‘Can you spot sanction risk in your organization?’ for more on Iran and other world events 

His opponent, Ebrahim Raisi offered a mix of economic populism (involving subsidies and cash hand-outs to poorer citizens), religious conservatism and an isolationist foreign policy.

He targeted the poor performance of the Iranian economy under Rouhani and the unequal return that Iran had received after the relaxation of sanctions by the United Nations, U.S. and EU as part of the Joint Comprehensive Plan of Action (JCPOA) agreed in January 2016.

Iran's President Hassan Rouhani (L) shakes hands with U.N. Secretary General Ban Ki-moo during the United Nations General Assembly in New York, U.S. September 21, 2016. Photographer: Eduardo Munoz
Iran’s President Hassan Rouhani (L) shakes hands with U.N. Secretary General Ban Ki-moo during the United Nations General Assembly in New York, U.S. September 21, 2016. Photographer: Eduardo Munoz

Therefore, Rouhani’s priorities will need to focus primarily and rapidly on improving economic conditions, attracting foreign investment and demonstrating tangible improvement in the lives of ordinary Iranians, especially those who live in the cities and who constitute an increasingly younger demographic.

These objectives can only be achieved if Rouhani can secure the further relaxation of sanctions and stimulate further economic growth, by reforming governmental and commercial practices, and attempting to deal with pervasive corruption, in which state institutions and officials are extensively implicated.

He will also intensify commercial and diplomatic contacts with China, principally in relation to the ‘One Belt, One Road’ initiative and the development of Central Asia.

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Growing international role

Meanwhile, the United States is likely to press for confidence-building measures in relation to Iran’s influence and activities in the Gulf and Middle East region.

Iranian Foreign Minister Mohammad Javad Zarif (L) is greeted by Chinese Foreign Minister Wang Yi before a meeting in Beijing, China December 5, 2016
Iranian Foreign Minister Mohammad Javad Zarif (L) is greeted by Chinese Foreign Minister Wang Yi before a meeting in Beijing, China December 5, 2016. Photographer: Greg Baker

It will expect Iran to play a constructive role in stabilizing Iraq and, eventually, Syria, as well as reassuring Sunni states, especially Saudi Arabia, about Iranian interference in countries, such as Yemen and Bahrain, where there is a substantial Shia population.

Above all, the U.S. will insist that Iran scrupulously fulfills its nuclear obligations under the JCPOA, as well as expecting Iran to soften its stance with regard to Israel and the U.S., and act as a responsible member of the international community.

Hardline elements

However, Rouhani will need to tread carefully.

In the first place, Raisi, as well as receiving 16 million votes, will maintain a significant political and economic power base among hardline elements, comprising traditionalist clerics, the security forces and the IRGC.

Join our webinar on 26 June 2017 — ‘Can you spot sanction risk in your organization?’ for more on Iran and other world events 

In addition, a substantial section of the Iranian economy is controlled directly by the clerical establishment and the security forces, in the form of large conglomerates, which have interests and assets across a diverse range of sectors, industries and enterprises.

These elements amount to a ‘deep state’ that will severely restrict the freedom of maneuver that Rouhani will have, and could implicitly threaten intervention, especially as the Supreme Leader, Ayatollah Ali Khamenei, who has complete control over security and foreign policy, generally leans towards the hardliners.

Next Supreme Leader?

However, Khamenei is 77-years-old and has suffered bouts of ill-health in recent years. As a result, the second issue that is likely to shape Iranian politics over the next five years is the competition to succeed him.

Iran’s Supreme Leader Ayatollah Ali Khamenei. Photographer: Caren Firouz

Both Rouhani and Raisi are leading contenders for the position, with Rouhani able to exploit his strong electoral mandate to gain support among the 86-member Expert Assembly.

Rouhani is well-placed to consolidate his power-base and increase his personal support among the population in order to position himself as the indispensable candidate to succeed Khamenei as Supreme Leader.

Although Khamenei has shown a marked preference for Raisi in the past, recent evidence has shown that the Supreme Leader is sensitive about his legacy and has on several occasions shown flexibility in the face of widespread popular discontent and reformist pressure.

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Economic opportunity

For now, the combination of Khamenei and Rouhani provides a window of opportunity for Iran to develop its economy and provide more freedoms for its people.

Nevertheless, more unstable conditions are likely to return if Khamenei dies and a succession crisis results in the selection of a hardliner as Supreme Leader or Rouhani is appointed as Supreme Leader and a hardliner, backed by regressive elements, is elected President.

It is also significant, that, in the event that Khamenei survives, Raisi will certainly run for President again, and in 2021, when Rouhani will be constitutionally barred from seeking another term in office.

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Therefore, Rouhani has to deliver quickly and demonstrably on the economy to satisfy public expectations.

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Foreign investment

In seeking foreign investment and in attempting to soften the impact of remaining sanctions, it is likely that the Rouhani administration will concentrate on promoting business and commercial opportunities for Iranian enterprises and companies that do not have overt linkages to proscribed entities.

This approach will enable him to build more broad-based popular support, diversify the economy and permit faster approvals of contracts and international transactions by foreign authorities, such as the U.S. Treasury Office of Foreign Asset Control (OFAC), the OECD and EU regulatory agencies.

Indications are that Iranian officials have calculated that a more generous interpretation of sanctions provision has occurred whenever commercial advantage for the U.S. and its allies has combined with an Iranian ability to comply with internationally commercial and legal practice and as long. This is the case so long as there were no dual-use (for military or subversive purposes) implications and benefits to proscribed individuals or groups, such as the IRGC.

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Sanctions awareness

The complexity of commercial dealings with Iran and the flexibility that is being engineered are indicated by recent deals that involved Airbus and Boeing with Iran Air, both of which were approved by OFAC.

Iran sanctions
An IranAir Airbus A321 with the description “The Airline of the Islamic Republic of Iran”. Photographer: Regis Duvignau – RTX2YHYM

U.S. banks are in principle prohibited from conducting direct transactions with Iran, but U.S. financial institutions were deemed to be able to transact through intermediaries that maintain banking relationships or transactional arrangements with Iranian financial institutions that were not on the Specially Designated Nationals list.

Overall, Rouhani will have to maintain a careful balance between on the one hand stimulating the Iranian economy, delivering public benefit and attracting increased foreign investment and, on the other, the risk of offending the powerful vested interests represented by the security apparatus and the clerical establishment.

In all cases, it is important for any institution dealing with Iran to recognize that a range of sanctions and rigorous enforcement mechanisms remain in place in relation to transactions and dealings with certain Iranian sectors and entities.

Join our webinar on 26 June 2017 — ‘Can you spot sanction risk in your organization?’ for more on Iran and other world events 

Dollar transactions

In particular, a ban on U.S.-based transactions persists, coupled with asset freezes on the government of Iran (and, by extension, the security and armed forces) and on Iranian financial institutions.

Fines imposed on non-banking institutions for breaching OFAC

As a result, U.S. persons and financial institutions may not engage in activities with Iran, unless licensed by OFAC.

Non-U.S. individuals and institutions need to take care that they do not knowingly engage in activities that attempt to evade the U.S. provisions and non-U.S. financial institutions are not permitted to clear U.S. dollar based transactions on Iran’s behalf.

Even with OFAC’s approval, careful navigation is required around sanctions and prohibitions that continue to exist, including handling financing arrangements without involving U.S. dollars or the U.S. financial system, both of which are still technically restricted activities.

Substantial risks

Also, within Iran, there is endemic corruption, state-based interference in business and insufficiently mature legal and compliance mechanisms to ensure the fulfilment of contracts and adherence to international regulatory standards. Intervention by conservative elements cannot be fully ruled out.

For now, substantial regulatory and reputational risks persist and companies investing in Iran — or planning joint ventures with Iranian entities — should ensure that they have access to up-to-date and accurate compliance and contextual advice.

In particular, they should note the outline guidance in the Thomson Reuters white paper The Lifting of Sanctions Against Iran – Not All Plain Sailing, published in February 2016.

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