Nearly a century ago, U.S. President Woodrow Wilson laid out the case for economic sanctions as he defended the League of Nations. "A nation that is boycotted is a nation that is in sight of surrender," he argued. "Apply this economic, peaceful, silent, deadly remedy and there will be no need for force. It is a terrible remedy. It does not cost a life outside the nation boycotted, but it brings a pressure upon that nation, in my judgment, no modern nation could resist."
To Wilson, it was the economic aspect of World War I that had helped defeat Germany. Moreover, it was the United States — now truly a global military and economic power — that had to take a seat at the international table so that it could use its economic heft to help prevent another crisis. Ironically, of course, Wilson's own country never joined the League of Nations, as it was not yet ready to play an active role on the global stage. After World War II, however, the United States began to engage with the world, capitalizing on its status as a global superpower to impose economic sanctions in lieu of armed conflict, thereby aiding it in achieving its foreign policy objectives. But since the 9/11 attacks, the United States has transformed economic sanctions into a weapon that Wilson could scarcely have imagined. And as the country uses such measures in an increasingly unilateral fashion, the rest of the world has been left trying to figure out a way of blunting Washington's blows.
The United States has developed a more robust sanctions strategy that has, over time, evolved to include financial sanctions that threaten to limit access to the U.S. financial system. Those sanctions — often targeting other countries that are not even the primary target of U.S. pressure — have become increasingly controversial at the global level. When sanctions pressure is multilateral, many countries don’t typically object, but under President Donald Trump, the push for sanctions is becoming more unilateral, resulting in friction between the United States and some of its closest allies.
Sanctions: A Checkered History
Economic sanctions, of course, are not an American invention, but date back to at least ancient Greece, when Pericles banned the Megarians from trading at Athenian markets. Naturally, questions as to the efficacy of such measures are just as old; after all, Pericles' interdiction helped spark the Peloponnesian War, which did not end well for Athens when the Megarians' ally, Sparta, came to dominate Greece. In fact, Washington's first major use of economic sanctions was the Jefferson trade embargoes, in which the United States banned all exports to France and the United Kingdom in the hopes of pressuring them to cease their attacks on neutral American merchant ships during the Napoleonic wars. The sanctions were nothing short of a disaster, as Europe could source enough supplies that it could forego U.S. imports, ultimately costing the southern states their main agricultural export market and the wider union an estimated 5 percent of its gross domestic product.
In the end, economic sanctions are just one potential tool to achieve a strategic goal. Undoubtedly, France and the United Kingdom felt some sort of economic impact as a result of Jefferson's economic embargo, but it caused too little economic pain for the United States to achieve its strategic goal. Getting the dosage of economic sanction — in concert with other measures — just right has always proven to be a challenge for the United States and, indeed, any other country.
After World War II, the United Nations sought to formalize a method of managing global security through its Security Council, and since then, it has managed to impose broad multilateral sanctions. The success of such efforts, however, is questionable. The 1990s sanctions against Iraq, for instance, destroyed the country's economy — and the health of the nation's citizens in the process — yet failed to achieve their desired political goal: force Saddam Hussein to alter his behavior. If anything, Saddam's personal wealth and power even increased during the period. What's more, the measures engendered a popular resentment against the United States that continues in some parts of the country to this day.
Hitting Them in the Pocketbook
As a result of its experience with Iraq, the United States has sought to refine its economic sanctions so that they actually hit the leaders of a country and their source of revenue, rather than the population at large. But as 9/11 and the war on terrorism forced Washington to rethink its foreign policy, the United States quickly realized that its centrality to the global financial system — and the global power of the dollar — gave it a unique opportunity to strangle terrorist groups through the banking sector.
The backbone of international trade, finance and oil trade, the U.S. dollar is the reserve currency of choice for countries the world over. International banks, moreover, need access to the U.S. financial system to function and clear U.S. dollar transactions. Thus, simply by throwing its weight around in the financial sector, the United States can create structures with global impact such as the Patriot Act and Executive Order 13224, which force banks to comply with Washington's dictates. As a matter of practice, the United States typically designates a foreign bank or group as a money-laundering entity or as a terrorist group. Technically, U.S. law only directly applies to banks with U.S. operations, but because other foreign banks do not wish the United States to blacklist them because of their association with the designated bank or entity — which would thus cut them off from the U.S. financial system — they will also sever ties with the entities that have been proscribed by Washington. This gives U.S. financial sanctions an inherently long reach, ensuring that U.S. designations can make a bank toxic on the international scene.
Beyond al Qaeda and other related groups, U.S. policymakers soon realized that they could exploit the United States' pre-eminent role in the global financial system to pursue state actors as well.
But beyond al Qaeda and other related groups, U.S. policymakers soon realized that they could exploit the United States' pre-eminent role in the global financial system to pursue state actors as well through sanctions that far exceeded the previous measures of freezing the assets of political actors and restricting their travel. Concerns about North Korean and Iranian nuclear proliferation in the 2000s provided a test case for the United States to capitalize on its role in the financial markets to develop new types of sanctions — albeit with varying degrees of success.
In the case of Pyongyang, the task has been difficult. North Korea has fewer economic linkages to the rest of the world than most countries, and the Kim regime is so deeply entrenched that internal economic upheaval is unlikely to force it to alter its behavior. The United States' initial effort to sever North Korea's access to the international banking system forced several key financial lenders in China to close North Korean accounts. But since then, North Korea has upgraded its strategy so that it is both less dependent on the global financial system and more easily masks its involvement. Instead of moving cash through lenders that the United States could sanction, North Korea has used shell companies that are harder to track, particularly in China, to move money and goods. Beijing, which has shielded Pyongyang politically, has become North Korea's most important economic and trade partner, meaning that Washington would have to resort to drastic measures, like directly sanctioning large Chinese banks — an act that would result in a substantial economic blowback for the United States — if it is to sever North Korea's links with China and ultimately force it to halt its nuclear program.
Iran, by contrast, presents an easier target for U.S. sanctions that focus on the banking sector. Unlike their North Korean counterparts, Iranian authorities do not wield the same iron fist over their domestic population, forcing them to be more responsive to popular demands. Iran, too, is historically a trading empire and is today dependent on international commerce, particularly for oil. And unlike the East Asian hermit kingdom, Iran views itself as a regional power that wishes to strengthen ties with other states — all of which exposes Iran more to the global economic and financial system than North Korea.
Until 2012, the United States did its best to target all banks that helped Iran offer financial support to its Middle Eastern proxies; starting that year, however, Washington also began targeting Tehran's oil customers using so-called secondary sanctions, which explicitly target foreign companies. Instead of sanctioning Iran directly, the United States imposed sanctions on foreign firms that invested in the country's oil sector, facilitated oil purchases, provided insurance for oil tankers or engaged in other types of business. And because oil companies like France's Total, China's CNPC and others are so dependent on international finance, the sanctions were effective. Moreover, unlike the shell companies that do business with North Korea, many of the firms operating in Iran's oil and other sectors are easily traceable and easier to sanction. Naturally, Iran has succeeded in circumventing some sanctions, but the U.S.-led measures inflicted significant harm on the country's economy between 2012 and 2015. The Iranian rial collapsed, investment in the country plunged and oil exports fell by more than half. Ultimately, the sanctions compelled Tehran to return to the table with Washington and other world powers to negotiate the Iran nuclear deal.
U.S. President Donald Trump has made it abundantly clear that he is willing to go it alone in pursuing America's enemies.
Supercharging the Sanctions
In moving against the United States' foes, Presidents George W. Bush and Barack Obama were content to largely act in a multilateral fashion, usually under the auspices of the U.N. Security Council. But President Donald Trump — who has taken the same tools crafted under the previous two administrations and supercharged them — has made it abundantly clear that he is willing to go it alone in pursuing America's enemies. And given Trump's unilateral approach when it comes to pressuring China, the World Trade Organization and others on trade, as well as his distaste for multilateral institutions, it is not inconceivable that his administration will eventually push for unilateral sanctions on someone other than Iran.
In abandoning the nuclear deal and reimposing sanctions on Tehran without international backing, Trump is testing the extent to which Washington can achieve a result on its own. The early results, however, suggest that he will be successful. In the lead-up to the anticipated sanctions, the Iranian rial collapsed on the black market, going from about 40,000 Iranian rials to the dollar in September 2017 to more than 140,000 last month. Many of the Western companies like Total and Daimler that had planned to invest in Iran's auto, oil and other sanctioned sectors quickly withdrew from the country after Washington announced the sanctions.
The jury is still out on the United States' efforts to restrict Iran's oil exports. The United States granted waivers to eight countries to continue importing Iranian oil for six months at a time when oil prices had eclipsed $85 per barrel and Washington wished to keep oil prices in check. Since then, oil prices have fallen by roughly a third, while rising oil production in the United States next year could give the country the room to press Iran's oil customers further. Ultimately, for any company deciding whether to prioritize access to the Iranian oil market or the U.S. financial system, there is only one answer, and it is not Iran.
The United States is certainly not done in sharpening the edge of its sanctions. In October, the Treasury Department's Office of Foreign Assets Control (OFAC) sanctioned 20 more individuals and entities for their role in a network providing financial support to the Basij, a paramilitary outfit that falls under the Islamic Revolutionary Guard Corps (IRGC). OFAC routinely issues these kinds of decisions when it uncovers a new network or ring that supports a group the United States has designated a terrorist organization. In this case, OFAC has turned up the heat to the maximum level by even sanctioning Parsian Bank — perhaps Iran's most important private bank and a key facilitator of humanitarian and medical trade during the last round of sanctions against the Islamic republic — not because it supported the Basij's activities directly but because it provides services to a company that has a remarkable six degrees of separation from the Basij. Effectively, OFAC has served notice to any global firm considering business with Iran that it could fall afoul of the broad secondary net of U.S. sanctions. Unsurprisingly, this will have a chilling effect on global financial institutions mulling whether to work with Iran.
The sanctions have driven a wedge between the United States and the rest of the world, particularly Europe. Given that Trump has promised more measures to come, this divide will only grow. In an effort to challenge Washington, Brussels has proposed the creation of a special purpose vehicle (SPV) that could potentially facilitate transactions with Iran by avoiding the U.S. financial system and, accordingly, U.S. sanctions. Washington, however, has emphasized that it will move against the SPV if it violates U.S. sanctions. So far, no European country has stepped up to host the SPV, although France and Germany are now exploring a way to jointly back it — potentially calling the United States' bluff. But even if the SPV manages to facilitate transactions, the game of cat and mouse will continue. In an effort to outflank the European Union and its SPV, the United States could simply shift its sanctions strategy to not only target the banks facilitating transactions but also the end consumers of Iran's oil itself.
At present, the globe has few options to counter Washington's sanctions, but the United States' constant resort to unilateralism could eventually result in others chipping away at the predominance of the U.S. financial system.
Ultimately, however, the United States' demonstrated desire to go to the maximum degree to punish Iran has left the rest of the world, especially Europe, scrambling to find ways of hindering Washington's plans. At present, the globe has few options, but the United States' constant resort to unilateralism could eventually result in others chipping away at the predominance of the U.S. financial system. Already, China, Russia and others have called on the world to use a wider basket of currencies for foreign exchange reserves. And each time the United States tries to sanction another country using financial sanctions, other countries are establishing ad hoc mechanisms to circumvent them, whether through currency swaps, trading in local currencies or something like the SPV. The rise of China's role in the global oil market could also break the dollar’s dominance in that market. At the same time, new technologies like distributed ledger technologies and cryptocurrencies could also revolutionize and replace the global payment system.
Together, all of these forces are slowly blunting the sharp edge of Washington's sanctions. Of course, none of them can realistically halt the measures in the immediate or even intermediate future. For the moment, the United States' unilateral sanctions against Iran will thus provide a good test case of Washington's success in not only hurting the Iranian economy but also in forcing the Islamic republic to come back to the table to negotiate a new deal on its nuclear program — as well as its regional activities. In the meantime, however, the rest of the world can do little to impede the United States as its bowls over everyone in its path.