An extremely risky experiment

May 9, 2018

President Trump has done as he promised—he’s withdrawn from the Joint Comprehensive Plan of Action (the JCPOA, or Iran nuclear agreement) and has ordered the re-imposition of the US sanctions on Iran that this agreement had suspended.

The salient facts are that this step was taken in opposition to our European allies and partners in the agreement, France, Germany and the U.K.; that our European allies—in accord with China and Russia—are not withdrawing from the agreement; that Iran’s first response has been to publicly declare that it plans to continue to abide by the agreement, in concert with our European allies, China, and Russia; and that, as a practical matter, the US sanctions cannot be fully implemented immediately, but rather will take a few months to come into full force.

Clearly, we have entered a period in which it is extremely difficult to predict what is likely to happen next. But unless the United States alters its course over the next few months, one can envisage a few steps taken by our adversaries in response to our withdrawal from the Iran agreement—steps that will not redound to the United States’ favor. Here I want to focus on only one aspect of such retaliation.

Iran’s current posture ensures that the remaining other signatories to the deal—i.e., the U.K., France, Germany, China, and Russia—will have no current reasons to withdraw from the agreement and therefore are extremely unlikely to participate in the reimposed, US-led sanctions. This will generate international stress; according to the sanction rules set down by the United States, it will be put into the position of imposing secondary sanctions on European allies, as well as on China and Russia, if they trade in oil or other proscribed ways with Iran, because if they do, they will be violating American sanction rules.

At minimum, the United States has already managed to anger its own allies and will anger them more if it does indeed impose secondary sanctions on them. It is perfectly conceivable that they may take retaliatory measures in concert with China and Russia. Perhaps the most damaging of such measures—especially in the long term—have already been discussed openly by the Chinese and Russians. These would involve the creation of an alternate international banking system that no longer relies on the US dollar as its principal reserve currency. Eliminating the US dollar as a reserve currency would sharply reduce the effectiveness of US sanctions, which depend on our ability to control international financial transfers, an ability that hinges on the dominance of the US dollar in international trade. The damage of such a shift in international currency flows to the US economy, and to the United States’ ability to influence international trade, would be enormous. And once such a shift occurs, it is difficult to see how the damage might be undone.

The Chinese and Russian push to create a new reserve currency not tied to any one particular nation has a considerable history. That push was motivated by Chinese and Russian frustration with the current reserve currency regime, which has allowed the United States to effectively control the International Monetary Fund (IMF). Indeed, the “dollarization” of the world’s trading system—while largely a boon to the world’s economy—has also been a regular source of concern to other nations, such as Argentina, whose self-inflicted economic difficulties have been exacerbated in part because of the dollar’s dominance. In the past, Europeans have supported the US position on currency policy, which has blocked any significant changes in the current reserve currency system.

But will they continue to support the United States, given how the Trump administration has treated them? Precisely because the dollar is so deeply enmeshed in the word’s trading system, any substantive changes will clearly be difficult to implement, even in the absence of US opposition. But with sufficient motivation, the opponents of the dollar’s role as the primary reserve currency might well win out.

In the post-World War II era, the United States has been a leader in forging positive relationships among nations, and much of our foreign policy posture has been based on such coalition-building. This approach has led to a number of positive international agreements, focusing on trade, pollution, and nuclear non-proliferation, as well as international control of drug trafficking and terrorism. In the case of the Iran agreement, the United States is stepping out alone, without any international partners. It is conducting a diplomatic and economic experiment. The risks of unintentional (and perhaps unforeseen) damaging consequences are very high, and the benefits possibly flowing from that experiment are very difficult to ascertain.