U.S., Iran Play Economic Knockdown

A member of the Iranian military takes position in a military exercise on the shore of the Sea of Oman in December. i i

hide captionA member of the Iranian military takes position in a military exercise on the shore of the Sea of Oman in December.

Mohammad Ali Marizad/AP
A member of the Iranian military takes position in a military exercise on the shore of the Sea of Oman in December.

A member of the Iranian military takes position in a military exercise on the shore of the Sea of Oman in December.

Mohammad Ali Marizad/AP

Tensions with Iran these days are as high as they've been in years, and managing them will be one of the top challenges facing the Obama administration this year. With Iran threatening to block U.S. ships from entering the Persian Gulf, and the United States vowing not to back down, the stage seems to be set for war. And yet, what's happening with Iran right now may be more of an economic confrontation than a military standoff.

The West wants to prevent Iran from developing a nuclear weapon. The plan, for now at least, is to use sanctions as pressure: The resulting economic pain might induce the Iranian regime to give up any thought of a weapons program.

Holding Israel Back

But international inspectors say Iran is getting closer to nuclear capability. So the debate over how to halt that progress is getting more critical. The Israelis are especially impatient and may at some point launch their own military strike on Iranian nuclear facilities.

If war is to be avoided, the Obama administration may need to persuade the Israelis that current policies will get the Iranians to back down. Not an easy mission, says Danielle Pletka of the American Enterprise Institute.

"How do we reassure the Israelis? It's by being more forward-leaning, by being more aggressive with sanctions and having a stronger military presence," she says. "Well, the problem with that is that it's in fact destabilizing in the Gulf. That, in and of itself, agitates the Iranians — they come out with counteractions and we see an escalation as we've seen over the last week."

The Iranians, not surprisingly, don't like being squeezed. The latest sanctions idea is to make it hard for Iran to sell its oil. In theory, that should hurt. The country depends heavily on oil revenue; Suzanne Maloney of the Brookings Institution says the Iranians therefore see themselves already as under attack, if only in economic terms.

"So they're going to fight back in every way that they have at their disposal," she says.

Economy Bashing

Military maneuvers are part of it, but what we're seeing around Iran right now is largely an economic war. Even Iran's military threats have economic significance; the more the Iranians talk about closing the Strait of Hormuz, the more oil traders get spooked. Oil prices jump.

This means two things. First, more money for Iran. A $4-per-barrel jump in oil prices like we've seen in the last couple of weeks equates to about $10 million a day extra for Iran.

Second, and just as important: Forcing oil prices up is a way to hurt the U.S. and European economies. It's as if the Iranians are saying, "You go after our economy, we'll go after yours."

Maloney says leaders in Tehran are convinced they can push the West into economic decline.

"They have this belief that somehow there's vulnerability that they might be able to exploit by exacerbating the global financial recession and ensuring that we don't see the kind of recovery that is obviously particularly important to the Obama administration in an election year," she says.

Economic War Games

So the Iranians' objective is to hurt the West's economy, but protect their own. For the U.S. and its allies, the objective is just the opposite: Make Iran suffer, but without setting back our recovery. Both sides have advantages.

One thing the Iran story shows is that economic warfare can be a lot trickier than military conflict. A country can bomb another without itself being affected. But the global economy is so interconnected that it's hard to hurt another country economically without being hurt yourself.

Bhushan Bahree of IHS Cambridge Energy Research says this is the challenge Western policymakers face with respect to Iran.

"All the sanctions have to be very, very carefully calibrated not to cause pain to countries other than Iran," he says.

And for every move the West makes, the Iranians can make a counter move, Maloney says.

"Ultimately, there are so many different factors at play here, and the oil markets have a tendency to respond in unpredictable fashion," she says. "The Iranians have multiple means of playing into that through their rhetoric and their actions in the Gulf."

The goal for the U.S. and its allies in the end is not to damage the Iranian economy. It's to convince Iran to give up a nuclear weapons program. Even if this economic war works to the West's advantage, that's no guarantee it means the Iranians give up on having a bomb.

Pletka says sanctions in this case would be more effective if the Iranians were still a long ways from getting a nuclear weapon.

"But right now they can see a light at the end of the tunnel in their nuclear program. They're only going to have to withstand a little more pain in their calculation," she says. "So can we inflict enough economic pain on them that they're willing to say, 'OK, maybe we're 12 to 18 months away, but we'll give up on that because we really need to stop this bleeding?'"

All in all, a risky game for both sides and getting more challenging by the day. Iran's leaders say they intend to carry out more military exercises in the Persian Gulf next month. That could raise the stakes in this standoff even higher.

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