Total external debt at the end of September 2005 was previously reported at $17.0 billion, but the latest revision puts it 43% higher, at $24.5 billion. The figures for 2003 and 2004 have also been raised, by 40% and 37%, respectively. Furthermore, the data on term structure of the external debt show that the revision falls primarily on the long-term debt, with little or minimal change in the short-term debt figures. The long-term debt figures for 2004 were revised upward more than 94%, from $6.6 billion to $12.8 billion, while the short-term figures remained unchanged. By end of December 2005, the long- and short-term external debts stood at $13.6 billion and $10.8 billion, respectively. According to the government's repayment plan, Iran must repay $8.8 billion of its external debt in the 2006/07 fiscal year (April 2006–March 2007). The central bank has attributed these revisions to a change in accounting procedures that now considers the project finance obligations as part of the external debt. Prior to this change, the repayment of foreign contributions to project finance, which were linked to the proceeds of each project, were classified as contingent obligations.

In light of the recent rise in Iran's oil export revenues and the accumulation of large reserves, we expect Iran to be able to meet its debt service obligations in the next two years—so long as it does not face a major foreign policy crisis such as an economic sanction or a military confrontation because of its nuclear program. What is alarming, however, is that the central bank has warned of further upward revisions to the 2005 debt data, because the current data exclude contingent obligations such as open letters of credit and future interests. If these obligations are taken into account, the central bank estimates the external debt at $39.9 billion by December 2005, which is a significant upward revision.

The rapid increase is primarily due to a jump in project finance and merchandise imports over the past two years. The Iranian government is pursuing an ambitious plan to expand the energy sector, with the help of foreign investors and creditors. It has welcomed European and Asian participation in energy-related projects for both economic and political reasons. Aside from purely economic motivations, Tehran has deliberately expanded trade and investment relations with these regions so they would have an incentive to oppose any U.S. calls for economic and diplomatic isolation of Iran. Notwithstanding these efforts, economic ties with Europe have deteriorated in recent months as a result of the nuclear crisis and the hard-line foreign policy of Iran's new president. Under pressure from Washington, two major European banks, UBS Suisse and Credit Suisse, announced in January 2006 that they will sever all ties with Iranian entities. In another adverse development, the Fetch rating agency downgraded Iran's currency from stable to negative in early February. These developments come at a time when Iran's external accounts are actually improving and there is a noticeable increase in international reserves.

Although still manageable, the rapid rise in foreign debt is alarming and could lead to some difficulties down the road. Indeed, the swelling of external debt over the past 12 months has been associated with a deterioration of fiscal and trade discipline, which has led to a surge in imports. But the price of oil is expected to remain strong over the next two years, and therefore poses no threat to Iran's oil revenues, which are essential for debt service and stability of the exchange rate. On the other hand, the nuclear crisis with the West could escalate and lead to economic sanctions, putting Iran's external revenues at risk. This would also affect many large-scale projects currently underway with foreign participation, and prolonged delays in their completion would add to Iran's project finance obligations.

In 1993–95, Iran borrowed heavily to finance numerous trade and investment projects. The result was a severe payment crisis that caused a political backlash, leading the government to rapidly reduce the external debt by imposing severe restrictions on the currency market and foreign trade. If Iran's external debt continues to climb—and coincides with an adverse diplomatic development or mounting pressure on the rial exchange rate—the government is likely to impose similar trade restrictions to reverse the trend and avoid a similar crisis.