Global Insight Perspective

Significance

The stand-off was exacerbated yesterday with the airing of footage of the 15 captured British military personnel and fresh warnings from the British government.

Implications

The physical measures do not yet amount to much, as official bilateral economic ties are not that substantial, but wider moves by the EU and UN would have major consequences for the Iranian economy.

Outlook

Although this incident still looks likely to be resolved through diplomatic channels, it does underline the deteriorating pattern of relations between Iran and its international detractors.

“Next Phase”

Britain yesterday severed all official contacts with Iran a day after British Prime Minister Tony Blair warned that Britain would be moving to the “next phase” of its diplomatic efforts to secure the release of the British crew. The suspension of bilateral business ties came as Iran’s Arabic language satellite station, Al Alam, released footage of the captured Britons, showing Faye Turney, the only female member of the crew, “apologising” for “trespassing” into Iranian waters. Turney’s “apology” came despite the release of Global Positioning Survey (GPS) co-ordinates by British military sources appearing to confirm that the crew was seized within 1.7 nautical miles inside Iraqi waters. In the game of eyeball diplomacy, both sides are looking to see who will blink first. Iranian Foreign Minister Manouchehr Mottaki, speaking on the sidelines of the Arab summit in Riyadh, yesterday observed that a resolution of the standoff was dependent on an acknowledgement by Britain that its crew had strayed into Iranian waters.

Britain’s announcement that it is severing official business ties serves as a warning shot; unless the crew are released the United Kingdom—in tandem with the European Union (EU) and the UN—will escalate its pressure on the Islamic Republic.. The UN Security Council is scheduled to debate the issue today, while the EU has vowed to show “solidarity” with the United Kingdom.

Outlook and Implications

A suspension of official bilateral trade ties with Iran will principally affect any U.K.-supported trade and investment missions to the country, while the Export Credit Guarantee Department, Britain’s official export credit agency, may find it more difficult to underwrite any new British trade- and finance-related business with Iran. Although the United Kingdom’s US$1.8 billion-worth of exports to Iran in 2006 is only a small portion of the latter's annual imports of goods and services (which amounted to nearly US$57 billion in 2006), should this crisis be prolonged and the United Kingdom achieves a common European standpoint, then the implications for Iran could be more damaging. The EU is Iran's largest trading partner, and tougher UN sanctions would also bite hard. In the past decade a large number European firms have been involved in trade and investment in Iran. These firms, which have already been under growing U.S. pressure to cut back their ties with Iran, will now face even more pressure from the European governments. Germany is Iran's largest European partner and stands to lose the most when it comes to broader trade sanctions. If Germany goes along with a comprehensive trade embargo of Iran, the impact on Iranian economic could be very severe. At the same time it should be noted that Iran has increasingly engaged in import and export trade with emerging Asia, especially China and India, and increased European sanctions could easily accelerate Iran's already growing trade with emerging Asia.

The stand-off is meanwhile unsettling world markets, and oil prices closed at their highest level in over six months yesterday. At one point, prices spiked above US$68 late yesterday. They have eased off to below US$64 today, but any sign of an escalation will mean that prices are likely to rise once more. Although this currently looks unlikely, traders are wary that a physical confrontation between Iran and the United Kingdom and its allies would pose a threat to oil shipments from the Gulf. The British sailors saga may not touch off a confrontation, but the situation is so tense that any new incidents could lead to a rapid escalation. So far there has been no disruption to Iran's daily shipments of around 2.2 million barrels.

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