Legal briefing | Export Control & Sanctions, Governance & Trade Risk |

COVID-19: UK and EU's actions to circumvent sanctions speak louder than US words

Overview

Over a year after its initial formation, on 31 March 2020 France, Germany and the United Kingdom (the "E3") confirmed that the Instrument in Support of Trade Exchanges ("INSTEX") had successfully concluded its first transaction; facilitating the export of medical goods from Europe to Iran to assist with Iran's response to COVID-19.

What is INSTEX?

Established on 31 January 2019 in response to the US withdrawing from the Join Comprehensive Plan of Action ("JCPOA") in May 2018, INSTEX is a European special-purpose vehicle with the aim of facilitating non-USD and non-SWIFT transactions with Iran to avoid breaching US sanctions and preserving the terms of the JCPOA.

The mechanism was initially set up to enable the trade in pharmaceutical, medical and food products only, as these items are in any case exempted from US sanctions. Even though this is strictly the case, practically speaking, many EU financial institutions are reluctant to involve themselves in Iranian transactions, given the complexity of the US sanctions regime and the wide-reaching penalties than can be imposed. INSTEX is therefore designed to offer a "safe-harbour" to these institutions and other corporate entities when engaging in business activity with Iran that is not prohibited by the EU.    

Through INSTEX all import and export balances are "off-set." This means that payments made through INSTEX are only made between the European businesses that are importing and exporting to Iran; therefore, no direct payments to or from Iran are actually carried out (which is the primary concern of many financial institutions).

In Iran, INSTEX is mirrored by the Special Trade and Finance Instrument ("STFI") which matches incoming and outgoing transactions in the same way (so that Iranian funds do not leave the jurisdiction).

Why was INSTEX not used previously?

Until 31 March 2020, INSTEX lay dormant following a strong suspicion that the US was exerting considerable amounts of diplomatic pressure on the UK and EU not to use the system.

In May 2019, the US Department of State ("DOS") wrote to the president of INSTEX stating that "engaging in activities that run afoul of US sanctions can result in severe consequences, including a loss of access to the US financial system.”

Clearly the severity of humanitarian situation in Iran caused by COVID-19 left the E3 feeling more comfortable that this was the right time to test the system, however even as of 17 March 2020, the DOS imposed sanctions on 12 new entities in Iran with the US secretary of State, Mike Pompeo, stating  that “any nation considering humanitarian assistance to Iran should seek the release of all dual and foreign nationals” from Iranian prisons.

This position was in clear opposition to the EU and UN's approach in encouraging the international community to send humanitarian aid to Iran to combat COVID-19 and to reduce the impact of sanctions on other nations such as Venezuela, North Korea and Cuba during the global pandemic.

Whilst the US Government has made it clear that humanitarian aid can be provided to Iran, the suggestion amongst commentators has been that the facilitation of aid to Iran is made slower, more expensive and complex by the US restrictions currently in place.

What next?

As set out in the UK Government's statement, "INSTEX aims to provide a sustainable, long-term solution for legitimate trade between Europe and Iran as part of the continued efforts to preserve the JCPOA."

It was also made clear that INSTEX and STFI intend to work on more transactions and enhancing the mechanism generally and that other EU member states were in the process of joining INSTEX as shareholders (there are currently nine including the E3).

The EU's diplomatic services also stated that they were "working to open INSTEX to economic operators from third countries."

Going forward, it is likely that over the coming few months we will see more transactions facilitated by INSTEX with the scope of trade covered potentially expanding. Ultimately, at this stage, the actions taken by E3 are more symbolic, but it makes it clear that the E3 are preparing a path to sustain trade with Iran, even on a restricted basis.

Only time will tell whether private entities will feel comfortable enough using the system, given the US 'maximum pressure' approach does not leave much room for manoeuvre.

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