Persian hugs - Iran's growing ties with Eurasia and Turkey

By bne IntelliNews March 3, 2014

Clare Nuttall in Astana, David O’Byrne in Istanbul, Ben Aris in Moscow -

Iran is the new kid on the former-Soviet Bloc. The possibility of a detente with the US has seen businessmen from across the region flock to Tehran, but Iran is already busy rebuilding ties with a part of the world it has known well for a millennium.

On the face of it, Iran is a good match with surrounding nations in so much as it shares religious and historical ties. But the legacy of 70 years of Soviet rule, and the generally secular nature of those countries, undoes much of this particular advantage. At the same time, all the countries in the region have economies that need rebuilding, and after decades of domination and isolation they could all do with local friends.

Iran and Russia in particular are old acquaintances. In the 19th century, the Russian empire took much of the Caucasus from Iran, and even strayed onto its territory on occasion, the last time being 1941-46.

For much of the Cold War Iran was a US ally, but that ended with the Islamic revolution in 1979. After the dissolution of the USSR in 1991, at first the new Russian leadership under Boris Yeltsin feared a resurgent Iran encroaching on its sphere of influence in Central Asia and the Caucasus, but in the last 20 years those fears have faded, opening the way to a new era of cooperation.

My enemy's enemy

At the Kazan Summit last year - an annual investment jamboree hosted by the government of Russia's Tatarstan region - there were almost no European investors present. However, the Middle Eastern delegation was out in force, promising some $7bn of direct investment.

Moscow has come round to the potential rivalry it faces in the region with Iran largely because it is highly interested in making friends that are enemies of the US as part of its "multipolar" vision of geopolitics. Iran joined forces with Russia in 1997 to end the civil war in Persian-speaking Tajikistan, and Tehran also backed Moscow in the first war against Chechen separatists, when much of the rest of the Islamic world backed the rebels. The Iranian leadership even backed Moscow's bid to join the Organisation of the Islamic Conference (OIC) - a co-sponsor of the Kazan event - as an observer in 2005.

Iran could have aggressively sought to push its brand of Islam on countries like Shiite Azerbaijan or the fractious republics in the south of Russia, but relations have continued in a spirit of pragmatism. Iran has instead concentrated on building trade ties across the region.

However, not all is rosy in the garden of Eurasia. "Moscow has been relatively unconcerned about Iran's activates elsewhere in the Middle East," says Dmitri Trenin of the Carnegie Moscow Centre in Moscow in his recent book "Post Imperium". "But not everything in the Russo-Iranian relations is without controversy. The breakup of the Soviet Union raised the issue of the Caspian Sea, whose status had been governed by the 1921 Soviet-Iranian treaty."

The status of the Caspian Sea perfectly highlights the ambiguous nature of relations in the region. Tension flared in the 1990s, and Iran even threatened military action against Azerbaijan, which Moscow considers to belong to its sphere of influence. Russia insists the Caspian Sea is actually a "lake" under international law, which would extend national boundaries into the middle of the water. That would allow the littoral states to claim more of its oil-rich seabed, instead of leaving a patch of "international waters" in its midst.

Yet despite the problems, it's the pragmatism that stands out. Russia has been one of Iran's few true friends in recent years, supplying the country with arms since the 1990s and even building the controversial Bushehr nuclear reactor, which in 2011 went online despite howls of protest from the West. The row over the nuclear power station has been particularly divisive, but now appears close to resolution. On February 20, Iran and the "5+1" group - China, France, Russia, the UK and the US, plus Germany - said they had agreed on a timetable and framework for negotiating a comprehensive agreement to end the confrontation over Iran's nuclear programme. The talks follow an interim deal signed in November, when Teheran agreed to concessions including suspending production of enriched uranium and allowing daily inspections by the International Atomic Energy Agency (IAEA). If no long-term agreement is reached by July however, stricter sanctions may be imposed.

Whatever the Kremlin may feel about Iran's machinations in its backyard, it is willing to stand behind it as a war between Iran and the US is clearly not in Russia's interests. "The future of Iran's standoff with the international community is a serious cause for concern in Moscow, not least in view of the potential impact of military conflict between Iran and the United States/ Israel in Central Asia," says Trenin.

Turkey struggles to cement relations

As the biggest economy in Southeast Europe, Turkey has the most to gain from a potential return to international trade by Iran. The Persian country has precious oil and gas that Turkey's burgeoning economy so badly needs. If geography and market forces were the only factors dictating trade relations, Turkey and Iran would long ago have become major partners.

Nothing of course is that simple. Iran's perennial status as an international pariah state - and its confrontational foreign policy - has long hampered political and economic relations, both as a result of international pressure and local differences between Ankara and Tehran.

That said, the apparently imminent relaxation of international sanctions on the Iranian regime offers hope. A visit to Tehran in late January by Turkish Prime Minister Tayyip Erdogan was rated an important step towards normalising trade relations by Bilgin Aygün, the vice chairman of the Turkish-Iranian Business Council at the Foreign Economic Relations Board of Turkey (DEİK). A new joint trade committee was set up, as Erdogan declared Iran his second home and that he wants to see bilateral trade reach $30bn by 2015, from the $14.5bn recorded in 2013.

Whether that can be achieved so quickly is a moot point somewhat. Bilateral trade reached $22bn in 2012, but that was largely thanks to a system set up to evade the sanctions that have isolated the Iranian banking system. Revenues from oil and gas sales to Turkey were used to buy gold, which was then sent back to Tehran.

Ignoring oil and gas, it's clear that trade relations between the two countries are particularly under-developed, but they still show enormous potential. As recently as 2004, Turkish exports to Iran totalled only $800m, a figure which by 2011 - the last year not to be affected by the gold export scheme - had risen more than four fold to $3.6bn.

Given Turkey's highly developed manufacturing sector, the scope for exports of everything from vehicles and white goods through to textiles and processed foods is enormous. Indeed, the 1990s and 2000s saw a number of high profile joint ventures. They were later abandoned, but interest has revived and an increasing number of Turkish companies are interested in doing business with Iran. It may be a while though before that interest can be converted into actual business. US officials warn that sanctions still remain in place and companies breaching them will face punishment.

In addition there remain a few bilateral issues which need to be solved. The scandal surrounding the use of gold to breach international sanctions is one. In this connection, an ongoing high level corruption case in Turkey has seen the arrest of Iranian businessman Reza Zarrab, along with Suleyman Aslan - the CEO of Turkish state-controlled bank Halkbank, which was at the centre of the gold trade.

Iranian authorities are reported to have arrested a business associate of Zarrab's. Turkish officials deny the sanctions were broken, and Erdogan insists that the police investigation is part of a wider plot aimed at destabilising his government. That may well be the case, but it does nothing to answer any of

the other legitimate questions which continue to hang over a trade which totalled $6.5bn in 2012, and around $2bn last year.

More pressing still is the ongoing dispute over the gas Turkey imports from Iran under a 1996 agreement signed by Turkey's then radical Islamist prime minister Necmettin Erbakan. Erdogan's recent visit to Tehran failed to secure a long-demanded reduction in the price of the gas, which is reckoned to be around $490 per 1,000 cubic metres.

That's as much as 30% more than what Turkey pays for Russian gas, and over 40% higher than the price it pays Azerbaijan. For the past two years Turkey has been pursuing a case against Iran at the International Court of Arbitration in Geneva, demanding Iran reduce the price by as much as 30%.

Ankara is also seeking as much as $2bn compensation for periods when the supply has failed to turn up. These include two months in the winter of 2011-12 when supply was cut for all but a few days, and more recently in December-January, when the volumes were reduced without warning.

Against those demands, Turkey has offered Tehran a deal that, should the dispute be settled, would see it increase gas imports. It is also offering to act as a transit route for Iranian gas to Europe - a possibility that is not as unlikely as it sounds since the EU-backed Nabucco gas pipeline project that was planned to connect Azerbaijan and Iran was abandoned.

Turkey already has its own pipeline project planned to carry Iranian gas - the 34bn cubic metres per year Iran-Turkey-Europe pipeline being developed by Istanbul based Turang Tasimcilik. Although analysts question whether Turang - a subsidiary of petrol trader Som Petrol - has the ability to actually develop the line, the company has an exclusive agreement with Tehran, an exclusive 30-year licence to develop the Turkish section of the pipeline, and over $6bn in investment incentives. That portfolio should ensure Som Petrol plenty of suitors

as and when sanctions are lifted and international oil companies are allowed to develop Iran's giant South Pars gas field.

Spaghetti junction

Iran is also pushing relations in the Caucasus and Central Asia. While Teheran has never had the clout of Russia, China or the US, it has successfully built strong relations with several countries in the region including Armenia, Georgia, Kazakhstan and Tajikistan.

As with Turkey, the benefits of closer ties with these countries is obvious: sitting at a nexus between Europe, Russia and the Middle East, Iran's geography means it should be playing a large role in the region, all other issues being equal.

But the region is complicated, already criss-crossed with numerous strategic alliances such as the Azerbaijan-Georgia- Turkey axis on the one hand, and the tense relations between Azerbaijan and Armenia on the other. In addition, Russia always looms in the background. Adding a freely-trading Iran to this mix would make things even more confusing.

"Alliances in the Caucasus region are very much steered by the geo-political situation," Eugene Chausovsky, Eurasia analyst at Stratfor, tells bne. "We may see Iran becoming a stronger player in the region as a result of the still early, but potentially significant, negotiations over the nuclear agreement and alleviation of sanctions."

Tehran's good relations in the region have been reflected in the ambivalent attitude towards the international sanctions. Armenia has continued to step up cooperation in the energy sector, including through gas-for-electricity exchanges and plans to build hydropower plants on the Aras River, which marks the border between the pair. Armenian Prime Minister Tigran Sargsyan noted on February 13 that boosting ties with Iran is a foreign policy priority.

While Christian Armenia and Georgia may not appear natural allies of Islamist Iran, they have formed a strategic alliance. In particular, Armenia's hostile relations with Azerbaijan and Turkey leave it heavily reliant on Iran and Georgia.

In mid-2013, Georgia came under scrutiny from the US over speculation that Iranian companies were trying to circumvent the sanctions using the Caucasian country. The number of Iranian businesses registered in Georgia leapt more than ten times in just two years when Tbilisi relaxed visa rules in 2010. That said, Prime Minister Bidzina Ivanishvili quickly reversed the regime following the US probe, illustrating clearly which way the wind blows.

"Despite the relations between Georgia and Iran, Georgia's foreign policy priority is towards the west," says Nika Chitadze at the International Black Sea University. However, he adds that, "after the lifting of sanctions we may see more Iranian companies trying to invest into Georgia. Iran has already expressed an interest in using Georgia's transport and port infrastructure, and ties could grow in other sectors from construction materials to tourism."

In contrast to the friendly relations Iran has with the two other South Caucasus states, its relations with Azerbaijan are among of the most complex in the region. In many ways, the two countries look to be natural allies, given their cultural similarities and shared religion. On the one hand, Azerbaijan has built skiing resorts - specifically tailored for Middle Eastern holidaymakers - and its tourism sector is booming on the back of growing numbers of Iranian visitors. But political relations remain confused, due to an underlying rivalry.

Iran's good relationship with Armenia, and its support for Yerevan over Nagorno Karabakh, has infuriated Azerbaijan, which in turn has struck a strategic alliance with Israel. The pair is also at odds over ownership of several offshore Caspian oilfields, and both countries fear cultural influences from the other that could destabilise their regimes.

However, the situation gets even more confused. Azeris make up Iran's largest ethnic minority, with estimates suggesting the numbers living in Iran run from 12m to as high as 22m. Both figures are higher than Azerbaijan's population of 9.6m. Recently, this minority has become more vocal; at mass protests this year, demonstrators carried banners insisting: "South Azerbaijan is not Iran".

Meanwhile, Tehran fears the influx of western cultural influences, such as music and films, from secular Azerbaijan on its population. During the Eurovision song contest hosted in Baku in 2012, Iran withdrew its ambassador, accusing its neighbour of "undermining Islamic values" and "hosting a gay parade".

Conversely, Baku is concerned about the threat of Islamic fundamentalism from Iran - a fear that has been stoked by attempted terrorist attacks on the Israeli embassy in Baku and other targets. Shortly before Eurovision, 22 Azeri citizens - allegedly trained by the Iran's Revolutionary Guard - were arrested on suspicion of plotting terrorist attacks.

However, since Hassan Rouhani's election as Iranian president in June, there have been some indications of a thaw in relations. Politicians from both countries have spoken optimistically on the issue. Rouhani said in July that ties are "based on friendship and mutual trust" and expressed a hope for the "development and strengthening" of relations. More recently, in February, the parliament speakers from the two countries met to discuss cooperation.

At the same time, there is concern that should Tehran lose its pariah status, the US may back away from its support for Azerbaijan. As an ally of Israel and a Muslim state friendly to the West, Azerbaijan has been a valuable partner to the US - an alliance that has earned the White House criticism for its support of President Ilham Aliyev's authoritarian government. If Iran is no longer a threat, Washington may reassess its relationship with Baku.

However, that's unlikely to happen, given Azerbaijan's large oil and gas reserves, which are being exploited by US oil majors including Chevron and ExxonMobil alongside other international companies. Those hydrocarbons also allow Baku to maintain a foreign policy stance independent of Moscow.

"In my opinion, the US will continue to be interested in Azerbaijan because of the US companies operating in the Caspian oil projects," Chitadze suggests. "Azerbaijan also shares a border with Russia, which is the main geo-political rival of the US in the region."

Finally, Azerbaijan - like Turkey - offers yet another potential route for Iranian gas headed for Europe. The Southern Corridor project, a European initiative to directly access gas from the Caspian and Middle East to allow it to reduce dependence on Russia, originally envisaged Iran as the main supplier. Iran's proven gas reserves, at 33.6 trillion cubic metres dwarf Azerbaijan's 900bn cubic metres.

Since the project was hatched, however, Azerbaijan has supplanted Iran to become the initial supplier. The first supplies from the offshore Shah Deniz field are due to reach European customers by 2019, after agreements on the second phase development of the field and construction of pipeline infrastructure to carry the gas to Europe were signed in December.

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