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Don't expect Iran detente to cool oil markets

By Elizabeth Rosenberg

WASHINGTON (Reuters) - Signs of a possible resolution to the standoff over Iran's nuclear enrichment program are generating considerable international enthusiasm, especially among oil companies and consumers anxious to see Iranian oil return to global markets.

But US congressional pressure to tighten sanctions and the reluctance of banks to risk violating sanctions will complicate efforts to achieve normalized relations between Iran and the West, and it is unlikely energy markets will see meaningful benefits soon. This will hold even if negotiators reach agreement, and may diminish Iran's belief in the positive impact of any offered sanctions relief.

Prominent leaders in the US Congress have recently signaled they will hold off on tough economic sanctions intended to completely cut off Iran's oil exports until after talks between Iran and the P5+1 (the United States, Great Britain, France, Germany, Russia and China) in Geneva later this month. But this restraint will be short-lived. Congressional strategy towards Iran is undergirded by the doctrine that major economic pain must be enhanced to exact large political concessions, even if Iran makes initial steps to meet P5+1 demands.

Congress can agree on little these days, but deep skepticism regarding the Islamic Republic enjoys wide bipartisan support. Iranian President Hassan Rouhani's recent charm offensive has done little to overcome this dynamic. Even if Tehran agrees to a modest nuclear deal in Geneva, these moves may not be enough for Capitol Hill.

Senate foreign policy leaders Robert Menendez and Lindsey Graham have echoed Israeli Prime Minister Benjamin Netanyahu's recent urging to keep up, and, if necessary, strengthen sanctions to exact much more than "cosmetic concessions" from Iran. They called for "the maintenance and toughening of sanctions and a convincing threat of the use of force," indicating an extremely high bar for an accommodation that will meet their approval.

Regardless of the results in Geneva, a stringent sanctions measure could emerge from the Banking committee next month, and Congress may pass final legislation to close remaining Iranian oil export avenues this fall as an aggressive tactical move or response to Iranian backsliding fears.

Another factor ensuring Iran-related upward oil price pressure is the difficulty Tehran faces in transacting oil sales. International sanctions target both the physical and financial sides of Iranian oil deals, exposing to sanctions penalty the purchaser and the financial institutions supporting any arrangement with the Iranian Central Bank - the recipient of Iran's oil receipts.

Even if the European Union (EU) and President Obama waive or temporarily suspend oil sanctions in coming months, international banks will be extremely cautious about exposure to reputational risk and expensive penalties associated with Iranian oil trade. Risk-averse financial institutions will steer clear of transactions that could be quickly brought back under sanction if a possible nuclear agreement with Iran falters, or if the US Congress overrules temporary suspensions.

And then there is the matter of physical supply. Even if sanctions are lifted and financial institutions find a safe harbor for deals, the challenge and slow speed of bringing Iranian oil back online from fields in decline will maintain a pressure factor in the market. Iran now exports roughly 1 million barrels per day (bpd), down from about 2.5 million bpd in 2011, the period before imposition of the harshest US and EU oil sanctions. Unable to sell all its crude, Iran has been forced to store crude and shut in field production.

Restarting operations will require Iran to inject natural gas into oil wells. The industry expects this to further limit the supply of natural gas during cold weather months when domestic demand and export obligations are greater.

The Iranian oil establishment is making noises about new plans, new contracts and foreign investment. European oil giants Total and Shell are socializing the idea of turning up Iranian taps by lauding Iran's role in meeting global demand. But even under the best political circumstances oil exports will be slow to increase.

Iran is likely to remain a key factor putting upward pressure on oil prices for some time to come. A nuclear accommodation between Iran and the P5+1 facilitating a modest increase in the flow of Iranian oil to market would offer some marginal, temporary price relief. But deeply held international concern over Iranian nuclear ambitions, the political sustainability of any nuclear deal, and the challenge of replacing lost Iranian oil supply in the market will sustain a longer-term upward oil price impact.

The U.S. Congress has proved a formidable factor in starving Iran's economy of revenue and access to financial reserves stranded abroad, and most global financial institutions are skittish about getting caught in the crosshairs of US regulators that have not hesitated to impose expensive penalties. These factors are powerful price drivers that will persist until a fundamentally different and vastly more positive relationship between Iran and the international community is articulated, formalized and shown to last.

(Elizabeth Rosenberg is a Senior Fellow and Director of the Energy, Environment and Security Program at the Center for a New American Security and a former senior sanctions advisor at the US Treasury Department. The views expressed are her own.)

(Editing by Alden Bentley)

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