In theory, growing global interest in cryptocurrencies and the development of a nascent crypto-asset industry in Iran present additional instruments for the isolated regime to circumvent U.S. sanctions. Yet cryptocurrency activity is unlikely to offer the Iranian regime an immediate avenue for evading crippling U.S. sanctions. Mainstream crypto-activities in Iran will not evade detection by U.S. officials, and these financial technologies possess genuine tradeoffs related to the domestic Iranian market. Illicit crypto-activities and future developments in the industry, however, may present new opportunities for Iran to upgrade its U.S. sanctions evasion tactics over the medium and long terms.

The economic dimension of U.S. sanctions policy on Iran has been largely effective: The International Monetary Fund forecasts that Iran’s real gross domestic product growth for 2019 will fall to -9.5% and the annual inflation rate will reach 35.7%. World Bank reports suggest that by the end of the 2019-20 financial year, the Iranian economy will be 90% of its size just two years ago. U.S. sanctions have targeted crude oil exports, which reached around 2.3 million barrels per day in early 2018 and function as the lifeline of the Iranian economy. More recent estimates of Iranian crude oil exports range from a mere 200,000 b/d, according to the International Energy Agency, to 500,000 b/d per the U.S. Treasury Department’s assessment.

The country’s sustained economic isolation is further reflected in the depreciating value of its currency. The official exchange rate of the Iranian rial rests around 42,000 to the dollar, but few Iranians pay this rate. In early 2018, the market exchange rate stood at around 43,000 rials against the dollar, but its value quickly depreciated and currency traders offered around 190,000 rials to the dollar in September 2018. To tackle rising inflation and a depreciating national currency, the Central Bank of Iran proposed a redenomination and is in the process of studying how this financial reform might unfold.

Though suffering, the Iranian economy has proved resilient and seems far from economic collapse. This resilience stems from the country’s strong domestic capacity and experience managing sanctions. The IMF expects 0% growth in 2020 and 1% growth in 2021 and a general reduction in inflation rates over the next couple of years. There are signs that the currency devaluation may have bottomed out: The market exchange rate over the past two months has not exceeded 118,500 rials to the dollar. To protect savings, domestic investors have sought refuge in Iran’s stock market, which has outperformed many global counterparts this year.

Given Iran’s financial woes and determination to mitigate the impact of sanctions, crypto-assets present a theoretical hedge against local economic stagnation. Mainstream Iranian crypto-activity can be categorized into three nascent segments: digital currencies, direct cryptocurrency engagement, and indirect utilization of cryptocurrencies. In July, Iranian officials announced that a domestically encrypted digital currency would be unveiled in the near future. The stated purpose of the digital currency, which would be overseen by the Central Bank of Iran and backed by gold reserves, is to free up the frozen assets of local banks. The Russian Association of Cryptoindustry and Blockchain and Iran Blockchain Labs, a research center connected to the Sharif University of Technology and the Central Bank of Iran, signed an agreement in 2018 for Russian developers to help build Iran’s emerging crypto sector.

Examples of direct crypto-activity include cryptocurrency mining, speculation in crypto-assets, and trade through brokerages and exchanges. The limited surveys that exist on cryptocurrency usage within Iran indicate a propensity among Iranians to use cryptocurrencies for trading, mining, and payments. However, as sanctions tightened on Iran in late 2018, some cryptocurrency exchanges placed restrictions on Iranian users. Iranian cryptocurrency developers have also created a blockchain platform, IranRescueBit, to facilitate humanitarian support through aid donations in bitcoins, ethereum, and litecoins.

U.S. officials have signaled a willingness to target cyber actors and governments that employ cryptocurrencies to evade sanctions. In September, the U.S. Treasury Department’s Office of Foreign Assets Control sanctioned the Central Bank of Iran and warned governments against working with the “Iranian regime’s arm of terror finance,” according to the under secretary for terrorism and financial intelligence. Targeting the central bank complicates the deployment and utilization of any financial instruments, such as a digital currency, supported by the bank. In late 2018, the Office of Foreign Assets Control designated two individuals who exchanged bitcoin ransom payments into Iranian rials for Iranian cyber actors. President Donald J. Trump also issued an executive order sanctioning “any digital currency, digital coin, or digital token, that was issued by, for, or on behalf of the Government of Venezuela,” to stifle the Venezuelan cryptocurrency, El Petro. The Trump administration could simply issue a similar executive order that applies to Iran’s digital currency.

The Treasury Department’s broad definition of “digital currency” provides U.S. officials with maximum maneuverability to apply sanctions and related policies to Iranian cryptocurrencies and associated applications. That said, the ratio of cryptocurrency transactions to total global financial transactions remains quite small and therefore constitutes a minor portion of sanctions-related efforts. Confirmed daily transactions of bitcoin – the most popular cryptocurrency – reached a high of 452,646 in May and only averaged 318,491 over the year ending on October 15, 2019. The top 100 cryptocurrencies possess a total market capitalization of approximately $222.5 billion, according to CoinMarketCap. By comparison, in July SWIFT recorded a daily average of 32.57 million FIN messages – the transmitted directions that allow financial institutions to complete transactions. The estimated value of daily SWIFT transactions is more than $6 trillion.

The Iranian regime’s authorization of crypto-activities involves domestic tradeoffs. For example, Iran’s Cabinet ratified a bill in August clarifying that foreign cryptocurrencies are not legal tender and that the central bank would not recognize domestic transactions in foreign cryptocurrencies. The decision not only strengthens the central bank’s monopoly over domestic cryptocurrency activity but also helps to constrain capital flight. The existence of a robust crypto-industry wherein foreign crypto-firms operate outside of the strict confines mandated by the central bank would facilitate a two-way flow of capital. The government also clamped down on cryptocurrency mining – the energy-intensive process of verifying transactions and adding them to a blockchain digital ledger – because the activity places an undue strain on the state-subsidized power and electricity grid. These domestic tradeoffs have resulted in an inconsistent regulatory approach to cryptocurrency activities in Iran, as the regime wrestles against contradictory policy outcomes.

Illicit cyber activities and future developments within the fast-evolving cryptocurrency industry may shape Iran’s role in the global financial system over the medium and long terms. North Korea – another pariah of the global financial system – stole an estimated $2 billion by hacking banks and cryptocurrency exchanges. Iran could use these practices as a model for supplementing depleted government coffers, especially if key actors within the Iranian regime view escalation as the only viable response to the U.S. “maximum pressure” campaign.

Ongoing efforts by technology firms to reshape the global financial system, which appears to be the aim of Facebook’s Libra, may empower Iran to drive a wedge between U.S. foreign policy goals and the commercial initiatives of U.S. technology firms. Iranian cyber actors could exploit new financial instruments developed by U.S. firms, complicating U.S. sanctions policy. Moreover, certain digital tokens – assets that are built upon and hosted by existing blockchains – can obfuscate the traceability of international payments using strategies such as mixing. This process obscures the source and destination of cryptocurrency transactions by including them in a basket of transactions with similar values. Some of these tokens, such as Monero and Dash, have already been removed by many global exchanges, but demand for similar privacy-focused applications remains. One academic study estimated that around a quarter of bitcoin users and nearly half of bitcoin transactions are involved in illegal activities.

Stronger government regulation and centralization of cryptocurrency activity in Iran is at odds with the factors driving domestic demand for cryptocurrencies. Tehran aims to use cryptocurrency activities to circumvent U.S. sanctions. Average Iranians hope to hedge against further economic deterioration in the Iranian economy. Each side desperately wants access to the global financial system; however, for the moment, the U.S. government has the knowledge and means to prevent cryptocurrencies from serving as a viable path forward.