Lights Out

By Andrew J. Tabler

ForeignPolicy.com, July 19, 2011

By targeting Syria's energy sector, the United States can hit President Bashar al-Assad where it really hurts -- his pocketbook.

Four months into Syria's uprising, the violence wracking the country is bad and getting worse. The restive city of Homs witnessed sectarian clashes over the weekend that reportedly left dozens dead, while forces loyal to Syrian President Bashar al-Assad converged on the eastern town of Abu Kamal. As the Assad regime's iron-fist-in-a-velvet-glove approach to the uprising continues to fail, all eyes are focused on the Aug. 1 start of the Muslim holy month of Ramadan, when the minority Alawite regime's killing of predominately Sunni protesters could transform the uprising into a sectarian bloodbath.

This bloodshed, which is tragic in its own right, is also causing the sputtering Syrian economy to grind to a halt. Such a development would be particularly dangerous for Assad, as it could cause the business elite in the commercial hubs of Damascus and Aleppo to finally break ties with the regime and join ranks with the opposition. Iran, Assad's staunch ally, is no doubt aware of the threat; Tehran is reportedly mulling a $5.8 billion aid package to Syria, as well as providing a daily supply of 290,000 barrels of oil for the next month. Fortunately, cash-strapped Iran does not have the resources to indefinitely bail out Assad if the United States organizes a Western effort to hit Syria in its Achilles' heel -- namely, its energy revenues.

The longer the Assad regime teeters, the more violent and bloody Syria is likely to become. The Syrian people, the United States, and the international community, therefore, share a common interest in having as short a transition as possible. To help end the bloodshed and bring about a quicker demise of the Assad regime, Washington should now be more ruthless with the Assad regime as well.

Syria produces around 390,000 barrels per day (BPD), down from a high of 600,000 BPD in 1996, and about 6 billion cubic meters of gas annually. Of that, Syria exports around 148,000 BPD of heavy and sour "Souedie" crude, with revenues accruing directly to the state; all gas is used domestically. According to the International Monetary Fund and U.S. government estimates, oil sales account for around one-third of state revenue, with the remainder increasingly made up through corporate and public-sector employee taxes.

But the protests have hit the Syrian economy and currency hard, a fact that is expected to substantially decrease tax receipts. Damascus, therefore, is likely to become increasingly reliant on oil revenue. This in turn would constrain the regime's ability to fund the security services and the army (the primary bodies responsible for the brutal crackdown), maintain market subsidies (e.g., for diesel fuel and gasoline), and pay off vital regime patronage networks.

Declining revenue will also force the regime to resort to more deficit spending. It could borrow against the $17 billion in reserves at the Central Bank of Syria, but this would essentially be printing money, causing inflation that would undermine the Syrian pound and confidence in the banking system. The regime could borrow more from state-owned and private-sector banks, where the Damascene and Aleppine business elite put their savings. But as the protests continue to grow and the cost of doing business with the Assad regime dramatically increases, Syrian merchants and businessmen are likely to pull their deposits. Either scenario would undermine the regime's economic lifeline and help spur elite defections -- a key element to developing a new political order.

Beyond the targeted sanctions on Syrian officials already imposed by President Barack Obama's administration, Washington has tools for leveraging Syrian energy and depriving the Assad regime of critical foreign exchange earnings. Here are six ways to up the pressure:

1. Pressure purchasers of Syrian crude: The Obama administration could prod the chief buyers of Syrian oil -- companies in Germany, Italy, France, and the Netherlands -- to stop purchasing the regime's oil. Syrian oil is sold on the spot market and via long-term contracts at a price around $10 less than the Brent crude benchmark. These contracts could be abrogated if the European Union were to slap sanctions on the sale of Syrian oil in Europe. Given Europe's strong stance on human rights and the bloody trajectory of the crackdown thus far, support for this measure is likely to increase.

Some in Europe, however, are reportedly concerned that cutting off oil shipments could constitute a kind of collective punishment akin to U.N. oil sanctions on Saddam Hussein's Iraq. While the comparison is a bit problematic -- the Iraq sanctions stemmed from a U.N. Security Council resolution, which is not yet in the cards for Syria -- it's important to note that oil revenues in Iraq constituted a much higher percentage of foreign exchange and budgetary revenue.' While Syrians still depend on the public sector for employment and subsidies, many if not most Syrians increasingly have taken full- or part-time work in the private sector to make ends meet. In other words, sanctioning Syrian oil would affect the regime's finances far more than its people.

Yes, the Syrian regime could ship its heavy crude to China and India, which have refineries tuned to process Syria's heavy and sour crude. But doing so would increase shipping costs considerably, especially as Syria's oil terminals cannot handle the large tankers that make long-haul shipments much more profitable.

2. Pressure foreign oil companies in Syria to divest: The Obama administration, together with the European Union, could pressure multinational energy companies involved in Syrian energy -- namely, Royal Dutch Shell, Total, Croatia's INA Nafta, and Petro-Canada -- to divest their operations. Most importantly, it should ask Britain to halt the operations of Gulfsands Petroleum, the onetime Houston-based firm that moved to Britain in 2008 to avoid U.S. sanctions on Rami Makhlouf, Assad's cousin and Gulfsands's Syrian business partner.

The advantage of this approach is that it gets Western multinationals and technology, which is most efficient in boosting the flagging production of Syrian Souedie crude and carrying out new exploration, out of the country. But it would take these companies time to divest, and their operations would almost surely be taken over by non-Western companies operating in Syria, including India's Oil and Natural Gas Corp., the China National Petroleum Corp., and Russia's Tatneft.

3. Interrupt oil-tanker payment mechanisms: The state-owned Commercial Bank of Syria (CBS), Syria's largest bank by far in terms of assets, largely handles Syrian oil sales. Washington sanctioned CBS in 2004 for insufficient anti-money-laundering procedures, forcing the bank to close its correspondent accounts in the United States. Many European banks closed their correspondent accounts with CBS as well to protect themselves against possible U.S. sanctions violations, but a number of other European banks have not. If the Obama administration pressed the European Union to sanction CBS -- or just persuaded individual European banks directly to stop doing business with it -- Washington could effectively close off the way the regime turns oil into cash. Similar measures could target the tanker shipments' finance and insurance mechanisms.

The advantage of this approach is that it could be rolled out relatively fast. The downside is that it could push Syrian payments underground via banks in Dubai and Lebanon. Such transactions would likely be funneled through Syria's new private-sector banks, many of which have formed joint ventures with Lebanon's banking giants.

4. Sanction tankers hauling Syrian oil: In the past, the United States has targeted shipping vessels as part of tightening sanctions on its adversaries, including through the Helms-Burton Act on Cuba, as well as the Comprehensive Iran Sanctions, Accountability, and Divestment Act. Washington, together with the European Union, could issue a decision by which any ship hauling Syrian oil would be banned from any future business in the United States or the European Union. The advantage of this move is that it would leverage these shipping companies' U.S. and EU business against the value of their trade with Syria. It also would increase the regime's cost of shipping oil, which decreases profit margins. This move would make it more difficult for Syrian crude to reach Western and global markets. Shipping lines that don't currently do business with the United States or the European Union could step in to haul the oil, but less competition would likely drive up the regime's shipping costs.

5. Pressure Middle Eastern countries to hold back oil and petrodollar bailouts: Syria often turns to regional allies for crude oil, refined products, or charity when it's in a bind, most notably Iraq, Saudi Arabia, the United Arab Emirates, and Iran. In the years leading up to the U.S. invasion of Iraq, for example, Syria bucked U.N. sanctions on Saddam Hussein's Iraq to the tune of 200,000 BPD, which it received at a heavily discounted price (paid into accounts of Uday and Qusay Hussein with the Commercial Bank of Syria). In the 1990s, Saudi Arabia also invested petrodollars in Syria to help bail out the regime, efforts that in recent years have been taken over by Iran and Qatar.

In the face of the regime's increasingly brutal crackdown, the United States should persuade Baghdad, Riyadh, and Doha to withhold support for Assad. It should also pressure Egypt and Jordan to cut gas supplies through the Arab Gas Pipeline, which terminates in Syria. The advantage of these moves is that it would narrow the regime's bailout options. The downside, of course, is that it could push Assad further into the arms of Tehran, over which Washington has little leverage and with which Syria already has a strong relationship.

6. Target imported refined gasoline and diesel products: Syria became a net importer of oil four years ago -- years ahead of industry estimates. Its two state-owned refineries cannot process Syria's domestic heavy crude into enough diesel fuel and gasoline to satisfy rapidly increasing domestic demand. Thus, diesel is Syria's Achilles' heel: Everything from irrigation pumps to home furnaces to trucks burn diesel, which is heavily subsidized by the state. Meanwhile, Syria's upper and middle classes rely much more on gasoline to fuel their automobiles. Take away these refined fuel imports and the people will get angry.

Yes, targeting either fuel is a blunt instrument and generally considered a "nuclear option." It's a tactic that should only be used at a critical moment, especially in response to a massacre. If used too soon, it could end up targeting the Syrian population as a whole, thus playing into the regime's line of blaming the uprising on a U.S. "foreign interference," which it did two weeks ago in response to Ambassador Robert Ford's overnight visit to Hama and Secretary of State Hillary Clinton's words about Assad last week.

Thus far, some European allies have expressed "sanctions fatigue" as a result of Washington's earlier effort to impose measures on Iran to change its behavior -- a process that thus far has had mixed results. Over the last few months, the United States and the European Union have sanctioned a number of regime officials and affiliates responsible for the crackdown. Although these measures are useful, they will not go far enough to address the regime's finances as a whole.

To overcome European reticence, the United States could start with pinpointed measures to mitigate the impact of sanctions on the Syrian people, widening their scope in tandem as necessary or as the regime's crackdown unfolds. And it needn't be set in stone: Washington and Brussels should adopt measures that can be easily undone in the event that the Assad regime collapses, allowing a quick reward for a transitional government in Damascus.

Although energy revenues don't play as large a role in the Syrian economy as they did a decade ago, oil is still a determining factor in the politics of the Middle East. No matter what policy Washington and its allies choose, targeting Syrian energy would cut off a vital lifeline for Assad and help spur the transition to a more humane government for the Syrian people.

Andrew Tabler is the Next Generation fellow at the Washington Institute for Near East Policy and author of the forthcoming book In the Lion's Den: An Eyewitness Account of Washington's Battle with Syria. 

In a Corner

In a Corner
Even with little to show, Obama still hasn't given up engaging America's foes. In Syria, it might just work.

By Andrew J. Tabler

Newsweek Web Exclusive
Feb 17, 2010

Khaled Al-Hariri / Reuters-Landov
As the White House was naming the new ambassador in Washington, Under Secretary of State William Burns was meeting President Bashar al-Assad in Damascus.


This week, President Obama named Robert S. Ford as his ambassador to Syria—meaning that he still intends to engage America's foes. (Ford would be the first U.S. ambassador there since the 2005 assassination of Lebanese prime minister Rafik Hariri.) And while the president's record so far against Venezuela, North Korea, and Iran might merit a reconsideration of the "engagement agenda," this time it might be different, because Syria is in a bind. The regime is running record budget deficits, and it is suddenly fanatical about ending U.S. sanctions (which, Damascus has only just admitted for the first time, are truly damaging). Once upon a time, Syria was obsessed by political problems—Lebanon, President Bush, the Golan Heights. Today, the game is more about economics than ever before (including the last time we tried serious engagement with Syria). Which means President Bashar al-Assad may finally be ready to play ball.
The backstory, of course, is sanctions—and how badly they've hit the Assad regime even if they haven't changed its behavior yet. They began in 1979, when the United States added Syria to the list of state sponsors of terrorism for supporting Palestinian terrorist groups, but the screws really tightened after 2003, when Syria allowed jihadist insurgents fighting the U.S. occupation to cross into Iraq. The resulting Syrian Accountability and Lebanese Sovereignty Restoration Act (SALSA), alongside a series of executive orders, banned all U.S. exports except food and medicine, seized the assets of regime officials, and banned U.S. dollar transactions with the state-owned Commercial Bank of Syria. With enforcement overseen by the no-nonsense Commerce Department, it became even harder to trade with Syria than with Iran.
To protect their pride, officials from Damascus had to pretend the sanctions didn't hurt them very much. But the evidence is everywhere. First Syria had to switch from deals in dollars to those in euros to avoid restrictions on dollar-denominated oil sales. Then the regime had to ground most of its civilian air fleet—as well as President Assad's personal jets—because the sanctions forbid the sale of spare parts without an export license. (Sanctions classified anything with more than 10 percent American content as an American product, and since U.S. companies dominate the aerospace industry, even third-party retailers from other parts of the world couldn't sell the parts to Syria.) Worse still, Damascus was compelled to institute rolling electricity blackouts because U.S. sanctions made it very difficult for international companies to build new power stations there. Executive orders by President Bush even held up the sale of a number of lucrative companies owned by Assad's cousin.
The regime's economic woes only made sanctions more effective. Syria's Central Bureau of Statistics (CBS), which supplies official figures used by the International Monetary Fund, claims that the economy grew at 4 percent in 2009. But other data make those numbers appear to be exaggerated: in the past five years, oil production—traditionally the regime's lifeline—has plunged 30 percent, making Syria a net importer and causing Damascus to run record budget deficits upward of 10 percent of GDP. (Deficits are new in Damascus; when Assad's father was president, budgets were always balanced.) Then a massive three-year drought devastated Syrian agriculture, displacing up to 300,000 residents in Syria's northeast. Meanwhile, free-trade agreements between Syria and Turkey undermined Syria's heavily protected market, slamming Syria's manufacturing sector, which contracted some 14 percent in the past two years. Exacerbating these pressures, children born during a baby boom in the 1980s and early 1990s are finally entering the labor market, meaning that the Assad regime has to create more jobs than ever just to keep the official unemployment rate steady at 11 percent. Damascus has never needed a bailout as badly as it does now.
And Washington has the means, but its checkout list is long. In the short term, the United States wants the regime to return to talks with Israel and cut off the flow of jihadists into Iraq. In the long term, Washington wants Damascus to sign a treaty with Israel (which would return the Golan Heights) and end its support for Hizbullah and the Palestinian party Hamas (whose military leadership is based in Damascus). This, the thinking goes, would create tension between Sunni Syria and Shia Iran, with which Assad has a close military relationship and several sweetheart investment and assistance deals. (Iran also sends arms to—and trains militants from—Hizbullah and Hamas.)
That's why Washington is looking for creative ways to turn sticks (sanctions) into carrots (cash). Syria clearly wants the Obama team to dump trade sanctions, banking restrictions, and a spate of executive orders from the Bush years that make life difficult for the regime. For its part, Washington has already eased export-license restrictions on aircraft repairs for the state-owned Syrian Arab Airways. It is also considering more scholarships (for Syrians to study in the United States), cultural and business exchanges, lifting its block of Syria's WTO application, and repairs to more Syrian aircraft—in return for incremental changes in Assad's behavior.
It's true that we've been down this road before, which is why there are plenty of doubters in Washington—those who think that, even if we bankrolled Syria's entire government, it wouldn't change Assad's behavior. After the October 1973 War, the United States extended $534 million in assistance to Damascus, hoping to lure it from the Soviet orbit and into a peace treaty with Israel. Instead, Syria became a leading critic of the 1979 Camp David accords (between Israel and Egypt), earned the label of state-sponsor of terrorism, and was cut off from U.S. assistance. When Washington reengaged Damascus in the 1990s, American diplomats circumvented the ban on foreign aid by enticing U.S. companies to invest in Syria's energy sector, including a $430 million gas deal with ConocoPhillips. The down payment came to nothing when Assad's father, Hafez, turned down President Clinton's March 2000 Syria-Israel peace treaty in Geneva.
This time, though, it's different. During those previous overtures, the Syrian regime was economically viable. Today, it badly needs Western technology to squeeze every last drop out of its declining oil fields and irrigation projects and foreign investment to create enough jobs for youth entering the labor market. The best way for the regime to do this is to get Washington to end sanctions, which, it hopes, would make Syria seem like a safe investment opportunity for businesses—a tough sell considering the nation has technically been at war with Israel for 62 years, spawning the inevitable corruption that comes with indefinite martial law. (Syria is ranked 126 out of 180 on Transparency International's list.)
That's why President Obama may be tempted to ease Syria's pain—by rewriting the executive orders girding the sanctions regime due to be renewed next May—with some expectation that he'll get something in return. He shouldn't. Since Syria won't abandon support for terrorist groups tomorrow, Washington should start small, with selective adjustment of sanctions rather than their outright cancellation. As Senate Foreign Relations Committee chairman John Kerry said last year, "Sanctions can always be tightened if Syria backtracks" from any deal with American negotiators. Those small steps (like Ford's appointment, for example) are exactly the thing Syria is looking to respond to.
Tabler is Next Generation Fellow at the Washington Institute for Near East Policy and author of the forthcoming In the Lion’s Den: Inside America’s Cold War With Asad’s Syria .
© 2010

Global Economic Crisis Boosts Utility of US Sanctions on Syria

PolicyWatch #1482

Global Economic Crisis Boosts Utility of U.S. Sanctions on Syria

By Andrew J. Tabler
February 26, 2009

On February 9, the Syrian minister of transportation announced that Washington had granted a license allowing Syria to purchase spare parts for two Boeing 747s that have been grounded for years. The announcement touched off intense speculation that the Obama administration would lift U.S. sanctions against Syria that have been in place since 2004. Even as Washington appears to be softening its stance with an eye toward engaging Damascus, sanctions remain an important tool to ensure that engagement achieves U.S. policy goals. Rather than dropping sanctions, Washington should recalibrate them to leverage the economic pressure on Damascus that has been exacerbated by the global economic crisis.
Syria's Economic Woes

Despite U.S. sanctions, the Syrian economy has performed relatively well in recent years. Fueled by high oil prices and increased investment from the Gulf, Syria has posted an average annual economic growth rate of about 5 percent over the past five years. There are, however, big problems: oil production -- proceeds from which account for 27 percent of state revenues -- is declining by about 9 percent per year. And Syrian industry -- accounting for 28 percent of the gross domestic product (GDP) -- is struggling to compete under a flood of imports resulting from Arab and Turkish free trade agreements. Likewise, unemployment hovers around 9 percent, and a record three-year drought has devastated the Syrian agricultural sector (23 percent of GDP).

Since the global economic crisis hit, Syria's economic situation has worsened. The collapse in oil prices forced the state to revise its budget oil price downward to $51 for light crude and $42 for heavy, resulting in a record budget deficit of $4.8 billion, or roughly 10 percent of its GDP. Syria is a net importer of oil, however, and the state earns revenue from exports while the cost of importing petroleum products (largely fuel oil) is borne by consumers. In the past, the government subsidized petroleum products, but it raised prices in 2008 to a point where the government now earns revenue from domestic fuel oil sales. Therefore, a reduction in oil prices still reduces government revenue. With Syrian crude averaging $38 and $32 for light and heavy respectively, the Economist Intelligence Unit now estimates the budget deficit will swell to $5.2 billion.

Although the state usually makes up for budget shortfalls by slashing investment spending -- a line item that accounts for 40 percent of the 2009 budget -- this tactic will be more difficult now. Syrians born in the 1980s and early 1990s, when the country was among the top twenty fastest growing populations in the world, are now flooding the job market. According to Syrian deputy prime minister for economic affairs Abdullah Dardari, Syria will need $14 billion of investment over the next two years to meet the 6-7 percent economic growth targets required to create enough jobs for the growing workforce.

A recent Syrian Economy Ministry report quoted by news agency AFP stated that the crisis would result in an estimated 30 percent drop in foreign investment, which totaled $875 million in 2007. The report also estimated that expatriate remittances, which amounted to $850 million last year, would fall while prices would rise. Last year, the International Monetary Fund estimated Syrian inflation at a record 15 percent, up from 5 percent in 2007.

Impact of Sanctions

The bad economic news explains Damascus's recent shift in focus from the need for Washington to mediate peace talks to a demand for Washington to drop U.S. sanctions. In an interview with Reuters news service this month, Dardari said that "to have normal relations between Syria and the United States, sanctions should be lifted. . . . This is going to be a very important part of any dialogue. . . ." His statements echo those of Sami Moubayed, a member of the U.S.-Syria Working Group (whose Syrian members were handpicked by the Bashar al-Asad regime to participate in Track II dialogue) who first linked lifting U.S. sanctions to dialogue with Syria just two days after the election of Barack Obama.

These statements represent a reversal of the regime's standard rhetoric on sanctions. When the Syrian Accountability and Lebanese Sovereignty Restoration Act (SALSA) was implemented in May 2004, Damascus bragged that the sanctions would have little effect due to historically small amounts of bilateral trade. Many Syria observers questioned the utility of U.S. sanctions over the last few years, as spiraling food commodity and oil prices drove the dollar amounts (but not volumes) of U.S.-Syrian trade to all-time highs.

But there is ample evidence that U.S. sanctions on Damascus are having an increasing impact. SALSA, which bans all U.S. exports to Syria (except food and medicine), has hit Syrian aviation particularly hard. State-owned Syrian Air could not obtain parts for its fleet of American-made Boeing jets or purchase new aircraft from Europe's Airbus, which uses substantial U.S. content in its planes. SALSA also complicated Syrian oil and gas production by denying companies operating in Syria the necessary U.S. technology to increase diminishing Syrian crude output. Indeed, in the summer of 2007, Damascus blamed electricity blackouts on the "knock-on effect" of U.S. sanctions; companies specializing in major high-tech projects shunned operations in Syria for fear of running afoul of U.S. law. (The only legal exceptions to the sanctions were "export licenses" for U.S. goods for certain humanitarian purposes to promote the exchange of information and to help maintain aviation safety. It was under this provision that a license was issued to repair the two Syrian Air 747s last week.)

At the same time, U.S. actions targeting the state-owned Commercial Bank of Syria (CBS) have exacerbated Damascus's financial woes by making it more difficult to repatriate critical oil revenues. The U.S. Department of Treasury's March 2006 designation of CBS -- the depository for the lion's share of Syria's estimated $18-20 billion in foreign currency reserves -- as a "primary money-laundering concern" under the USA Patriot Act led all U.S. and a number of European banks to close their correspondent accounts. In anticipation of the move, Damascus switched state foreign currency transactions from dollars to euros, and since oil, the regime's lifeline, is denominated in dollars, the switch complicates the regime's ability to fund itself. In addition, the designation scared businessmen away from the CBS and toward the country's new private-sector banks, which operate under less regime control, effectively reducing the amount of cash the regime could access.

Executive orders freezing the U.S. assets of Syrian officials have likewise made global banks and investors wary of doing business with Syrian officials and regime businessmen. Last May, two American executives of Gulfsands Petroleum -- a company contracted to boost Syrian crude output -- resigned, and the company moved its headquarters from the United States to London after one of the company's partners, business tycoon and President al-Asad's cousin Rami Makhlouf, was targeted by an Executive Order focusing on public corruption in Syria. Later, Washington successfully pressured the Turkish mobile provider Turkcell to put off its bid to buy Syriatel, another Makhlouf-owned business. The U.S. designation was hailed by Syria's business community, which views Makhlouf, according to a new International Crisis Group report, as "a symbol of crony capitalism, resented by many colleagues for having bullied them into forced partnerships or out of lucrative deals."

Smart Sanctions Key to Success

As the fiscal crisis unfolds in Syria, existing U.S. sanctions could have a powerful negative impact on the Syrian economy, prompting Damascus to reevaluate its policies -- on U.S. designated terrorist groups (Hamas, Islamic Jihad, and Hizballah), Lebanon, Iraq, and weapons of mass destruction -- to obtain relief. This kind of policy review could form the core of future Syrian-U.S. dialogue. To ensure U.S. leverage, Washington should recalibrate sanctions based on a clear understanding of Syria's fiscal problems and changing socioeconomic trends, rather than lift sanctions as Damascus suggests. The resulting "smart sanctions" should be a key element of a comprehensive U.S. strategy to put Damascus into dilemmas in which its choices will clearly signal whether Syria intends to continue fanning the flames of regional militancy or to play a productive role in reinvigorated regional peacemaking.

If these targeted sanctions are effective, Damascus will be forced to choose between continuing its policies and suffering the economic consequences, or concluding clear agreements with Washington to change its policies and gain American assistance to put Syria on the road to prosperity. U.S. sanctions contain sticks and carrots to lead Damascus down this path. In the weeks and months ahead, the challenge before the Obama administration will be to assess which sanctions have been most effective, and to link -- via a process of benchmarking -- the removal of sanctions to discernible and irreversible changes in Syrian policy.

Andrew J. Tabler is a Soref fellow in the Program on Arab Politics at The Washington Institute, where he focuses on how to engage Syria in a way that best advances U.S. interests.

Syrians See an Economic Side to Peace

July 29, 2008
New York Times

By NAWARA MAHFOUD and ROBERT F. WORTH
DAMASCUS, Syria — Like most Syrians, Samer Zayat has no love for Israel. He was a little uneasy when Syria announced in late May that it was holding indirect talks on a peace settlement with its old nemesis.

Yet Mr. Zayat, a 35-year-old television cinematographer, says he views a peace deal with Israel as necessary and inevitable — not just for political reasons, but because Syria’s vulnerable economy needs all the help it can get.

“We are tired, the country is suffocating,” he said, as he played backgammon with a friend at a cafe here, the sweet smell of apple-flavored tobacco drifting around him. “We have suffered a long time from the political boycott and the sanctions.”

That sentiment is echoed by many others. Prices soared here after the Syrian government cut fuel subsidies in May, deepening the gulf between rich and poor in this nominally socialist state. It had little choice. The oil reserves Syria has relied on for so long are rapidly disappearing. The hefty budget surpluses of a decade ago have turned into multibillion-dollar deficits. A country that could once afford to be serenely indifferent to Western sanctions is now being forced to liberalize and open its economy.

None of this has changed Syria’s conviction that any peace agreement must include the return of the Golan Heights, the area captured by Israel in 1967. But a profoundly uncertain economic future has created additional incentives for peace, which could help lure foreign investment by ending Syria’s pariah status in the West.

A settlement with Israel “would lift a huge weight from our shoulders,” said Ghimar Deeb, a Syrian lawyer and economist who works with the United Nations here. It would lead to the lifting of sanctions, which would give Syria access to new investment, high-tech supplies and training opportunities, he said.

“Poverty is increasing, inequality is increasing, and I believe the street is frustrated,” Mr. Deeb said. “They need peace with all our neighbors.”

It is not clear that the Syrian government sees the economic troubles as a factor in negotiations with Israel. Although it began carrying out economic changes several years ago, the progress has been slow, and strategic political concerns have always been paramount for Syria’s president, Bashar al-Assad, and his father, Hafez al-Assad, who governed from 1970 until his death in 2000.

It is also far from clear that the talks will succeed. Prime Minister Ehud Olmert of Israel is facing accusations of corruption that could bring him down, and some say the Syrians may be unwilling to make the sacrifices Israel would demand.

This month, Mr. Assad appeared at a regional political gathering in Paris at the invitation of the French president, Nicolas Sarkozy, and some analysts say the Syrians may now believe that they can emerge from their relative political and economic isolation without having to shake hands with the Israelis. This is despite the fact that the Bush administration, which accuses Syria of supporting terrorism, has recently added sanctions on the government and its business associates.

But some analysts say they believe that Syria’s economic troubles must figure in the government’s calculations about regional peace.

“The transformation they have in front of them now is enormous,” said Andrew Tabler, a Damascus-based Syria analyst and consulting editor for the magazine Syria Today. “They must move from a state funded by oil revenues to one funded by taxation, and that has to play some role in their thinking.”

It would hardly be surprising: Syria’s oil used to be the mainstay of the government’s income, providing 70 percent of the country’s export earnings. Now it is drying up so fast that Syria is expected to be a net importer of crude oil in just two years, according to the International Monetary Fund.

Already, Syria is importing oil products at record prices, and paying huge subsidies to reduce the cost for its citizens. That is why Syria finally started cutting its ruinous subsidies over the past year, causing prices to rise and resulting in a domino effect on food prices.

Two bad harvests in Syria’s wheat-growing region have added to the problem. In May the government increased public sector salaries and pensions, which had averaged $130 a month for two million recipients, by 25 percent, putting another burden on the budget.

The government has revised the tax system, which was inefficient and ignored in the days when oil filled the government’s financial needs. Rates have been lowered but collections have increased substantially, said Hussein Khaddour, a Damascus lawyer and the president of the Syrian chapter of Junior Chamber International, a business group.

Other efforts have been made to create a more business-friendly environment, including revised laws on intellectual property. Some of the new entrepreneurial activity is visible to any visitor to Syria, though mostly on the high end: dozens of restaurants and boutique hotels have opened in the capital over the past two years.

“In the past 18 months, there has been a much faster liberalization,” said Abdul-Salam Haykal, who leads the Syrian Young Entrepreneurs Association. “People are realizing that the government is not the only provider for them anymore.”

That new activity, Mr. Haykal adds, is creating a new incentive and constituency for a real result to the talks with Israel.

“I think the biggest driver for peace is all this new business development,” he said.

Still, even congenital optimists like Mr. Haykal concede that serious challenges remain. Some investors say they are concerned about a lack of the rule of law and widespread corruption. Plenty of Syrians see any economic consideration as far less important than the need to confront Israel, widely viewed as an imperialist and predatory state.

Even Mr. Zayat, the cinematographer, said he would find it “very hard to accept” seeing an Israeli flag flying in Syria, and he believed that many other Syrians felt the same way.

But he added: “If peace is not achieved, then the possibility of war will always be open and that terrifies me. I fear for the future of my children and my family.”

Syria glitters, but glare hides woes

A bit heavy on official sources, but nevertheless a very good story from the Chicago Tribune on the problems behind Syria's liberalizing economy.