LONDON - Iran's state finances have come under unprecedented pressure and the resilience of ordinary people is being tested by soaring inflation as oil income plummets due to tightening Western sanctions and sharply falling oil prices.
Tough financial measures imposed by Washington and Brussels have made it ever more difficult to pay for and ship oil from Iran. Its oil output has sunk to the lowest in 20 years, cutting revenue that is vital to fund a sprawling state apparatus.
Already down by more than a quarter, or about 600,000 barrels per day, from rates of 2.2 million bpd last year, shipments of crude oil from Iran are expected to drop further when a European Union oil embargo takes effect on July 1.
Tehran is already estimated to have lost more than $10 billion in oil revenues this year.
Causing even more pain, oil prices fell below $100 a barrel last week to a 16-month low amid a darkening outlook for economies in Europe, the United States and China.
"This is an act of economic warfare. The sanctions are having a big effect in cumulative terms: Iran is being locked out of the global financial system," said Mehdi Varzi, a former official at the National Iranian Oil Co.
"It does appear that Iran is more amenable to negotiations now than it was a year ago. The West should take advantage of this momentary situation to offer more meaningful concessions - a road map to where this will all end," said Varzi, now running an energy consultancy in Britain, Varzi Energy.
Diplomats and analysts say Iran may offer the IAEA, the UN nuclear watchdog, increased cooperation as a bargaining chip in its negotiations with world powers, which resumed in April after a 15-month hiatus and are to continue in Moscow on June 18-19.
Basic mathematics dictate that the lower Iran's oil exports, the higher the oil price it will need to stay in the black.
According to the International Monetary Fund, Iran needs oil at $117 a barrel to balance its budget, set at $462 billion. President Mahmoud Ahmadinejad has said the budget was designed to decrease Iran's dependence on oil revenues.
Senior Iranian oil officials have acknowledged that sanctions have reduced exports but say the country has long experience of finding ways around them and a drop in oil revenue is not the end of the world.
"Personally, I will be very happy if the dependence of the economy on oil revenue is decreased," said an Iranian oil official, who requested anonymity. "We can use the sanctions as an opportunity".
Iran struck by soaring oil prices
International sanctions have been a fact of life in Iran for decades and Tehran is adept at working round them.
But there are growing signs that ordinary people are feeling much more pain from them than in the past as inflation has soared in the last six months.
"I was struck by the high prices when I went to the grocery store yesterday," said Ahmad, 54, who owns a small fabric shop in Tehran's bazaar.
He said the price of apples had more than doubled in the past month and strawberries had almost tripled to 110,000 rials per kilo, or more than $6 at market rates.
"Little by little, even fruit is becoming a luxury."
Inflation is now officially running at about 20 percent, although economists say prices of the goods most Iranians worry about are rising much faster.
The country is undergoing what the government has called major economic surgery, in the form of cuts to the multi-billion dollar subsidies which for years have held down the price of essential goods such as fuel and food.
The value of the rial began to slip in January and traded at around 20,000 rials per dollar in February, up from 10,500 rials in December. It now stands at around 17,800 rials at market rates while the official rate is 12,260 rials to dollar.
The price of petrol on the domestic market remains stable but taxi and public transport fares have gone up.
Sanctions are also painfully reshaping flows of goods for small enterprises, with one owner of an import company in Tehran saying he was forced to fire some workers recently after being forced to source his purchases from China instead of Europe.
"The shift caused a great deal of financial loss for us. I am not sure how much longer we can go on like this. We certainly will not be able to cope if financial sanctions on Iran intensify," the entrepreneur, who asked not be named, said.
Without buyers, oil stranded on Iranian tankers
On the export front, several big European companies have halted purchases of Iranian oil and others are winding down.
Iran had hoped that energy-hungry China and India, both major customers, would mop up much of the oil left homeless by European clients. That may not be the case.
"Our impression is that China and India have not been as helpful as the Iranians expected," said a senior Western oil executive, who declined to be identified.
"But it's very difficult to get a clear picture of how much oil is moving because they are deliberately cutting off communication."
Since early April, Tehran has been hiding the destination of its oil sales by switching off tracking systems on its tankers.
But barrels counted upon arrival in Iran's top four customers - China, India, Japan and South Korea - show a 20 percent decrease, or 357,000 bpd, so far this year, according to government data and industry sources.
That translates into a loss in revenue of roughly $35.7 million a day, or $4.3 billion in the first four months of this year, based on current Brent crude prices.
Iranian crude is sold at a discount of several dollars per barrel to benchmark dated Brent, so the actual losses are likely to be even higher.
Some relief has come from soaring prices earlier this year as Brent so far in 2012 is averaging $116 a barrel, up from 2011's $110, which was a record high. But reduced output and falling prices are making things worse very quickly.
From July 1, Morgan Stanley expects Iranian exports to fall by a further 150,000 bpd while the International Energy Agency has said they could almost halve by 1 million bpd.
That is putting Iran on course for a huge drop in oil revenues, while those of its rivals from the Organization of the Petroleum Exporting Countries will hit a record.
According to the London-based Centre for Global Energy Studies, the strong oil price has put OPEC on a path to earn $911 billion from oil exports this year.
Iran - OPEC's second biggest producer - could see a 39 percent decrease this year to $44 billion, while Saudi Arabia is expected to see a $3 billion increase to $294 billion.
Belt tightening may be needed for Iran to withstand lower oil prices and exports after the EU sanctions take full effect.
"The only way around it will be for Iran to cut the budget, which has a lot of fat," said Varzi.