Despite the burgeoning power struggle, in June 1993, Rafsanjani handily won a second term as president, although his share of the vote shrunk from 95 percent in 1989 to 63 percent. Voter participation dropped precipitously from 70 percent to 56 percent, indicating frustration with Rafsanjani’s failure to deliver economic benefits and the broader failures of the Islamic Republican system to achieve social and political reform. Khamenei and the hardliners would capitalize on Rafsanjani’s lack of a strong popular mandate to further marginalize him during his second term.

The state’s populist relationship with the lower classes, which included the provision of food and fuel subsidies, broke down during Rafsanjani’s second term as he put in place austerity measures to stabilize Iran’s moribund economy. As living standards declined, Iran faced sporadic labor unrest and riots over municipal efforts to crack down on illegal squatting.

The IRGC had initially backed Rafsanjani’s economic development agenda, as the group benefitted from lucrative government contracts. However, the need to protect its economic interests led to it aligning fully with the Supreme Leader and becoming the leading bulwark against Rafsanjani’s pragmatism and reformist ideology. According to security analyst Afshon Ostovar, an expert on the IRGC’s role in Iranian society, “Initially, this meant supporting Rafsanjani (who encouraged and enabled the IRGC’s economic role) and most of his policies; however, as Rafsanjani took measures in his second term aimed at undermining the bazaari merchants’ monopoly on commercial pricing, the IRGC joined the traditional right (to which many of its commercial interests were linked) in opposition. Opposition to increased governmental oversight of the commercial sector, as well as resistance to the relaxation of Islamic social policies (also initiated by Rafsanjani, with support from the left) moved the IRGC into a firm alliance with the traditional right and their patron, the Supreme Leader Ali Khamenei. By the mid-1990s, the IRGC actively worked against proponents of these issues, and became antagonistic toward reformism.”

With hardliners firmly in control of the Supreme Leadership, the IRGC, the majles, and holding key posts throughout the Interior Ministry, judiciary, and intelligence ministries, Khamenei began taking Iran’s foreign policy in an increasingly confrontational direction. During his first term, Rafsanjani had preached tamping down on Iran’s bellicosity to foster the restoration of ties with the Arab world and Europe. Rafsanjani faced his first foreign policy test during the Iraqi invasion of Kuwait and the subsequent Gulf War of 1990-1991. While Iran still harbored enmity toward Saddam Hussein, there was a greater fear of the U.S. using the Kuwait crisis to permanently set up a U.S. military presence on Iran’s doorstep. Khamenei and Rafsanjani worked together to guide Iran through a policy of “active neutrality.” According to Professor Mohsen Milani, “This prudent policy was based on the recognition that Iran had very limited ability to change the outcome of a conflict it had not started. Moreover, the government quickly realized that it could not prevent the United States from introducing its military forces in the Persian Gulf region. Rafsanjani, therefore, decided to keep Iran from becoming entangled in the unfolding conflict, and thus to protect Iran’s slow rapprochement with Western Europe and with the members of the Gulf Cooperation Council. Active neutrality served both of these objectives.”

Radicals on both the right and left wanted Iran to actively challenge the U.S. during the conflict. However, Khamenei recognized that Iran was in too weak a position for a military confrontation. He assuaged the radicals by rhetorically denouncing the U.S., assuring them that Iran had not been complacent toward Washington. By staying out of the war, one of its key adversaries was neutralized at no cost to Iran. Iran appeared a responsible actor and positive force for regional stability through its shuttle diplomacy.

Rafsanjani sought to signal to the U.S. through Iran’s responsible actions that he was open to dialogue and diplomacy. However, the Bush and Clinton administrations rebuffed Rafsanjani’s overtures due to political pressures and Iran’s sponsorship of terrorism. Lingering enmity from the hostage crisis and Khamenei’s consistent rhetorical broadsides against the U.S. and Israel made Washington reticent to engage with Iran. As Khamenei moved away from pragmatism and cooperation with Rafsanjani in the wake of hardliners taking over the majles, Iran increasingly engaged in international terrorism. Even during the early years of Rafsanjani’s presidency, Iran conducted a number of extraterritorial raids and assassinations against regime opponents such as the MEK, Kurdish independence backers, and former officials such as Shapour Bakhtiar, the last prime minister of Iran before the revolution. By 1992, Iran began to undertake increasingly bold terrorist acts, including the 1992 Buenos Aires Israeli embassy bombing and the 1994  bombing of an Argentine Jewish community center. Subsequent investigations by Argentinian officials accused Khamenei, Rafsanjani, and several other high-ranking officials, including foreign minister Velayati, Intelligence Minister Ali Fallahian, and IRGC commander Mohsen Rezaei, of prior knowledge and a hand in the planning of the attacks.

Given Iran’s role in terrorist acts, its opposition to U.S. efforts to broker an Israeli-Palestinian peace agreement, its sponsorship of terrorist groups such as Hamas, Hezbollah, and Palestinian Islamic Jihad, which opposed Israel’s existence and frequently targeted civilians, and its pursuit of a nuclear weapons program, the Clinton administration rebuffed Rafsanjani’s signals that he sought economic engagement with the U.S. In May 1993, the Clinton administration announced a policy of “dual containment,” whereby it levied sanctions against both Iran and Iraq to ensure neither country could become a dominant player in the region. At that point, some business was still permitted between the U.S. and Iran, and trade had risen slowly following the end of the Iran-Iraq War. In 1995, President Rafsanjani made his largest overture to the U.S., offering oil giant Conoco a billion-dollar deal to develop an Iranian offshore oil field. Under pressure from Congress, President Clinton used executive orders to scuttle the deal, and a raft of secondary sanctions followed suit from Congress, including the unanimously passed Iran-Libya Sanctions Act of 1996, which forbade European countries from large investments in Iran’s energy sector. America’s cold shoulder to Rafsanjani’s efforts at rapprochement solidified Khamenei’s position that Rafsanjani was misguided for seeking accommodation with the U.S.