By Niluksi Koswanage and Cho Mee-young
KUALA LUMPUR, Feb 8 (Reuters) - Malaysia has halted palm oil exports to Iran because of payments problems and Asian oil buyers have cut crude purchases as Western sanctions tighten a financial noose around Iran.
Traders in China said they would cut iron ore purchases from Iran, which are worth over $2 billion a year, because of sanctions that have forced payment defaults on Indian rice imports and prompted Ukrainian and European sellers to stop booking shipments of Ukrainian grain to the Middle East country.
The problems are the most visible evidence to date that Western sanctions are squeezing Iran's trade.
Iran's crude oil buyers, including China and Japan, are cutting purchases, reducing the OPEC producer's earnings from its major source of the foreign exchange it needs to pay for critical imports, such as food staples.
The problems have come to light after U.S. sanctions this year targeted Iran's central bank and the European Union decided to ban Iran crude imports in an effort to force Tehran to abandon a suspected nuclear weapons programme.
Iran's rial has plunged as the West increased sanctions, raising the price of imports for the economy and making it difficult to find Dubai-based middlemen who can process payments to keep the country's trade flowing.
Bread and rice dominate the diet of most Iranians, many of whom can no longer afford to buy meat, now selling for about $30 a kilogram in Tehran.
Bread prices have tripled since December, while rice costs about $5 per kg (2.2 lbs). Iranians earn about $350 a month on average, while officials put the poverty line at $800.
Grain ships are docked outside Iranian ports, many traders have said they are not booking fresh cargoes and exports of staples to Iran such as maize are falling as collecting payment from buyers gets harder.
Iran imported 62 percent of its maize, 45 percent of its rice and 59 percent of its sugar in 2010-11, but only 3 percent of its wheat, data from the U.S. Department of Agriculture show.
In the latest sign of Iran's stress, trading sources in Malaysia said exporters of palm oil, used in cooking oil, confectionary and bio-diesel, had stopped supplying most of the 30,000 tonnes of the commodity Iran used to buy each month from the end of 2011.
Malaysia meets half of Iran's palm oil demand.
The sanctions have made it difficult for Iranian palm oil buyers to use letters of credit and make payments via middlemen in the United Arab Emirates, they said.
"Payments are not coming through and no palm oil shipper wants to risk sending the cargoes to Iran with such a tense political situation," said a trader with direct knowledge of the deals, who declined to be identified due to the sensitivity of the issue.
Metals traders in China said they would reduce iron ore purchases from Iran from March because they are worried that the sanctions will disrupt business. Iran was China's fifth-biggest supplier of the commodity in 2011.
"There's a huge risk ahead, and many just haven't realized it yet," said a senior executive at a Shanghai-based trading firm that has a long-term partnership with an Iranian supplier.
"It's easy for the United States to freeze our business," he said. "It's not worth taking the risk."
Some Chinese traders said they would keep buying the ore from Iran as long as they were able to get paid because it was cheaper than other sources of the commodity.
"Many Chinese traders, and miners, want to take the opportunity to buy the ore to make more money," a Shanghai-based trader said. "Though I'm still making bookings from Iran, I'm extremely cautious."
Indian exporters and rice millers said on Tuesday that Iranian buyers had defaulted on $144 million in payments for rice imports from its biggest supplier.
Vijay Setia, the president of the All India Rice Exporters' Association, called on members to cease exports to Iran on credit terms.
Iran's foreign exchange earnings are also being pinched as the sanctions put major buyers, including China, Japan and India, under pressure to reduce crude imports from OPEC's second-biggest producer.
Asia purchases more than half of Iran's 2.6 million barrels per day of crude exports and some buyers are already cutting.
Media reports on Wednesday said Japan's biggest refiner JX Nippon Oil & Energy Corp will cut 10,000 bpd of Iranian crude imports, matching reductions Cosmo Oil has made since January.
In another possible indication of cuts, the United Arab Emirates' main crude oil exporter will supply Asia with full contractual crude volumes in March for the first time in almost a year, industry sources said on Wednesday.
China has drawn heavily on Saudi Arabia, OPEC's biggest producer by far, after cutting back on Iran supplies this year. Industry sources said the world's second-biggest oil consumer is importing more cargoes from West Africa, Russia and Australia but has bought the bulk from Saudi Arabia.
However, China's decision to halve its Iranian imports is seen by industry experts as a way to negotiate lower prices from Iran, rather than as a response to Western sanctions.
The sanctions lockdown has left some payments for Iran's oil stranded. South Korea pays for its oil in its won currency, but Iran has hit a wall trying to transfer the money back to Tehran, leaving the equivalent of $5 billion sitting in South Korea banks.
(Additional reporting by correspondents in SINGAPORE, TOKYO, SEOUL, LONDON, BEIJING and NEW DELHI; Writing by Neil Fullick; Editing by Ian Geoghegan)