Iran and its Economy
26 January 2008
Last year I wrote two articles on Iranian economy, one on the U.S. plans for economic strangulation of Iran and the
second on the existing systemic problems in the Iranian economy (Ahmadinejad's Achilles Heel: The Iranian Economy).
Since then the U.S. economic pressure on Iran has been increasing steadily. The U.S. to a large degree has been
successful in cutting Iran from normal international financial institutions. Many European and Asian banks have been
forced to reduce or cut their financial ties to Iran. Even some Chinese banks have come under pressure to restrict their
dealings with Iran, not to mention UAE and Bahraini banks. This coupled with two successive UN sanctions have been
hurting the Iranian economy much more than the government has been willing to admit.
Today, many Iranian businessmen find it increasingly difficult to do business with their foreign counterparts, simply
because international business payments are mostly done through letters of credits which are issued by banks. In absence
of a letter of credit, an importer has to pay cash; something that is risky and difficult. There are of course various
ways to side-step these problems, but they all add to the cost of doing business, something that hurts the economy. In
addition many companies are being scared in investing in Iran. The threat of being cut-off from US and many major
European markets has effectively limited the foreign investment to only some oil related projects. Even in this sector,
many companies (even governments) are under tremendous pressure not to invest.
All this has affected the Iranian economy in a negative way. But Iran can withstand this pressure for many years without
being seriously hurt; provided the government acts wisely. Unfortunately, wisdom is currently in short supply. The
government’s economic policies are doing what all the decades of U.S. pressure had not been able to do: seriously
destabilise the economy.
Iranian economy suffers from some serious systemic problems, some of which (such as the role of Bonyads (charity
organisations), corruption, excessive bureaucracy, etc.) I have already explained in one of my previous articles
(Ahmadinejad's Achilles Heel: The Iranian Economy), so I will not mention them here again. Suffice to say that no
Iranian President can fix the economy without addressing these fundamental problems.
Inflation
Dr. Ahmadinejad came to power because of his economic promises to improve the lives of the unemployed poor, the working
poor and the middle classes. People also hoped that he would clean-up some of the endemic corruption in Iran. He had
promised to increase the salaries of pensioners and the low-paid government employees, to provide affordable housing for
the young and the needy and many other commendable welfare programs.
However, in an economic system where large segments of the economy resemble the fiefdoms of the Middle Ages, there is
very little room to manoeuvre. Upon winning the elections, Dr. Ahmadinejad increased the salaries, which should have
alleviated some of the pensioners’ and low-income government employees’ economic problems. But it only increased their
problems. Many economists blame this increase in salaries as one of the major contributing factors to the increasing
inflation. However, this is only part of the problem. Other problems are: external factors affecting the prices of
imports, excessive middle-men profits (usually because of existence of hidden monopolies), smuggling or exporting of
subsided imported goods to neighbouring countries, excessive regulations, and excessive liquidity.
1. I have already mentioned the extra cost associated with importing goods for Iranian businessmen. The
international sanctions, U.S. and European banks’ refusal to do business with Iranian banks have all added to the extra
costs of doing business; all of which are transferred to the customer. The U.S. blockades of Iranian financial
institution and businesses have been very effective; although the government denies this. Iranian financial institutions
are under U.S. siege. Iran is fighting an economic war with a financial Goliath and if Iran is not careful it will lose.
While U.S. is blockading Iranian banks and businesses, it is trying to drag Iran into an expensive regional arms race.
The U.S. strategy is the same one that Ronald Reagan used against the Soviet Union. This time U.S. while blocking Iran’s
access to international financial institutions and banking facilities, is arming the neighbouring Arab states and
Israel. It is hoped that Iran will be dragged into an arms-race which it cannot afford; diverting the needed civilian
resources to its military. In this way, over time, the current system will be unable to compete and will eventually
collapse, just like the Soviet Union
2. Lack of competition (large monopolies), excessive number of middle-men and the endemic corruption also adds to
the problem. When these people see the opportunity to double their profit and they have the ability to control large
parts of the market, they simply do so. If you are in a position to suddenly import few hundred thousand mobile phones
without any difficulty while others have to jump through hoops to import a 1000, you can effectively control the market
for mobile phones and hence prices.
3. Another factor that affects the prices of goods is the legal or illegal export of subsidised imported goods.
Imagine you are a businessman who can import sugar. You import 10,000 tons of sugar at $100 a ton. The government pays
you a subsidy of 20%. That is you get paid $200,000 in subsidy. Now as soon as you import the goods into Iran, instead
of sending it to the local market, you export it (legally or illegally) to Iraq or Afghanistan. Even if you sell your
product for the original sum, you are still ahead by $200,000. That is, you pocket the subsidy and government thinks
that it has supplied the market with cheap and affordable necessities. This has been happening with subsidised fuel and
is now happening with other products. During the last year of former president Khatami’s government, Iran imported $28
billion worth of imports of which 75% was investment and intermediate commodities. Last year this figure increased to
$49.3 billion and it is expected that at the end of this Iranian year (ends 21 March 2008) this figure will reach $53
billion [1] . One must note that a large part of these imports is consumer goods and food stuff. Officially the inflation rate is
stated at 19%, however the independent economists and experts put the figure closer to 25% to 30%. So something must be
happening to these imports, beside normal consumption.
4. Iran suffers from excessive regulations in some areas and lack regulations in others. For example, registering
companies, getting an import permit, clearing goods from customs etc, are all heavily regulated, while there are no laws
regarding monopolies. Some of the largest businesses in Iran (Bonyads) resemble black boxes. They do not pay tax and
no-one knows the extent of their business activities. The tax system in itself is very complex and large parts of the
economy don’t pay any tax at all.
5. Finally, the excessive liquidity. Money supply should be managed in such a way as to accommodate the normal and
needed economic transactions. When you have a million dollars you can do several things: purchase goods, invest the
money in some business, or keep it in the bank or under your mattress.
If you are uncertain about the economic outlook, you will not invest in stock market or in businesses. You put your
money in the bank. But if the bank pays you less than the actual inflation, you don’t do that. If the government forces
banks to lend money at uneconomical rates, the same banks cannot pay the necessary interest to their customers to cover
even the inflation. Who would like to get 10% or 20% interest on his/her money when there is 30% inflation?
Then there is allure of the real-state. If there is a natural pressure on the housing market and prices are rising, you
put your money there; hoping that even if you don’t make much profit, at least your money would be safe from inflation.
The point here is that in Iran excessive liquidity isn’t absorbed in productive long-term projects such as building
factories, roads, etc. It is simply used for speculation in real-estate or other short term projects. The middle-classes
are not the reservoir of this excess liquidity. They spend all their money on consumption. The excess liquidity is in
the hands of the top 10% of the population who are earning unbelievable profits from speculating on anything from
real-state to import and export of goods.
The Housing Bubble
When Dr. Ahmadinejad came to power he provided low-interest loans to the first time home-owners, especially the young
and the poor. However, since new houses weren’t being built as fast as the increase in the liquidity, the pressure on
the housing market just increased exponentially. To address this problem, the government tried to increase the building
of new homes by subsidising raw materials such as cement and steel. But as I explained above, most of these subsidies
were probably simply pocketed by the importers and the middle-men.
But this alone cannot explain the creation of the housing bubble. Speculation, excess liquidity and lack of safe venues
for investment have all contributed to create a housing bubble that is threatening the economy of the country. For
example, a small apartment (70 sq m) in Tehran’s lower-middle class neighbourhood today goes for 400 million toomans or
$400,000. This is an astronomical sum for majority of the population, first-time buyer or not. This simply cannot
continue without creating serious social problems, especially when one takes into consideration that 35% of Tehranis are
tenants [2] ; that is at least 4.2 million people in Tehran alone.
The increase in house prices lead to the higher rents, making life increasingly difficult for these people. In addition
it forces the young people to stay with their parents even when they are in their late 20s or early 30s Some even marry
and still continue to live with their parents simply because they cannot afford to even rent a small apartment, and most
of these people have work.
The official “Statistical Center of Iran” [3] puts the unemployment rate (March 2007) among “youth” aged 15-29 at 22.4%. Unemployment for the same group in the urban
areas the unemployment rate is stated as 25.6%. The underemployment for the total workforce is stated as 8.4%. So if we
take the “official” underemployed and unemployed “young” people, we get 34% of the working-age young population that
have no chance of even renting a room, let alone a small apartment.
Poverty: Gini Coefficient and Government Policies
Gini coefficient is used as a measure of inequality of income distribution or inequality of wealth distribution. It is
defined as a ratio with values between 0 and 1, where 0 corresponds to perfect equality (everyone having exactly the
same income) and 1 corresponds to perfect inequality (where one person has all the income, while everyone else has zero
income). A Gini coefficient of 0.3 or less indicates substantial equality. A coefficient of 0.3 to 0.4 is generally
considered an acceptable normality and 0.4 or higher is considered too large. A value of 0.6 or higher is predictive of
social unrest [4] . According to UN, the Iranian Gini coefficient is 0.44 [5] and is increasing. This coefficient most likely is not correct since the Iranian economy is opaque and finding who has
what is extremely difficult. At the same time the very existence of Bonyads (charity organisations) and the informal
economy distorts the figures. In 2006 Iran had the unenviable ranking of 105th place out of 163countries on Transparency
International’s Corruption Perceptions Index. In 2007 its positions worsened and jumped to 179th place among the 179
countries surveyed [6] . With such a high level of corruption and lack of reliable statistics, even though this figure is very high, it is
difficult to believe a Gini coefficient of 0.44. What is clear, however, is that there are a lot of poor people in Iran
that are getting poorer by the minute; after all inflation hurts the unemployed, the working poor and the middle classes
much more than the wealthy and rich.
To understand the problem facing the people one has to look at the social security. According to the minister of social
security and welfare Mr. Abdolreza Mesri, the minimum payment to those under its ministry’s cover is 25,000 to 50,000
toomans or between 25 to 50 dollars per month [7] . This figure, according to him, is only from his ministry, while charity organisations and others also help. One must
note that the 50 dollars is for a family and not a single person. Now the rent for “a single room” in Shiraz (Shiraz is
much smaller than the country’s capital Tehran) is about 100,000 toomans or $100.
Add to this the price of a kilo of mutton which is 7500 toomans or 7.5 dollars per kilo ( which incidentally was 1800
toomans or 1.8 dollars in the beginning of 2006 [8] ) or a kilogram of chicken that costs 4500 toomans or 4.5 dollars and you’ll get the picture. Prices for vegetables
also follow the same pattern. (It should be noted that last year 200,000 lambs were sent to Saudi Arabia for Hajj
sacrificing ceremonies by the Iranian pilgrims [9] .)
According to the minister there are currently 9 million people in Iran receiving assistance from his ministry and he is
proud of stating that no-one under his ministry’s cover gets paid anything under the UN minimum poverty line, which is
between 1 and 2 dollars. The 9 million people that the minister speaks of receive a coupon worth 32,000 toomans or 32
dollars per month for purchasing of food and other necessities.
The minister admits that there is no way for him or others to gauge the real need of the people. He uses the example of
the healthcare costs, in which he mentions that in the past 6 months private health care prices have risen by 1,000% (10
times the original). One must note that Iran lacks universal healthcare system, leaving millions to rely on private
sector for their needs. How this 1,000% increase in healthcare costs has affected the people is anyone’s guess.
The Need for a War Economy
By now it should be clear to all that Iranian economy is in serious trouble. Iran is fighting an economic war with the
U.S. and Europe, while at the same time suffering from systemic problems and bad economic management which has resulted
in stagflation, which means high inflation and unemployment. The government’s free-spending policies, no matter how well
intention, has only worsened the problem. But as I mentioned above, the economy suffers from systemic problems that
cannot be solved by this or that president. The right policies can only limit the damage, not solve the problems.
Now that Iran is caught-up in the sand-storm of stagflation and fighting an economic war, it has to tighten its belt and
enact drastic economic measures. It cannot simply check inflation by importing more goods, without making sure that
those goods are actually delivered to the people at subsidised prices. It is evident that simply increasing the imports
doesn’t help.
It cannot reduce its payroll either, because if it does, it simply increases the unemployment rate and hence social
dissatisfaction. It cannot reduce liquidity by increasing the interest rates either; since this will mean a large scale
defaults by the middle classes and small businesses, not to mention a proper recession. It cannot increase taxes much
either, since large segments of the economy are tax-exempt, leaving the burden on the shoulder of government employees
(who have to pay taxes) and again small businessmen.
So far the government has been dipping into the oil-reserve fund to finance its increasing imports and social programs.
But that has only fuelled the inflation. So what can this government do?
Well, to start with it has to get serious about fighting corruption and cronyism. Corruption is one of the major
problems facing Iran and government ignores it at its own peril. Government should also inform people that it is in a
state of economic war and everything is not so rosy. The government should know that people already know this.
The government has to implement a war economy; that is to say, it has to reinstate the coupon system that it used in
Iran-Iraq war. The introduction of the coupon system will also relieve some of the poverty while reducing inflation. The
government should drastically reduce the import of luxury goods. It has to encourage the local industries and food
manufacturers, something that generous imports tend to undermine. In addition, the government has to start a large scale
house building program to reduce the pressure on the housing market. Leaving it to the market to address this issue, in
the current inefficient system, doesn’t produce any results except inflation.
I am against a command economy, but under the current system with all its inefficiencies and endemic corruption, nothing
else will do the job. Instituting a war economy will be a drastic measure, but a welcomed one by the majority of the
people. Those who are sleeping hungry at night (and there are many) will thank the government, while those that live in
luxury villas will curse the government. It is up to this government to decide whose praise it is after. The poor and
the middle classes find themselves between the hammer of the inflation and the anvil of the unemployment. How long will
they continue to accept the blows is anyone’s guess, but if it continues, it will end badly not only for Dr.
Ahmadinejad’s government but also for the Islamic Republic of Iran.
NOTES:
1. Tabnak. “Tremendous increase in imports” (گزارش تأملبرانگيز گمرك از واردات بيرويه )17 January 2008 http://tabnak.ir/pages/?cid=4961
2. Tabnak. “35% of Tehranis are tenants”, (تهران مستاجر هستند (درصد مردم 35% )24 January 2008 http://www.tabnak.ir/pages/?cid=5499
3. Statistical Center of Iran. http://www.sci.org.ir/content/userfiles/_sci_en/sci_en/sel/ chekideh/Labor_Force_Indices_winter_2007.pdf
4. Liu Binyan, Perry Link, “ A Great Leap Backward?,”; http://www.nybooks.com/articles/717
5. United Nations. ” UNDP Country Programme for the Islamic Republic of Iran (2005-2009)”, http://www.undp.org/rbap/Country_Office/CP/CP_IRA.pdf
6. Transparency International. ” Corruption Perceptions Index 2007” http://www.transparency.org/policy_research/surveys_indices/cpi/2007
7. Tabnak. “Minister of Social Security & Welfare: What is the purpose of Determining the poverty line”, 19 January 2007 http://www.tabnak.ir/pages/?cid=5193
8. Aftab.ir. “Mutton prices increased by 18%”, 1 January 2006 (قیمت گوشت گوسفندی طی دو هفته گذشته ۱۸ درصد افزایش
یافت) http://www.aftab.ae/news/2006/jan/01/ c2c1136125813_economy_marketing_business_agriculture.php
9. Aftab.ir. ”Meat prices will not go down until next year” (قیمت گوشت تا پایان سال كاهش نمییابد ) http://www.aftab.ir/news/2007/dec/12/ c2c1197459389_economy_marketing_business_agriculture_meat.php
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Dr. Abbas Bakhtiar can be contacted at: bakhtiarspace-articles @ yahoo.no