Dr. Abbas Bakhtiar
Payvand.com - 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
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.
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
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
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.
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[i].
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.
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.
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
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[ii];
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.
"Statistical Center of Iran"[iii]
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[iv].
According to UN, the Iranian Gini coefficient is 0.44[v]
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[vi].
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.
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[vii].
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
(forget about 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[viii])
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[ix].)
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
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.
Dr. Abbas Bakhtiar can be contacted at:
... Payvand News - 01/28/08 ... --