The Majlis Research Center has warned that a toxic mix of incorrect fiscal and monetary policies could add fuel to the inflation fire in the next fiscal year that begins in March.
In a report on economic trends, the MRC said budget deficits and how governments seek to address it are the main ingredients of economic instability and runaway inflation.
The government cannot tame the chronic inflation if it fails to implement structural reforms, i.e. curbing the unending increase in spending and securing alternative sources of income.
“Iran’s economy will certainly face higher inflation if the government adopts the same budget planning approach as in the past two years,” the MRC said. “Annualized inflation could hopefully stay at 25%-35% next year if and when the government adopts effective polices”.
Pointing to the pattern of high and rising inflation over the years, the influential research center said the latest trend began in 2018 “when forex revenue shrunk but government spending did not.”
That year coincided with the US withdrawal from Iran’s historic nuclear deal and imposition of new economic sanctions that targeted oil export, overseas banking relations, shipping and major industries.
The center said the consumer price index increased 235% from March 2018 to October 2021.
According to the latest data from the Statistical Center of Iran, the average goods and services Consumer Price Index in the 12-month period ending Jan. 20 increased by 42.4% compared to the corresponding period the year before.
“As a macroeconomic variable, inflation is sign of volatility in the economy that is an outcome of the lack of discipline in the fiscal budget, banking network and the Central Bank of Iran.”
Decline in investment, capital flight into speculative activity in asset markets and pouring money in non-productive activities are but a few phenomenon spawned by high inflation, it recalled.
Elaborating the point, the parliamentary research center added: “Chronic inflation cannot be the result of any single monetary/fiscal policy in a particular period. Rather it is a combination of economic institutions and structures that have led to double-digit inflation.”
Monetary Policy
Reverting to monetary data, the MRC said the monetary base and broad money supply embarked on the ascending order in October 2018 reaching the peak in the summer of 2021.
“A combination of government budget deficits, weak balance sheets of banks and the jump in forex rates pushed up monetary aggregates,” it noted.
On the CBI role, the MRC said it should have changed the composition of money supply via timely and effective maneuvering in the interbank market and influencing interbank rates.
The CBI has been criticized for foot-dragging on the pressing need to intervene in adjusting interbank rates from Dec. 2020 to Sept. 2021 when inflation expectation was high and the growth of money (M1), as an inflation-generating component of money supply, outpaced the growth of quasi money (M2).
“To control the harm, the CBI could navigate interbank rates upward to discourage the outflow of money from banks into asset markets.”
As per CBI data, the average interbank dropped to 11.71% in May 2020 from 16.68% a month earlier. It further fell to 9.72% in the month to June 22. This coincided with an unprecedented bullish trend in the stock market. The price bubble in the bourse burst a month later. The rate rose steadily afterwards reaching 23% in Nov. 2021. As of publication of this write-up it was 21%.
*** Unhealthy Banks and Forex Rates
Apart from fiscal and monetary indiscipline, the research wing of the parliament did not ignore the damage caused by dysfunctional banks in making the bad situation of inflation worse, particularly in the last decade.
It noted that the unreasonable expansion of bank balance sheets, including “fictitious assets” (unreal or intangible assets that banks show in their financial statements) in the balance sheets from 2014 to 2018 provided enough fodder for the growth of money supply, and by extension, the inflation in the years after.
“As such, even if the government manages to control its budget deficits, without stringent oversight over the banking sector taming inflation will be out of reach”.
Last but not least is the immediate impact of the rise in forex rates in consumer prices, which tends to significantly increase inflation expectations.
The MRC said when forex rates rise, people tend to buy goods they may not need at the time on the premise that prices will jump in the future.
While inflation has been a forever challenge, prices have been rising since 2018 due mainly to rising expectations among the public about the increase in currency rates. The speculative features of the forex market were triggered anew by the US economic blockade announced by Donald Trump after he abandoned the Iran nuclear deal and unleashed the “maximum pressure” policy against Tehran.
The economic conditions took the form of a crisis with the plunge in oil exports, tightening of US restrictions on banking and money transfer plus difficulties in importing raw material, machinery and intermediate goods.
