Is the rise in the global prices of fuel and food behind Iran’s inflation? The answer is negative.
Even if you could detect the impact of the growth in prices on inflation, it would have been insignificant and impermanent. The root cause of inflation in Iran, like everywhere else, is the increase in money supply, says Hossein Abbasi, a lecturer in the Department of Economics of the University of Maryland. A translation of his article for the Persian economic daily Donya-e-Eqtesad follows:
Governments, especially those of developing countries, have always faced the problem of financing the public budget through taxation. Therefore, many of them have resorted to some degree of financing their governments with inflation tax.
Despite having access to oil revenues, Iranian governments of the past 50 years have always satisfied a part of their insatiable appetite for spending by printing money. This is called financing through inflation tax because, on the one hand, the government prints money and gains spending power, and on the other, it creates inflation and reduces the purchasing power of people. The story of inflation in Iran is basically the same; looking for the root of inflation anywhere else is a red herring.
So, why is there so much talk of the increase in the global prices of goods such as oil, gas and food being the cause of inflation in Iran?
The prices of fuel and some food items have increased, thanks to the Russia-Ukraine war and the reaction of producers to it. The rise has been passed on to other goods, increasing the prices of many other items.
For instance, the price of gasoline in the US has increased by 60% while many food items have seen a price growth of 10-30%. Rents have also increased as a result of the decline in construction in the past two years.
European countries and many other countries, which import a large part of their fuel and food, are seeing even higher figures. Many countries have registered unprecedented inflation rates in recent months. The annual inflation rate of 8% for an economy like the US, with its decades-long inflation of 1-2%, is too stark. That is why inflation is the talk of the world these days.
But a large part of this inflation is rooted in the monetary conditions of recent years. Since past two years, the supply of goods and services has decreased in many countries because of the Covid-19 pandemic and the consequent rise in the cost of production. Also, many countries provided their citizens with financial support mostly via money printing.
In Iran, sanctions compounded these conditions and the government funded public expenses by printing money. In the short term, these two factors increased the general level of prices. But the long-term effect of the duo will be very different.
In the short run, general prices are affected by the supply side of the economy but in the long run, the inflation caused by the decline in production and the rise in production costs because of the pandemic will decline; after all, the price of fuel and other goods cannot increase at the same pace as it has in recent months.
As we speak, oil prices are higher than last year’s but the price growth has stopped. This is more or less true about other goods. With the stability of the prices of these goods, their effects on the economy will gradually diminish.
But the second factor, i.e., the growth in money supply, will continue its upward trend. Developed countries, which use financial tools, have started to reduce their money supply; many of them have even stopped its growth. That is why inflation in these countries has lost steam and shows a downtrend, whereas in some countries, including Iran, demand stemming from the growth in money supply has remained unchanged; it is moving ahead at the same pace and giving rise to inflation.
This applies to all economies under inflationary conditions. The growth in money supply in Iran has always been high, outdoing other drivers of inflation, including the rise in prices of goods the world over. Add to this the fact that the prices of fuel in Iran remain inelastic despite the increase in global markets. That’s also true about the prices of a few commodities like wheat.
Some price reforms have been undertaken in Iran over the past few months. The government has discontinued the subsidies of some items, allowing their prices to rise. Such a price increase can be regarded as short-term factors contributing to inflation, which effects are transient and will ebb after a while, whereas the main driver of inflation, i.e., the growth in money supply, will press ahead.
As is often said, inflation is always a monetary phenomenon the world over and Iran’s economy can bear witness to this statement.
