Economic Recovery in Downward Spiral

Last summer, Iran’s economy seemed to be on the road to economic recovery after a decade of stagnation brought about largely by US sanctions, reads a new article written by economist Djavad Salehi Isfahani. Excerpts of the writing published in Responsible Statecraft follow:
The last Iranian year (March 2021-22) turned out to be fairly good for the resistance economy. GDP grew by 4.7%, according to official data, slightly better than the average for the Middle East of 4.3%. It also beat IMF and World Bank predictions of 2-3% for the year. The uptrend continued into the first quarter of the Iranian New Year (spring 2022), when GDP grew by 4.2% (quarter-on-quarter). 
More importantly, survey data show that real consumer expenditures — a measure of the living standard — rose by 11%, and the poverty rate fell.  
These improvements are difficult to attribute to any specific policies adopted by the administration of President Ebrahim Raisi, and growth was cut by nearly half, to 2.5%, in the second quarter of the year (summer 2022) before the protests exploded in mid-September. Such modest growth can easily result while the economy adjusts to a large external shock like US ex-president Donald Trump’s “maximum pressure campaign” in 2018. More likely, it was the result of the new US administration’s gradual easing of Trump’s campaign, which allowed Iran to export more oil and created the expectation of an end to sanctions. 
These improvements, which preceded the protests, put in question a simple causal link between the pain the sanctions intended to inflict and the protests that began in September. Tying the protests to some steady and unstoppable economic decline in Iran is misleading…
To be sure, sanctions have inflicted pain on ordinary Iranians whose real incomes have plummeted in the past decade, particularly those of the youth whose employment prospects have deteriorated since sanctions were first imposed in 2011 (despite the fact that demographic pressures on employment have eased substantially). Between 2011 and 2021, the average time between leaving college and the first job increased by one year, from 1.5 to 2.5 years… 

High Economic Resentment

No doubt, economic resentment is running high and broadly shared in Iran. However, the most aggravating economic problem from the Iranian public viewpoint is not the sad state of youth transitions to adulthood, but rather inflation. An otherwise welfare-improving reform that the Raisi administration implemented in May 2022 — ending import of subsidized food, most of which benefited upper income groups, and replacing them with progressive cash transfers — spiked inflation to record levels last summer. Inflation has since subsided but is still running at about 30% per annum, according to the inflation reports for the quarter that ended on Dec. 21.
Where the protests go from here depends, among other factors, on whether the economy continues on the downward trajectory that began last summer, or is able to return to the growth it exhibited in 2021. So far, protests have been limited to younger age groups, but they are likely to draw in older people and industrial workers if the economy falters further.
Because of an aging capital stock, growth needs new investment. With government resources stretched thin, private resources must be mobilized. But for private resources to go into productive investment, the middle class needs to feel optimistic about the economy and its own future… 

Rising Depreciation of Rial

A telling sign that private savings are not finding their way into productive investment is the acceleration in the depreciation of the rial. Since last summer, Iran’s currency has lost a third of its value, as private wealth has moved abroad or found shelter in unproductive assets.
In its first two decades, the principal component of the social contract of the Islamic Revolution was public investment to improve the lives of the poor, especially in rural areas. Under sanctions and rising budget deficits, however, public investment has contracted sharply, undermining the revolution’s promise. As late as 2011, gross investment accounted for 25% of Iran’s GDP. Since 2018, this share has fallen by half, barely enough for the repair of existing capital stock, let alone building new capital. 
Increasingly, the government is looking to the East for new investment resources, but with Moscow under tough western sanctions since its invasion of Ukraine, Russian resources are limited, and China has repeatedly shown that it will not risk economic confrontation with the US over Iran. 
This is why a bigger obstacle for growth than the protests is the fast-disappearing prospects for reviving the 2015 nuclear deal. While the Raisi administration has engaged in on-again, off-again negotiations to revive the deal since April 2021, it has failed so far to reach an agreement…  
To break the impasse, Iran can eschew compromise and play its nuclear enrichment card but it will do so at the risk of provoking further tensions at home and in the region, neither of which will deliver the type of resistance economy that hardliners have promised. It will also raise the risk of military confrontation, especially if UN sanctions snap back. 
Given the potential damage to all sides from such a confrontation, the West would do well to keep the narrow diplomatic window open, rather than heed those hardline voices who urge a return to “maximum pressure” while claiming to support Iranian youth. 
Now more than ever, the West needs a more fine-tuned sanctions policy than “maximum pressure”.