Media outlets began to report on economic and financial corruption in the years following the Islamic Revolution in the late 1980s and early 1990s.
It seems that the formation of “dormant partnership companies” was the first case of widespread corruption directly targeting the capital of ordinary people. The reason behind the emergence and expansion of these companies was the inefficiency of the banking system. On the one hand, the low or even negative real interest rate of deposits in the state banking system, and on the other hand, the difficulty of accessing banking facilities, given their considerable hidden rent, led to very low and often negative real rates and created a big gap in the monetary system.
Dormant partnership companies were an indication of a practical solution to fill this gap. Mousa Ghaninejad, a veteran economist, prefaced his write-up for the Persian daily Donya-e-Eqtesad with this note. A translation of the text follows:
Rise of Private Banks
The idea of establishing private banks in Iran was proposed to solve these problems and the late 1990s saw their emergence.
The establishment of a handful of private banks marked a sea change in Iran’s banking system. The relative freedom of action they had when it came to determining the interest rate of deposits and loans resulted in the rapid transfer of deposits from state banks to private banks and consequently the rates in the informal market decreased quickly.
The fact that private banks were customer-oriented marked an unprecedented change in the provision of banking services in favor of clients. As such, state banks borrowed a leaf out of private banks’ book. One of the very basic examples of new approaches was the automatic queuing through the installation of simple mechanical devices inside the bank, which eliminated the trouble of queuing up and unnecessary arguments among customers. The fact that this simple change never occurred to state bank managers was that they did not need feel the need to address people’s discontent. This is only one example of the difference between the performance of the private and public sectors.
However, the relative freedom of action private banks had in determining the rates of deposits and loans did not last long. The page turned completely when the populist government of Mahmoud Ahmadinejad came to office in 2005 and privately-owned banks were obliged to comply with the mandated rates of deposits and loans like state banks.
Once again, the difference between official and unofficial markets increased and all reforms introduced to the monetary system were abandoned. This “about-face” was concurrent with the establishment of more “private” banks as well as the so-called Qarz al-Hasaneh [literally meaning ‘benevolent loan’] credit institutions, which were free to carry out all banking operations without the supervision of the central bank. What do you make of the huge desire to establish a private bank despite the fact that compared with state banks, they did not have the freedom of action to set deposit rates?
By answering this question, we can explain the reason behind widespread financial corruptions in the following years. The newly established “private” banks, which secured operation license, thanks to their political influence and overt or covert affiliation with certain politicians, had no other purpose than having easy access to the central bank’s enormous resources at very low interest rates.
Instead of lending their cheap resources to people at the government-mandated rate, they granted loans to “special entities” or “insiders” and made huge profits along the way. In doing so, private banking, which was established with the aim of creating competition in the banking system and becoming a more efficient institution, became meaningless to a large extent. In actuality, private banking became a means to rent-seeking and obtaining easy profits with destructive consequences.
Qarz al-Hasaneh Credit Institutions
Another disaster that hit people’s lives through populist policies was the establishment of credit institutions called Qarz al-Hasaneh. These institutions, which had obtained their licenses from some cooperatives or police forces, did not have the oversight of the central bank. In fact, their operations were against the law.
Their costs were lower than banks because they were not required to keep deposit with the central bank. In addition, they could easily collect resources by offering higher deposit rates from banks and give Qarz al-Hasaneh loans at very low rates to those who were willing to take out loans from them. The competition between these credit institutions often led to an increase in deposit rates and a practice similar to a kind of Ponzi scheme followed by bankruptcy. However, they did not fear bankruptcy as they had the support of some political powers.
As a result, many of these institutions were unable to fulfill their obligations to depositors and fueled public dissatisfaction and widespread protests in January 2018 with all their economic, social and political consequences.
The corruption of these institutions had astronomical dimensions, such that the government had to pay depositors 400 trillion rials from the central bank’s resources. It is true that legal action was taken against some officials in charge of these institutions, but it was never known where the money that these institutions took from the depositors went.
The biggest corruption was perhaps the sharp increase in the monetary base, liquidity growth and its inflationary effects.
A significant part of the runaway inflation that struck Iran’s economy since the late 2010s is to blame on the huge corruption of credit institutions in those years.
Here, we have mainly discussed the monetary and banking system, but without doubt, the root of all evil is the government’s interventions in the economy, particularly its mandated pricing.
If the government of Ahmadinejad had not rendered private banking meaningless with its wrong populist policies and instead of setting prices in the banking system, it had performed its regulatory duties properly and prevented the mushrooming growth of credit institutions outside the purview of the central bank, the country’s monetary and banking system was in better shape.
The irony is that some of the so-called “economists” affiliated to the government, attribute the problem to the excessive number of banks and instead of tackling the main issue, they suggest that all these banks should be merged into one state bank and that the central bank should be dissolved. What scientific theory has given rise to these radical proposals?
