Economists warn against a double-dip recession in Iran’s economy.
Despite data by the Statistical Center of Iran—one of the two bodies producing economic data, the other being the Central Bank of Iran—suggesting a one percent growth in gross domestic product, there are credible causes for worry.
The 2012-13 drop in manufacturing output has shifted to one in demand, top government officials including the economy minster say.
With the route to exports blocked by sanctions and consumer purchasing power put under the squeeze, factory inventories have risen 30%, says Hossein Abdoh-Tabrizi, senior advisor of the Ministry of Roads and Urban Development. Factory inventory is highest in five years, according to president’s top economic advisor, Masoud Nili.
Real income in urban households has consistently declined since 2007—two years after former president Mahmoud Ahmadinejad’s team took office. The trend steepened after 2011 and despite a 1.7% increase in average per capita income, it is 13% lower than its level in the 2011-12 fiscal year.
Sadly, the government does not have many cards to play–at least for the time being. Its assets are frozen overseas and its main source of income, crude oil sales, has turned into a trickle due to falling commodity prices.
It recently introduced short-term policies to boost consumer demand, to act as a stopgap until the much anticipated lifting of sanctions early in the coming year.
Sanctions are likely to be removed early next year as Iran cuts back its nuclear program; all part of a deal struck between Tehran and the world powers back in July. So, all the bets are on normalization of economic relations with the world.
The interim plan includes a cut in bank reserve requirements, credit cards for buying Iranian appliances and loans for auto purchases—which led to 110,000 car sales in six days before the plan was scrapped—to name a few. It has drawn much praise and criticism, and covered by this paper from many angles.
Debt Nightmare
The underlying cause for Iran’s lackluster economy, however, is debt. Addressing it is a nightmare.
Iran enjoyed a boom in oil prices in the decade to 2014. As oil money flowed, the government spent profligately. Petrodollars were used to hold rial’s value steady, pay subsidies on fuel and food staples, and embark on capital projects. To handle all the cash many banks were created, as the period also saw to deregulation in finance.
Furthermore, to enact fiscal and monetary policies without protest from the central bank, the CBI was brought ever closer under the president’s control, losing what little independence it had.
Central bank governors were swapped more often than engine oil in a car. The result was formation of credit institutions and banks that were fully independent from government oversight.
Sins of the Past
It did not take long for the consequences to catch up. Prompted by sanctions, Iran’s unit of value, rial, devalued by 70%, almost overnight in 2012.
As businesses went bust, dud loans piled up. The government also fell behind on its promises to contractors and had to borrow heavily from banks. The combination has left the financial system in ruin.
The government owes banks around $30 billion. Banks also have nearly $30 billion in bad loans, at least officially. Unofficially they have been shoving the dirt under the carpet.
About 75% of the $100 billion lent by banks last year was used to reschedule existing debt because debtors could not repay their loans. If you put the figures together, they are worth over 40% of GDP. Alarming?
The Good, the Bad and the Illegal
“Bank assets consist of borrowing to the government, overdue debt and investment in construction and housing. Not much is liquid,” Nili said.
The banks have been limping on by the grace of attracting deposits and borrowing from the central bank. They have been competing for them, driving up rates.
On paper, the central bank has capped deposit rates to 20%, but the actual cost of money is way higher. Consider that interbank borrowing rates are around 25% per year.
“Luring in deposits is only for the sake of survival and their repayment is impossible,” said Abdoh-Tabrizi.
Illegal credit institutions, which control a quarter of all the cash, are exacerbating the situation by beating the rates banks are offering. The central bank’s attempts to smoke them out have been futile.
Abdoh-Tabrizi says it’s the judiciary’s job to counter their actions. “Bad banks and good banks have to be discerned between, and illegal lenders punished.”
Costly Solutions
The situation needs containment, Nili believes.
There have been pushes to merge banks and raise their capital, but that could send financially sound banks down with the bad.
The high cost of borrowing is hurting everywhere. As interest rates remain prohibitively high, more businesses are going into default and more non-performing assets are piled up on bank balance sheets.
Also, as inflation drops further away from interest rates—inflation rate has declined from a peak of 45.1% to below 15%—investments other than bank deposits lose color and consumers opt for saving rather than spending.
So far, the government has been buying time. But as The Economist wrote recently: “Shoveling problems under the carpet does not get rid of them. Firms that ought to go bust stagger on; dud loans pile up on banks’ balance-sheets; excess capacity in sectors leads to dumping elsewhere. All this saps growth, but it also puts off the threat of a severe crisis.”
But real solutions require money the government does not have, at least for now. The release of Iran’s assets will give the government new teeth for the fight.
The debt has to be bought off by a debt restructuring company and then sold. There is a consensus on that, said Nili.
However, such a policy needs considerable resources.
“Some countries have set aside 20% of their GDP for this.”
Nili thinks over $30 billion are needed for this, at least.
“As long as the banks’ issue is unresolved and interest rates remain high, all other economic issues will remain unsolved,” said the presidential advisor.
With few options left, Abdoh-Tabrizi suggests, “Banks should maintain the status quo and add any earnings to their reserves.”
