What Bond Yields Say About Iran

The Iranian government is paying as much, if not more than private companies, in bond markets to borrow money. While this goes contrary to the norm, it is a demonstration of the universal rules that govern money. It shows the deep distrust of the government in financial markets and there is a history behind it.

In markets around the world, bonds are considered a safer form of investment. You lend out your money and receive a fixed or variable interest. If the borrower runs into trouble, creditors are first in line to receive their money from the sale of the borrower’s assets.

On the other hand, if you’re a stockholder, you’re at the back of the queue and there are no guarantees of profit, just good old expectations.

For a modern investor, however, the distinctions run much deeper. There is also a natural hierarchy to bonds. The riskier they get, the more interest is demanded by creditors. The Greek debt crisis that shook European economies was of such essence. Now bankers have complex formulas and a long list of factors to check when assessing risk, though even assessment using those criteria sometimes prove to be wide off the mark. But, for our purpose here, we will focus on the issuers of debt.

Governments are considered the safest borrowers in the world. They pack the economic punch of a nation and you can be sure they will be around to repay their debt, well as sure as one can be. Among governments, the United States, Japan and Germany along with Switzerland are perhaps the safest people to lend to. In the current environment, they actually demand interest to keep your money.

After that, you get to banks and then risk rises as you get to corporations. Though big multinationals have such financial clout that they can borrow at rates lower than many governments, corporations are usually on average a step up in risk.

In Iran, the situation is in reverse. The government pays 20% on its one-year bonds, the so-called Islamic Treasury Bills. Other Islamic bonds sold by government agencies pay around the same figure. On the other hand, companies are borrowing at rates between 19-20%, and interbank borrowing rate is at 20%. The rates are too close and more often than not lower for companies.

So why is this? Why is it that banks are the safest place to park your money in Iran, while the government that guarantees them is considered one of the riskier borrowers? Are investors thinking straight? They are. The Iranian government owes an estimated 3,800 trillion rials ($105.9 billion at market exchange rate). The key word here is “estimated”. When you have a government whose finance minister says the exact amount of public debt is unknown, you will be cautious in dealing with that government. Now also consider that an unknown but large portion of that is overdue.

Drop the word “government” in any meeting with businessmen in Tehran and they will instantly grimace and proceed to tell you how much the government owes them and how hard it is to collect their money.

Companies, however, are offering bonds in a newly established bond market. Marring their reputations with defaults and late payments is not an option they would take happily. They are also in better financial state than the government.

The chief financial officer of Mobarakeh Steel Cmpany, for instance, who recently issued two-year bonds with 20% interest, certainly knows the exact amount of his company’s debt. Mobarakeh is also turning a profit, while the Iranian government came short of covering its operational expenses in the first quarter, recent central bank data showed.

So yes, in Iran, the government carries as much risk as corporations, if not more, and interest rates are prohibitive, because credit is scarce.

Interest rates, when less manipulated by the government are just a reflection of economic realities.