Economic Reforms Await Rouhani’s Second Term

Iranian voters on Friday handed a decisive victory to incumbent President Hassan Rouahni in a race that had become polarized not just along ideological lines but also along economic visions.

Rouhani’s opponents championed support for the lower classes through slogans that were deemed unrealistic by the Rouhani team and a host of other economists and pundits.

Voters, who had witnessed firsthand during the years of former president Mahmoud Ahmadinejad (2005-13) the havoc caused by populist strategies and confrontational foreign policy, chose to reject a repeat of those same policies touted by Ebrahim Raeisi–Rouhani’s main conservative rival.

While the country can heave a sigh of relief–thanks to a high voter turnout–the problems that prompted 38.5% of the electorate to be drawn toward Raeisi’s message of creating millions of jobs overnight and handing out generous cash subsidies to the poor without even outlining a coherent economic blueprint require close scrutiny.

In fact, Rouhani faces a more expectant and demanding public that chose to wait for real and meaningful reforms and rejected slogans that promised quick and easy answers to complicated issues.  

If Rouhani wants to cement his legacy by bringing about real reforms and fix the ailing economy, he has to make some hard choices and tackle the economy’s perennial woes. In doing so, he will need to have a more unified economic team and, of course, a younger Cabinet.

As pointed out by most observers, Rouhani should prioritize economic reforms by focusing on growth, generating employment and sustaining the inflation rate, as well as undertaking banking and currency revamping.

 To-Do List

Growth and Employment: A high youth unemployment of over 35%, announced by Hamidreza Fouladgar, the head of Majlis Domestic Production Support Commission, has become the ugly face of structural problems that bedevil Iran’s economy.

While the country registered a growth rate of 6%-plus in the year that ended on March 20, it was largely due to the added value from increased oil exports that reached its nadir during the sanctions. No such growth can be expected in the coming years–the World Bank expects Iran’s GDP growth to stay above 4% by 2019.

So the only source of bringing more jobs and triggering a more robust growth would be to enhance productivity and attract more foreign investment.

Iran is an appealing destination to foreign investors, but Rouhani and his team have much more to increase investment security and confidence, and boost the ease of doing business–an area in which Iran is still struggling and about which little have been done in the past couple of years.

Private business owners still complain about the burdensome regulations that stand in the way of entrepreneurship and job creation. The heavy role of the state in the economy is choking growth and creativity. Apart from new privatization, the administration needs to address the bungled divestitures of the past.

Banks: Lenders are dealing with a litany of woes; from bad debts to high interest rates to troubled balanced sheets and frozen assets, some lenders are now getting by on life support. By drafting two banking bills, instilling corporate governance into banks, upgrading their financial statements in line with global standards and increasing the capital of public-sector banks, the government’s job of reforming the banking sector has only begun.

It has to reverse the practice of directed lending schemes–easier said than done in the face of recent populist demands–and give the central bank a stronger mandate to either merge or dissolve distressed banks whose continued existence is no longer viable.

The high cost of fund is one big reason why businesses find it next to impossible to expand their business or start a new one. While the Money and Credit Council–a decision-making body– has lowered lending rates to 18%, real interest rates are much higher, with interbank rates now around 21-22%.

While the central bank–after lowering the inflation rate down to single digits–caused the interbank rate to drop to 17% for a while–the bad banks sabotaged that process by fueling a price war over interest rate to defer their own downfall.

Currency Market: As for the foreign exchange market, the biggest failure of CBI has been its inability to honor its pledge of unifying the dual exchange rates. This dual system has led to corruption and rent-seeking by those who have access to cheap, subsidized foreign currency. To fully achieve this, the central bank must also cease its heavy market interventions to keep the rial overvalued.

All of this calls for strong leadership on the part of Rouhani and a strong, clear-headed economic team. By taking this arduous journey, Rouhani can put his name on the small list of reformers who made bold decisions in the face of adverse winds.