Given the key parameters of Iranian economy, inflation rates of above 20% are not improbable for the current fiscal year (March 2018-19), Iranian economist and university lecturer, Vahid Shaqaqi-Shahri, said.
A translation of excerpts of his interview with the Persian daily Shargh follows:
Over the past six months, the value of US dollar against the Iranian rial increased from 40,000 rials in December 2017 to 70,000 rials in June 2018 which led to an 80% decline in the value of local currency. As the foreign currency rate increases, prices in other markets, particularly those dominated by unproductive, speculative businesses, including gold coin, automobile, housing and the secondary stock market, follow the same direction.
Forex Crises of 2010s
This is the second forex crisis in Iran’s economy in the 2010s. The first crisis arose when the average value of US dollar surged from 10,900 rials in the fiscal 2010-11 to 19,000 in 2011-12 and then again to 35,730 in 2012-13.
The depreciation of the Iranian rial endured sharp bouts of volatility, even plunging to the neighborhood of 40,000 against the US dollar in the final months of 2012-13. In other words, the US dollar appreciated against Iran’s rial by 20,000 rials in a matter of months. The value of dollar increased by 246% over 2011-12.
Nevertheless, with the beginning of President Hassan Rouhani’s negotiations with world powers, which offered the prospects of a bright future for Iran’s economy and removal of oil sanctions, the average market value of US dollar saw insignificant fluctuations and leveled out at 30,260 rials in 2013-14, 33,930 rials in 2014-15, 34,660 in 2015-16 and 37,710 rials in 2016-17.
Both forex crises of 2010s occurred on the back of western sanctions and worsened due to domestic problems.
Diminishing Purchasing Power
People’s purchasing power declined from 84,689,000 rials ($2,016) in 2011-12 to 76,088,000 rials ($1,814) in 2013-14. Six years on, the Iranians purchasing power has yet to reach the former level.
Price fluctuations and the domino effect of inflated prices in different markets were the outcomes of a weak rial. The inflation rate increased to 34.7% in 1392, the second highest rate registered since 1995-96 when it soared to 49.4%.
On May 8, US President Donald Trump announced that he had decided to pull the United States out of the Joint Comprehensive Plan of Action—colloquially known as the Iran deal—and to reimpose sanctions on Iran, which had been lifted with the deal’s implementation in 2015.
As we speak, the 80% depreciation of the Iranian rial is expected to drive up inflation in the next six months. Given the key parameters of Iranian economy, the inflation rate will surge to over 20% in the current fiscal year (ending March 20, 2019).
Given the looming reimposition of sanctions in the coming months, the outflow of the country’s colossal total cash, which is over 15 quadrillion rials ($357.1 billion), from banks toward unproductive markets is highly likely. The absence of a system to curtail speculative businesses has increased the probability of wider price fluctuations and the emergence of hyperinflation.
Iran’s small external debts ($11 billion at most) are a good opportunity to help the economy, despite the expansion of sanctions.
Solutions to Ease the Crisis
1. Liberalization of foreign currency market: The government needs to allow the market to price the foreign currency freely. Given Iran’s small foreign debts, the price of dollar, if liberalized, won’t exceed a certain ceiling. Such a growth will automatically reduce unnecessary imports and overseas travels, and block the outflow of currency and control smuggling. At present, annual imports stand around $50 billion, tourism currency deficit is around $10 billion and smuggling hovers around $15 billion. The forex policy devised by the government is opportune for rent-seeking and has muddled Iran’s economy. Procrastination on the part of the government would further aggravate the situation.
2. Reducing the inflationary effect of forex liberalization: Liberalization of foreign currency is bound to increase inflation by 20-30%. However, its preliminary inflationary effect will gradually diminish and when the foreign currency market gains stability, the country’s macroeconomy will stabilize. To offset the inflationary effect of foreign currency for low-income households, the subsidy system needs to be pushed through radical reforms. Revenues gained by the government from the rise in the value of foreign currency and overhauling the taxation system should be used to increase the subsidies given to low-income households. Their monthly cash payments must increase to at least 1.5 million rials ($35.7). The resources needed for such a rise can be acquired from removing top three high-income deciles from the list of recipients and the revenues generated by more foreign currency and imposing tax on markets involved in speculative businesses. Currently, the government is paying two forex subsidies: subsidy paid to compensate the difference between the two rates of 38,000 rials (allocated to imports of essential goods) and 42,000 rials and a subsidy to fill the gap between 42,000 and the market exchange rate of the US dollar. The government would save on the subsidy when the foreign currency is liberalized. By overhauling the taxation system and eliminating the cash subsidies of top three high-income households, it would become possible to increase the cash subsidies of low-income deciles in a stepwise fashion. Monthly payments to the first three low-income households could increase to 2 million rials ($47.61) and that of the next two deciles could rise to 1.5 million rials ($35.7) to cushion the inflationary impact of forex liberalization for the low-income households.
3. Taxation overhaul: The introduction of radical reforms in the country’s taxation system is inevitable, given the widespread profiteering speculative practices in Iran’s economy. The government needs to be quick in expanding tax base, tax on income and wealth, tax on investment income, tax on empty homes, tax on immigrants’ wealth and properties, and tax on imports of luxurious items. It is both practical and necessary to levy tax on savings accounts (those above 10 billion rials) which yield high interest rate.
4. Preventing the outflow of capital from banks toward speculative businesses: Iran’s money supply is now over 15 quadrillion rials ($357.1 billion), more than 88% of which are deposited in banks in the form of quasi cash. In the fiscal 2012-13, quasi cash accounted for 75.3% of the sum. The index has been on an upward trend reaching 81.3% in 2013-14, 84.6% in 2014-15, 86.6% in 2015-16 and 88.3% in 2016-17. It stands at 88% presently, suggesting that over the past five-six years, the share of quasi cash in liquidity has grown by about 13%. Fears are that the trend has reversed today due to the current situation of the economy and if 10% of this quasi cash i.e. 1.5 quadrillion rials ($35.71 billion) are directed toward speculative activities, the advent of hyperinflation will be likely. The government needs to block cash withdrawals to prevent people from converting quasi cash to cash so it’s better to be cautious about levying tax on savings interest for the time being. Also, the interest rates on long-term deposits (over three years) must increase significantly compared with short-term deposits. Monitoring the state of quasi cash should be taken seriously by the banking system.
5. Setting up a special account for tax revenues, defining new tax bases, clearing government’s debts and increasing the subsidies of low-income deciles: Setting tax rates of between 25% and 40% would surely control profiteering businesses. Iran’s gross domestic product is at $425 billion. A 15% tax rate, the average global rate of tax, on GDP will be a figure in the neighborhood of 4,800 trillion rials ($114.28 billion). In other words, the government’s revenues from tax must be around 4,800 trillion rials. This is while in the Budget Law of the current fiscal, tax revenues have been put at 1,100 trillion rials ($26.19 billion). Defining new tax bases and depositing the revenues into a special account would help the government pay its internal debts and increase the subsidies it allocates to households in low-income deciles. The government’s internal debts stand at around 6,400 trillion rials ($152.38 billion), including 1,620 trillion rials ($38.57 billion) to the Central Bank of Iran, 1,920 trillion rials ($45.71 billion) to banking system, 1,000 trillion rials ($23.8 billion) to contractors and 1,550 trillion rials ($36.9 billion) to the Social Security Organization. These outstanding debts, if not cleared with help of effective taxing, would exacerbate economic recession.
6. Setting up foreign currency bank accounts with interest rates of between 5% and 10% with the central bank’s guarantee for repayment in foreign currency.
7. Setting up bank accounts for gold and paying interests to lenders based on gold’s rial value with the central bank’s guarantee for return in gold valued at the daily market rate.
People will pour their old, unused gold into the country’s economy and the government will consequently be able to settle its debts with the implementation of articles 6 and 7.
