Iran’s economy is saddled by more than the economic sanctions. Shackles that have plagued it for years have grown stronger in the past decade and linger in the post sanctions era. These are the not so new findings in a report by the Money and Capital Markets Commission of the Iran Chamber of Commerce, Industries, Mines and Agriculture.
Iran’s over-dependence on crude oil export for funding its fiscal budget and import goods is the core problem, the report claims. Low productivity due to a lack of investment in infrastructure, itself a byproduct of easy oil income, comes a close second. The nail in the coffin is the overbearing role of the banking industry in funding most segments of the economy.
Sadly enough, the report leaves out the role of the bloated bureaucracy and poor fiscal decision-making by successive governments and parliaments in restricting economic performance.
Needless to say, deregulation is of paramount importance to unlocking economic output. But this is not the subject of this write-up.
“Most people identify nuclear sanctions as the main reason behind the 2012-13 economic crisis—[during the period the economy fell into recession while runaway inflation drove up asset prices, a condition called stagflation by economists]. This view, despite having roots in reality, has analytical shortcomings, as we should not discount structural issues and wrong policies taken in prior years,” the report says.
Dominance of Petroleum
Oil revenues make up the largest share of national income and exports. Oil sales made up 75% to 85% of exports during the 2000s, the report said. This means petroleum export revenues have been the main source of foreign currency to pay for imports.
The dependence of the fiscal budget in particular and the economy as a whole on oil sales tied output to oil prices and the volume of crude exports. As oil prices were battered, so was Iran’s economic output. This rather inauspicious relationship made the economy vulnerable to sanctions on oil exports, and was exploited to the fullest by world powers in pressing Iran over its nuclear energy program.
Easy oil money flowing into government coffers up until the recent past, led to the underdevelopment of the tax system.
It’s not just oil though. Iran has a wealth of natural gas as well as other natural resources. It has the fourth largest proven oil reserves in the world making up 10% of the world’s total proven petroleum reserves. In natural gas Iran is only second to Russia with 15.8% of world’s total reserves.
Low Quality Growth
Iran had underwhelming growth during the 2000s compared to similar countries and some neighbors, like Saudi Arabia and Turkey, according to the report. The inclusion of Saudi Arabia, the world’s number one oil producer highlights the effect of policymaking and cumbersome rules in Iran’s economic underperformance.
Regardless, growth during the past three decades was unstable. Even withstanding war, currency devaluation and sanctions, there is a huge impact from the mismanagement of oil revenues.
The report went on to add, “During high oil revenue periods, money supply surges and export growth continuously outsized investment infrastructure,”
Because regulations favored big government and impeded private business, and oil revenues were in fact used to subsidize imports, productivity tanked. Even during growth periods other policies ensured a drop in productivity. Ultimately this growth failed to create jobs resulting in the high levels of unemployment today, the report finds. A quarter of people under 30, making up the bulk of the workforce, are on the dole queue.
Overdependence on Banks
Last but not least is the effect of having small and shallow equity markets. Private enterprise was shunned in favor of a centralized state run by an over-sized government bureaucracy. As such, the underdevelopment and outright inhibitions put on capital markets made banks the sole source for funding business activity.
“This reliance on bank lending increased in the past decade,” according to the report. Lowering interest rates below inflation—making real interest negative—increased demand for credit and amplified reliance of businesses on borrowing for their development.
During the 2000s the Central Bank of Iran was weakened by the president. Lack of proper oversight plus added demand for loans meant riskier loans were also entertained by the state lenders. In some cases, borrowers took out loans without any collateral. Not to mention many of the loans funded dubious projects in the first place. Such irresponsible lending practices exposed banks to large scale defaults.
Demand for loans was so high that banks started borrowing incessantly from the CBI, leading to a surge in money supply in a short span. Inflation ensued. Mass defaults on loans led to an explosion of bad debt. Distressed debt as a share of non-current debt went up from 32% in 1386 (ended March 2007) to 64% in 1392 (ended March 2013). The government has been striving to defuse the situation as best as it can. The obvious fear is a run on lenders.
“In the absence of required institutional infrastructure and supervisory power of the central bank, the existing financial system has become one of the main sources of the financial crisis and instability in recent years,” according to the chamber.
The commission rightly claims that addressing these pitfalls can make or break Iran’s economic recovery in the post-sanctions era. While Iran’s financial system and fiscal process remain as they are, stable economic growth will look more like a dream.
