The Iranian Economy is on the Brink of Collapse

{{{The Iranian Economy is on the Brink of Collapse: A Conversation with Bahman Ahmadi Amouyi about the Consequences of the Plunge in Oil Prices
Mohammad Tahavori
November 14th, 2008}}}

Note: Undoubtedly, the continuation of the drop in oil prices has made the leaders of the Islamic Republic of Iran, especially President Mahmoud Ahmadinejad, quite nervous. In the past, even much greater powers, like the Soviet Union, could not survive such shocks.
The coincidence of the global economic crisis with the sudden decrease of oil prices has prompted many economists to appraise its effects. But the results of this incident, especially in a country like Iran that heavily depends on oil, will be more costly and damaging. The impact of this crisis does not merely make the economic sphere fragile, but its shock waves will also affect political, social, and cultural spheres in a crucial way. What turns this crisis into an enigma is the unpredictability that characterizes the Islamic Republic’s policies and approaches. As a first step in dealing with this crisis, Ahmadinejad sent letters to university economists and researchers, asking them to explain to the world the problems that plague liberal economies and present their own solution to the current economic crisis.

The speculation over the effects of the fall in oil prices on Iran is the subject of a discussion with Bahman Ahmadi Amouyi, journalist and economic analyst who lives in Tehran. Through his outspoken criticism of government’s ongoing economic policies, Ahmadi Amouyi has singled out Ahmadinejad’s disregard for the views and opinions of experts and economists as the source of the most serious problems that have afflicted the Iranian economy. He believes we cannot expect the present conditions to improve with such a government still in power.
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{{What are the main consequences of the drop in oil prices in world markets on Iran?}}

The first consequence of the falling oil prices is the decrease of Iran’s foreign currency earnings. Iran exports 2.4 million barrels of oil daily. If the price of each barrel drops or increases even by one dollar, this means that the earnings of this country will drop or swell by 2.4 million dollars a day. The shrinkage of the country’s revenue is not a hidden fact. The price of oil has dropped from 147 dollars to 57 dollars a barrel. The loss in the country’s revenues during the last two months, which results from the drop in oil prices, can be easily calculated. We have also lived during the times that the price of oil has been 10 dollars a barrel, for example, in 1977 and during Mohammad Khatami’s presidency. But the behavior of previous governments has differed from that of Ahmadinejad’s government, and this difference of behavior has magnified the damage.

The second consequence has to do with the rise of the inflation rate in the coming months. In the last three years, Ahmadinejad’s government has tended to spend the oil revenues on increasing the imports of consumer and intermediate goods, such as wheat, rice, sugar, and other food products. In the case of the latter, Ahmadinejad’s government has imported a massive quantity of fruit into the country that has been unparalleled in the last forty years. Meanwhile, his government has scarcely paid any attention to the imports of capital goods. The government has tried to justify the increase in imports by claiming that it would help to control inflation. On the other hand, the government tried to prevent the growth of unemployment by supporting small businesses that provide a quick economic return. By resorting to these two policies, the government strived to create a new formula in the science of economics. This is because there is an accepted principle in the realm of economics, according to which employment-generating policies increase the rate of inflation, and inflation-decreasing policies raise the rate of unemployment. With the drop in oil prices, both policies have failed, and we will witness the unbridled increase in prices even sooner than we expect.

The third consequence—which, unfortunately, has been ignored by the press and publications inside Iran—is the spike in the rate of foreign currency. The price of the US dollar shows a decrease vis-à-vis the currencies of other countries. But it’s the other way around in Iran: the price of the dollar has begun its rising trajectory. In fact, the Iranian government is forced to offer the dollar to the market in a higher rate in order to meet current expenses and compensate for the problems that come from the fall in oil prices.

Do you think, despite the decrease in foreign currency earnings, it would be possible for the government to keep the rate of foreign currency fixed, or does it have to resort to a floating policy?
The rate of foreign currency became floating in 2002 during the tenure of Dr. Mohsen Nourbakhsh as the Governor of the Central Bank of Iran, but even since then, the government has always enforced a controlled floating rate of foreign currency. At the present time, the government itself has caused the price of the dollar to soar.
If we return to the last question, I should mention that the rise of the rate of the dollar is another consequence of the drop in oil prices because, according to official reports, the government has 25 billion dollars in its foreign currency reserves. Of course, many of the critics, and even those close to the government, believe that these reserves will shrink to 10 billion dollars by the end of the year. This means that the government will find it very difficult to come up with the necessary money for expenses. According to an economic principle, when earnings increase, expenses also rise. The government’s expenses have increased astronomically in the last three years. The problem is when earnings are diminished, the expenses are not lowered to the same proportion.

The government faces two alternatives to compensate for the loss of its revenues: 1) luring investments; 2) borrowing. Unfortunately, both of these alternatives seem unattainable right now; neither anyone is interested in investment nor will anyone give loans to this government. Therefore, the only possibility is to print unbacked money, and this will amount to a stupendous escalation of the inflation rate.
The fifth consequence, which is more a corollary of the global economic crisis, is the predicament of Iran’s Stock Exchange. Unlike the wishful thinking of many who believe Iran’s Stock Exchange is not altered by global oscillations, it is in fact acutely affected by the palpitations of the international stock exchange in relation to two products: steel and petrochemical products. When the prices of these two products fall internationally in the way that they now have, this shift impacts Iran’s Stock Exchange as it makes the drop in the prices of these two products inside the country inevitable.

{{What will be the effect of the plunge in oil prices on the Iranian middle class?}}

The formation and growth of the middle class, after a ten-year hiatus that had made it severely weak and vulnerable, was resumed under Akbar Hashemi Rafsanjani, continued during Khatami’s presidency, and strengthened day by day afterwards. One could observe the impact of this growth in the rise of the consumption of luxury commodities that later became necessary commodities, such as cars, investments in the stock exchange, and vacation trips to foreign countries or inside Iran. But this middle class was affected severely by economic fluctuations. Unfortunately, as a result of Ahmadinejad’s economic policies and the unprecedented growth of inflation, this class has become fragile once again, both morally and economically.
The economic pressure on the middle class has gradually led to the elimination of cultural commodities—such as publications, films, and books—from families’ consumption baskets. Because of the absence of a political and social infrastructure, this class also lacks a spokesperson or tribune that could express its protests. A serious danger threatens this class.

Keeping in mind Iran’s single-product economy, what are the effects of the fall in oil prices on Iran’s economic infrastructures?
The most important factor in the growth of economic infrastructure is investment, whether foreign or domestic. In the past, the only entity to invest in Iran’s infrastructure was the Iranian government itself. Even then, the government’s only investment was based on oil revenues as it could not attract foreign investors. The experience has shown that, for various legal, technical, and psychological reasons, Iran’s private sector is not willing to invest in infrastructural arenas. The government has no competitors in this sphere, and the reduction of oil prices will naturally deprive the government even further of the ability to invest. The country’s economic infrastructure, which is in dire need of revamp and development, will be fatally crippled. At present, the country’s air transportation industry, roads, power plants, and harbors need restructuring, and the government will not be in a position to do so.
More importantly, investment in the oil and natural gas industries is needed to maintain the current level of production. Our drilling, extraction technology, and field equipment is very old and outdated. This industry needs renovation. Currently, the volume of extraction from oil wells is 19 percent of an oil field’s capacity, while the international norm is 25 percent and can even reach to 40 percent in developed countries. Under the present circumstances, we lag behind the world, and if we do not maintain our present level of production, we will fall even farther behind.

We also need to invest in the natural gas industry. With the current level of production, we will not be able to meet domestic needs or our commitments to foreign clients. According to the government’s projections, the sixth, seventh, eighth, and ninth phases of the South Pars gas field should have been completed and operational by now, but only one of these phases has become operational.

The government also needs investment in power plants to meet the country’s need for electricity. Unfortunately, despite the unparalleled soaring oil prices, the government has not been able to attract investment. As a result, the country’s fragile economic infrastructures will face a massive crisis with the plunge in oil prices.

{{Some experts believe that, along with the rise of oil revenues, Iran has enlarged its budget and increased the foreign-currency expenses of its imports. To keep its budget balanced, Iran needs to rely on 90 dollars for a barrel of oil. Keeping in mind that the price of oil has dropped to 60 dollars per barrel, a budget deficit seems certain. Besides, according to Mohammad-Reza Bahonar, the first deputy speaker of parliament, with the supplements that the government has added to the budget law, it has actually estimated the price of oil as 88 dollars a barrel. What are the effects of a budget deficit on Iran, and how can the government avoid the damages that it will bring about?}}

The budget deficit has been the main reason for inflation in Iran in previous years. The government, instead of making itself smaller during these years has become much larger, and is burdened with greater expenses. This has increased the budget deficit. According to the country’s Fourth Development Plan, the government is required to reduce its dependence on oil by 10 percent a year. In the past three years, not only has Ahmadinejad’s government not reduced its dependence on oil revenues, but evidence indicates that it has increased this dependency.

The reasons for the coming crises are the government’s economic and political policies and actions. This government does not pay any attention to the views of experts. Even experts, such as Tahmasb Mazaheri and Davoud Danesh-Jafari, who are extremely conservative, struggled quite a bit to accommodate this government by brushing aside their own views, but they were finally forced to resign. In my opinion, the only way to reduce the damages is to leave these affairs to experts, a situation which will not happen in this government.

{{Some experts believe that the unprecedented fall in oil prices helped the government to control the effects of economic sanctions. In your opinion, how will international sanctions against Iran that coincide with the drop in oil prices show itself in the Iranian economy?}}

The rise of oil revenues has, in fact, played a cushioning role for the Iranian government. Relying on oil revenues, the Iranian government multiplied the bulk of its imports in order to curb the consequences of sanctions. Nonetheless, international sanctions have shown their destructive impacts on the Iranian economy in the last two years. Banking operations have been completely paralyzed. The private sector is not able to transfer money from one place to another in international markets and, to do so, it needs to enlist the help of mediators. This factor has added to the expenses of imports. During this time, Iran has been able to operate only through the mediation of Chinese and United Arab Emirates’ banks. Under the pressure of the United States, these banks have also put Iran under pressure.

The Iranian system, which, according to the Basel II Accord, had begun to adapt itself to the world’s financial and banking trends, came to a standstill. With its present banking system, Iran cannot become connected to the international banking system.

These sanctions have caused the Iranian economy to regress to earlier decades. Iran cannot, under any circumstances, progress, according to the twenty-year Development Plan. On the basis of this plan, the Islamic Republic of Iran should have turned into the most developed country in the region. With these crises, the realization of this plan is not feasible. Before the revolution, Iran was the region’s most developed country in all social, political, economic, and cultural spheres, and now we have to begin a Herculean struggle to reach the same status. Not only have the region’s other countries not remained stagnant, they have also acquired considerable economic and social successes. This is while Iran’s economic growth should have risen to eight percent and the rate of inflation and unemployment should have dropped to ten percent at the end of the Fourth Development Plan. Under current policies, these objectives will never be realized. With this government and this behavior on domestic and international scenes, Iran has the worst record of the just distribution of wealth and the highest rate of inflation in the region. It would not be surprising if it also declines in other social, political, and cultural areas.