Macroeconomic Adjustment Imperative to Save Iran’s Economy

4 juin 2019
As you know, Donald Trump pulled the US out of the 2015 nuclear deal with Iran and reimposed sanctions. In one of your recent articles, you said, “Obviously, due to the re-implementation of US sanctions, the Iranian economy has entered an economic crisis since 2018 characterized by a recession and a steep acceleration of inflation.” Kindly explain on this. How do you think Iran could circumvent the sanctions?

The re-implementation of US sanctions has for objective to isolate the Iranian economy from the rest of the world. The US is explicitly saying to all non-Iranian companies in the world « if you do business with Iran, you will not have access to the US market or you won’t be able to do any deal with the US ». This policy is having the effect of decreasing Iranian exports and imports. It has a direct impact on production in Iran, as many Iranian companies are not able to import the inputs they need to produce. The channel through with the US sanctions have the biggest effect is the oil embargo. OPEC data shows that Iranian oil exports have registered a steep decrease (- 56 % between 2017 and April 2019). It has a severe impact on the Iranian economy as oil sales still represent 80% of Iran exports and at least 40% of government revenues.

I think the Iranian government answer to this crisis is rational. They are trying to stabilize the economy to mitigate the impact of the steep decrease in oil exports. It means the Iranian government has to lower the level of imports to adjust it to the decrease in oil exports. It has also to adjust the fiscal policy to compensate for the loss of oil income. The Iranian government is also trying to maintain its oil exports through active diplomacy with present and potential buyers. The Iranian government is also taking actions to develop non-oil trade in the region with countries like Iraq or Qatar. There is no easy way out when an economy has to confront such a massive external shock like a complete economic embargo.

You also said, “This crisis can also be an opportunity for the Iranian economy to lower its oil dependency.” How this situation could help?

Yes. The present situation shows the cost of oil dependency on the Iranian economy. So there may be some political and social consensus presently in Iran for implementing some reforms which could help to lower this oil dependency. In terms of fiscal policy, the loss of oil income makes some reforms like focusing the cash subsidies on the very poor people (and lowering the overall level of cash subsidies) more urgent. In parallel, it may be also the right time for the Iranian economy to use all its potential to develop its non-oil exports in the region. Iranian products due to the recent depreciation of the rial are more competitive. There are a lot of regional markets where Iran’s non-oil exports could increase. There is also a huge potential in the Iranian high-tech industry to the high scientific level of science graduates in Iran. The development of this industry could lead to export development and job creation.

Efforts by the international community to salvage the nuclear deal and provide an economic lifeline to Iran to dampen the fallout of the sanctions have not borne fruit so far. Do you think Iran’s economic system needs structural reforms?

Yes, the Iranian economy needs structural reforms. But there are reforms which are more urgent than others. There are also reforms which cost money (like restructuring the banking sector), that is why it is difficult to implement them right now. I think Iran is a country where top-down management of political reforms does not work very well. That is why the present crisis which demonstrates the cost of oil dependency could lead to a political and social consensus that could facilitate some structural reforms (fiscal policy, support of non-oil exports) which could lower this dependency. The experience of other oil countries also shows that it is better to associate all the social actors which will be directly affected by these reforms with the initial definition of policies.

Some argue that the Islamic Republic continues to resort to inefficient stop-gap economic policies particularly with regards to the dollar. What are your thoughts on this? What is the best way to help the FOREX market function smoothly in the country?

When a country is suddenly deprived like Iran of 35% of its foreign exchange revenues due to an external shock (the US sanctions), it is difficult to avoid a depreciation of the currency. There is no easy way to presently stabilize the Iran foreign exchange market. It seems that the Iranian government was able to stabilize the foreign exchange market after the initial crisis in 2018. The key issue is a macroeconomic adjustment on fiscal policy and imports. Without macroeconomic adjustment, the risk is for Iran to fall in a high inflationary dynamic which will generate exchange rate instability. Then, in times of crisis, the ability of the government to communicate clearly is important and can participate in the stabilization of the foreign exchange market. One should not forget that Iran has some margins to manage the foreign exchange market. It has quite large foreign exchange reserves (around 100 billion $) and the external debt is low (around 10 % of GDP).
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