A compromise offer over Iran’s nuclear programme looks doubtful. The threat of sanctions hangs in the air. They are not yet a reality, but Iran’s economy is already hurting. European and far eastern banks have stopped taking new debt, technology suppliers are fighting shy of possible sanctions, and the stock market is enduring a sustained decline.
Record high oil prices have significantly boosted government revenue, but economists say this has led fiscal discipline to slip, with increased spending on social welfare programmes, subsidies and religious institutions. And while the government has restated its commitment to economic restructuring, the pace of privatization has slowed, foreign investment is drying up, and companies complain of favouritism towards state and military firms.
Central bank figures for the last Iranian year still show reasonable health, with non-oil real economic growth of 5.2% and inflation and unemployment both falling. But analysts say that, because of poor financial transparency, such statistics are often misleading.
“What we have now is a situation where there’s lots of money coming into the country, and that is being used to paper over the cracks left by falling economic activity,” says Saieed Laylaz, a well-known economic analyst. “It cannot go on indefinitely, and if the oil price does drop at some time, we could be in real trouble.”
A March decision to raise the minimum wage led to private-sector lay-offs across the country. In many cases, companies could only afford to keep staff on by putting them on temporary contracts at a lower rate, leading to a spate of strikes.
CLEAREST GAP
The reality gap is most noticeable in the debate over gasoline subsidies, which cost the government billions of dollars each year. Although Iran has the world’s second largest reserves of crude oil and natural gas, refining capacity is low. Cheap fuel has driven up demand, and imports now account for around 40% of consumption.
The shortfall has played havoc with spending and created an obvious vulnerability to economic sanctions. The conservative Majlis (parliament) that won election in 2004 froze gasoline prices. Now the government says it must end imports and introduce rationing, a position that has met with scepticism. Iran claims self-sufficiency in wheat but often imports large quantities.
Because of the high spending, little is left over for major development projects in industry and energy. As a result, the oil and industry ministries increasingly ask contractors to bring finance to projects themselves – an impossibility under current conditions.
In April the credit ratings agency Fitch downgraded Iran, citing the threat of sanctions and undisciplined fiscal policy. Several banks have said they are withdrawing from the Iranian market. UBS has ceased work with Iran and Syria, while Credit Suisse says it will not take on new clients. Other banks have maintained a skeletal presence in Iran but are doing little business.
NO TRANSACTIONS
“Banks are even refusing to do basic, easy and profitable transactions like dollar clearing,” said a European banker who could not be named. “They are stepping out for political reasons. We still do a little trade finance, but bigger projects can forget about it. In practice, sanctions are already in place.”
Trust in government clients has also fallen following a series of tenders that have been badly mismanaged. German engineer Linde won a $1 billion bid to build a major petrochemicals facility last year, but the project was reassigned following political change at the oil ministry. Other schemes to boost gas production and reverse oilfield depletion have run aground, with foreign companies staying away. The banker said that, even if the nuclear and political situations were resolved now, it would be another year before banks started lending again.
A new focus on domestic engineers with strong connections to the new government has further alienated private companies. The contracting wing of the Islamic Revolutionary Guards Corps has won engineering jobs worth more than $5 billion since June, drawing rebukes in the Majlis. Khatam-ol-Anbia has been accused of using influence among former guardsmen in government to secure contracts it does not have the capacity to fulfil.
PRIVATIZATION
In July, supreme leader Ayatollah Ali Khamenei reaffirmed Iran’s commitment to privatization. “The government’s role will undergo a shift from direct involvement in ownership and running the large companies to supervisory and guidance of different sectors of the economy to meet the regulations of the World Trade Organization,” he said.
Part of the privatization problem is a weak stock market, which slumped after the election of Mahmoud Ahmadinejad as president in June 2005. Investors have closely followed the nuclear saga, with the Tepix all-share index falling sharply during moments of heightened tension. They are now unlikely to welcome new stock entering the market through initial public offerings, hitherto the preferred path to privatization.
Unless something changes very quickly, this year’s IMF post-Article IV report could offer some pretty grim reading.