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January 2020, No. 93


Economy

Challenging Future of Iranian Economy


The current sanction has severely affected the Iranian economy. But this experience was gained less than a decade ago and cannot be regarded as something unfamiliar to the Iranian economy.


The second sequence of the Iranian economy was displayed at the “Seminar on Prospects of Markets in the Second Half of the Year”. Experts participating in the seminar reviewed real economic indicators and predicted that this year the recession will be deeper than the previous year.

Economists have mentioned two important points in identifying the type of the current recession and its difference with the experience of previous sanctions. The first difference is the negative growth of services (as the largest part of the Iranian economy) in the current recession, while such a decrease in growth had not happened in the previous period. The second point concerns the decline in household consumption. Possible scenarios on the inflation trend were another indicator that the second sequence of the Iranian economy displayed.

Experts blamed the future trajectory of inflation after the discharge of foreign currency depreciation shock on the behavior of the Central Bank of Iran (CBI) and the government in covering the budget deficit, so that inflation would be on the downward path if appropriate policies were adopted, otherwise it would resume an upward trend. At the seminar, held by the media group of Donyaye Eqtesad , the situation of the asset markets in the second half of the Persian year was also analyzed.

Ali Sarzaeem, a faculty member at Allameh Tabataba’i University, analyzed the general situation and prospects of the Iranian economy. At first, he examined the relationship between Iranian asset markets and the real economy. The real economy is actually focused on the market for products as well as  production of goods and services, while the asset market includes gold, currency, stocks, bonds, banks and housing (due to the similarity of features to asset markets). What is seen in the current situation of the Iranian economy is that the real sector and the trend of asset market’s movement are not relevant. But what is the relationship between developments of the real sector and those of the asset market? Can these two sectors continue to move in on completely different paths? And if they are related, do they have a direct relationship or not?

Sarzaeem said although there is not a one-to-one relationship between them, it cannot be said that they have nothing to do with each other. In fact, one cannot imagine the asset markets move in a positive and steep slope, while on the other hand, firms in the real sector are struggling and facing problems or household incomes are reducing and real demand is dropping.

Historical Memory of Iranian Economy

In analyzing the real sector of the Iranian economy, at first the historical memory of the performance of the Iranian economy during the past decades and the recession and boom cycles were examined. Sarzaeem’s surveys in this regard show that in the 2000s, the Iranian economy experienced an average growth of 4.5%, and with the onset of sanctions in the 2010s, the Iranian economy entered a period of turbulence. In 1391 (March 21, 2012- March 20, 2013), the Iranian economy contracted by 7% and in 1392 (2013-2014) there was no growth in the economy. After the imposition of sanctions, entry to the market of US shale oil and the decline in global oil prices caused the Iranian economy to experience negative growth in 1394 (2015-2016), taking away the opportunity to revive the Iranian economy.

However, in 1395 (2016-2017) the Iranian economy recovered by taking back the oil markets and registering a 12.5 percent growth, and in 1396 (2017-2018), the Iranian economy’s performance was symmetrical with a moderate performance, registering a 3.7 percent growth. Sarzaeem sees 1396 as the last year of a round in the Iranian economy.

According to the former deputy minister of labor, regardless of whether the sanctions were to begin or not, we should have been ready to enter a new era in this year, and it was expected that we would witness slight growth from 1397 (2018-2019). However, in his view, the 4.9% growth achieved in this year was higher than normal. Explaining the present condition of the Iranian economy, he described it as a “stagflation” caused by the foreign currency shock and the sanctions in the supply sector. Stagflation is defined as the coincidence of recession (negative economic growth) and inflation. From the viewpoint of Sarzaeem, it is wrong to think that the recession was caused solely by a decline in government’s foreign exchange earnings and a decline in government demand.

The economist believes that falling demand due to lower oil revenues has deepened the recession and at the same time reduced the intensity of inflation. In fact, he attributes part of the inflation stability in recent months to the fact that household purchasing power and demand have declined.

Difference between Impacts of Current & Previous Sanctions

The current sanction has severely affected the Iranian economy. But this experience was gained less than a decade ago and cannot be regarded as something unfamiliar to the Iranian economy. It was therefore expected that some necessary predictions on reaction to the sanctions would be taken into account inside the country. Nevertheless, did the impact of the previous sanctions and the new one on economic indicators differ? This question was another topic discussed at the World of Economics Seminar.

Sarzaeem’s surveys show that two distinct differences can be identified between the economic indicators of the current sanctions and those of the previous one. The first difference was in the growth of the services sector. The largest share in the Iranian economy belongs to the services sector. In a sense, the services sector can indicate the state of the Iranian economy, because half of the economy will be shocked when the services sector experiences negative growth. According to him, although the industry group faced a sharp decline in the previous sanctions, the services sector did not record a negative growth in none of the years of the sanctions and the numerical growth rate was always above zero. In the current sanction, however, the services sector plunged into recession in the third quarter of last year, registering a negative growth of 1.8%.

Negative growth in services sector also intensified in the fourth quarter of the year. In fact, unlike previous sanctions that half of Iran’s economy was immune from them, in the current sanctions the service sector has been affected too. The second difference between the previous and the new sanctions is attributed to having impact on the private sector, which outlines the difference in the type of recession of these two experiences. A look at the demand sector of the Iranian economy shows that about 58% of products and services are spent on households.

A quick look at the consumption data in the first round of sanctions shows that, while economic performance, government expenditures and investment rates declined sharply, household consumption and private final consumption expenditure were positive in 1391. It was in 1392 that private sector consumption entered a negative phase. In fact, the sanctions affected household consumption with delay, and that is the point of difference with the current sanctions. Because, in 1397 sanctions, household consumption experienced a 2% decline in the very first year of sanctions. “The current sanction has severely and instantly affected to the level of households, influencing incomes and diminishing purchasing power,” Sarzaeem said. 

Growth Engine Is Off

Another indicator that can illustrate the future of the Iranian economy is the investment rate. A review of the investment process in the Iranian economy shows that investment is in a downward trend. The volume of investment shows what the future of an economy will look like, so if we see a downward trend in investment, we may not probably be able to experience a high growth in the future. Given that all government funding is spent on current budgets and development budget is almost closed down, business climate is inappropriate and private sector investment is scarce, investment in the Iranian economy has been damaged, Sarzaeem noted.

He believes when investment in a decade registers such a situation, it should be said that there has been a lost decade. Unfortunately the 2010s has had such a characteristic and is regarded as a lost decade for the Iranian economy. According to the economist, the first thing that happens under the current situation is the depreciation of the existing capital. That is, we are in a situation where not only we are not making new investments, but also we are unable to handle the depreciation of existing assets. He believes that in these circumstances, we are not able to see the short-term and medium-term horizons of the economy as positive and with high growth.

In fact, the analyst envisaged that Iran’s economy would not even be able to reproduce its average growth (3.2%) (even with the lifting of sanctions) in the coming years unless something new happened in investment. He predicted that Iran’s economy would move within the growth range of 1.5% to 2.5%. 

Future of the Economy

At last year’s World of Economics Seminar, two scenarios were envisaged for economic growth of this year. Those scenarios were based on both optimistic and pessimistic assumptions. It was assumed in the optimistic scenario that oil exports would amount to about one million barrels per day and that the budget deficit and banking system problems would be tackled. The pessimistic assumption was that oil exports would reach about 500,000 bpd.

Last year experts predicted that in a pessimistic situation there would be a 3% negative growth for 1397 (2018-2019) and 9% negative growth for 1398 (2019-2020). The current data show there was about 5% negative year-on-year growth for 1397. However, Sarzaeem believes that for 1398, the previously predicted figure can be relied upon.

He said, “My prediction is that a negative growth of 8% to negative 9% will occur this year. I spoke to various economists and I thought there were two viewpoints. One view is that our economy has adapted to new conditions and absorbed negative shocks. As a result, the decline should not be as severe. I do not agree with this view. It seems to me that an atmosphere of excitement and frustration prevailed at the time of the foreign currency jump, but now that the forex market is controlled, some are even predicting zero and positive economic growth while I am against this prediction.”

But how would negative growth affect businesses if it occurs? The university professor believes that even with the lifting of sanctions, Iran’s economy would move on in a downward path. In this case, all sectors that wanted the government to be the employer and they be the contractors would face problem. Also, because of the decline in investment, the businesses involved in production would be struggling, too.

In the short term, businesses that deal with household consumption are less likely to be affected. However, as the depth of the recession has reached the households level they would be affected too. Ultimately, the analyst said businesses would have a future that have a glance at outside and at the neighboring countries. He considers survival of businesses in finding and stabilizing markets for themselves abroad. Prediction of inflation: With monthly inflation declining in recent months, some have concluded that inflation is slowing sharply this year. But the idea was opposed to at the seminar. Studies show that forex shocks take about six seasons to be absorbed by the Iranian economy. In this case, the forex shock which began last year was expected to be discharged by September.

Sarzaeem believes that our problem has not just been that of forex shock but also the enigma of budget deficit has been of great importance. According to him, the budget deficit is significant and close to 30% of the government budget. However, the mechanism according to which the budget deficit is financed will be crucial for the future path of inflation. If the government comes under severe political pressure and gives up and chooses the easiest way, the CBI printing house will start operation and under this condition the liquidity will rise and there will be high monthly inflation again. Another solution is to use the forex sources of foreign exchange reserve fund, which are injected into the economy by converting dollars to rials. This route too will suffer the same fate as the first one.

He predicted that in case this path is taken, the average inflation this year will be around 40% to 50% and around 35% next year, because in the following year only the effect of budget deficit remains and the effect of the forex shock disappears. But if the government and the CBI act more smartly, that is, control the spending first and stand up to pressures, and then cover the budget by releasing securities in conjunction with open market operations, inflation will maintain a downward trend this year. In this case, Sarzaeem predicted, inflation will be around 32% and will reach 20% next year. It depends on how the government and the CBI behave to offset the budget deficit that will put severe pressure on the government in the coming months.

 

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