Irans Economy in Crisis

Farrokh Zandi Schulich School of Business York University Toronto, Canada

Ease of Doing Business

Economies are ranked on their from 1 183, with first place being the best.  A high ranking on the ease of doing business index means the regulatory environment is conducive to the operation of business. This index averages the country's percentile rankings on 10 topics.


Ease of Doing Business



Ranking Table: SOURCE: THE WORLD BANK GROUP

Oil- Dependent Economy



Oil and gas exports dominate Irans export revenues, constituting about 80% of total exports and are the most important source of foreign exchange earnings for the country.

Oil- Dependent Economy

Oil revenue continues to account for the majority of export earnings and represents the bulk of government revenue (about 40%).  Irans dependence on oil export revenues makes the country highly susceptible to the volatility of international oil prices.


Irans Economy in Crisis



The lifeblood of Irans economy, its oil and gas industry, is showing serious signs of distress. Due to years of neglect, Irans current daily oil production has fallen to near 3.7 million barrels, which is more than 5% below its OPEC quota.

Irans Economy in Crisis



In contrast, in 1974, five years before the Islamic Revolution, Iran pumped 6.1 million barrels per day.

Irans Economy in Crisis

Iran oil production levels are limited by a number of factors.  The oil industry faces a high rate of natural decline of mature oil fields and low oil recovery rates.


Irans Economy in Crisis



Iran also has been plagued by aging infrastructure and old technology. Most oil fields dating back to 1920s require significant upgrades in facilities.

Irans Economy in Crisis



Structural upgrades and access to new technologies, such as natural gas injections and other enhanced oil recovery efforts, have been limited by a lack of investment.

Irans Economy in Crisis



It is believed that millions of barrels of oil are lost annually because of damage to reservoirs and these natural declines.

Irans Economy in Crisis



At the current rate of investment, production of oil is expected to decline at a rate of 13% per year making Iran an oil importing nation by 2020.

Irans Economy in Crisis



To maintain oil production at its 20082009 level of 3.9 million barrels a day, nine billion dollars fresh investment per year is needed. The current investment undertaking is under 3 billion dollars.

Irans Economy in Crisis

While the supply of domestic oil is dwindling, there is no sign of abatement on the demand side.  In fact, at the current subsidized gasoline prices, the annual consumption will continue to increase at the rate of 10- 12 percent per year eating into exports.


Irans Economy in Crisis



Currently, Irans 7 million vehicles consume the same amount of gas as Britains 35 million vehicles.

Irans Economy in Crisis




IRANIAN ENERGY SUBSIDIES, ESTIMATED VALUE AND SHARE OF GDP, SELECTED YEARS
Year Energy Subsidies Value* 1994 2001/2 2003 2005 2007 $11 (15.92) $11 (13.39) $13 (15.51) $37 (40.64) $50 (51.74) GDP of Iran* Share of GDP (%) 16.42 9.4819 10.00 19.68 17.54

    

$67 (96.99) $116 (139.43) $133 (155.07) $188 (206.52) $285 (294.89)

NOTES: *Billions of U.S. dollars in current dollars (historical dollars unadjusted for inflation); numbers converted into 2009 dollars in parentheses; numbers on subsidies value are inexact estimates from varying sources. Other sources say energy subsidies averaged 11 percent of Irans gross domestic product (GDP) in the 1990s; this data indicates subsidies dipped as a share of GDP near the end of the decade.

Irans Economy in Crisis



MOTOR GASOLINE LITRES CONSUMED FOR ROAD TRANSPORT IN IRAN AND ITS NEIGHBOURS IN 2007

Country

Liters/Day

Population

Liters/Day/Person

     


627,847 2,971,650 0.2113 2,946,049 8,120,247 63,862,027 65,397,521 14,343,879 27,500,156 5,323,693 169,121,963 9,046,192 74,767,836 Turkmenistan 3,139,233 4,774,232 U.S. 1,376,863,825 301,290,332 4.5699
Source: STRUCTURAL PATRONAGE IN IRAN:IMPLICATIONS OF SUBSIDIES REFORM FOR IRAN AND U.S. POLICY

Armenia Azerbaijan Iran Iraq Pakistan Turkey

0.3628 0.9765 0.5216 0.0315 0.121 0.6575

Irans Economy in Crisis



Holding an estimated 10% of global proven oil reserves, Iran boasts the worlds third largest proven petroleum reserves following Saudi Arabia and Canada.

Irans Economy in Crisis



The country must import close to half of all refined petroleum products to meet domestic consumption needs. Iranian refineries produce about 44 million litres a day, whereas the domestic consumption is near 65 million litres a day. Iranian gasoline imports were projected to total $5.7 billion in 2006 and $6.1 billion in 2007.

Irans Economy in Crisis

Irans Economy in Crisis

Irans Economy in Crisis

Irans Economy in Crisis

OIL REVENUE (real $2000)
90 80 70 60 50 40 30 20 10 0 1 3 5 7 9 11 13 15 17 19 21 23 25 27 29 31 33 35 1975-2009 Series1

Irans Economy in Crisis



With an estimated 15% of the worlds gas reserves, Iran has the second largest natural gas reserves globally, following Russia. Despite its vast gas resources, Iran has been unable to become a major international gas exporter. In fact, Iran has been a net importer of natural gas as late as 2005.

Economic Stagnation


Non- oil sector production is stagnant primarily due to the recent import-driven policy of the current government. When factories do remain open they cannot afford to pay workers. The resulting wild-cat strikes are hampering production in some key industries.

Economic Stagnation


Non-oil exports TABLE

Economic Stagnation


Other major export items are petrochemicals, minerals, carpets, and fresh and dried fruits.

Subsidy Reform


Although sanctions have hastened subsidies reform, critical motivations for reform are:  the Iranian regimes desires to seize greater political power,  increase the Islamic Revolutionary Guards Corps market dominance,  redistribute income,  and lessen budgetary pressure

Subsidy Reform


The regime could use subsidies reform to punish and reward members of Irans business class. Many of Irans businesses use energy subsidies to lower production costs.

Subsidy Reform


Reversing these subsidies, which has already begun, holds the promise of compounding inflation, creating favouritism, and fostering further public discontent.

Credit Crunch


Iran was recently planning to release 1.5 billion euros worth of bonds to finance the development of its key energy sector, including the giant South Pars gas field in Persian gulf. This is the second time the regime has resorted to this sort of measures since it came to power in 1979.

Credit Crunch


Iran has limited access to international credit markets due to several factors including: the sanctions, the falling price of oil, the accelerating flight of capital to safety due to the rising political risk, the growing crisis in the banking sector, and currency risk.

Exchange Rates Policy



The Government of Islamic Republics efforts to stabilize the currency is costing it between $180 million to $250 million a day. Despite these efforts Rial has depreciated by almost 5% since last December. It should be noted that the daily oil export revenue- currently approximately $150 million- does not cover this shortfall.

Other Stabilization Policies



The loss of income this way has compounded by rampant inflation caused by Ahmadinejad governments excessively loose fiscal policy and the consequent loose monetary policy forcing the government to resort to the policy of price control.

Other Stabilization Policies

Irans Average Annual Real GDP Growth: 2000-2010  Fiscal Year Average Annual Growth (%)
          

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

5.1 3.7 7.5 7.1 5.1 4.7 5.8 7.8 2.3 (forecast) 0.5 (forecast) 0

Source: Economic Intelligence Unit (derived from World Bank, World Development Indicators).

Other Stabilization Policies



Irans economic growth has been hampered by consistently double-digit rates of inflation. Although high inflation is widespread among the oil-exporting countries in the Middle East and Central Asia, Iran has one of the highest.

Other Stabilization Policies

Irans average Consumer Price Index (CPI) inflation in the last five years has been reported at 18% per year.  The current year is witnessing an inflation rate is near 40%.


Other Stabilization Policies

Domestic factors contributing to the rise in inflation include expansionary fiscal and expansionary monetary policies that are behind the growing consumption demands. External factors include international sanctions against Iran and rising international food and energy import prices.

Other Stabilization Policies

The government has used oil export revenues from the Oil Stabilization Fund (OSF) to support expansionary fiscal and monetary policies. The OSF was created by Irans Central Bank, the Bank Markazi, in 2001 to store surplus oil revenue and to smooth economic vulnerabilities associated with oil price fluctuations.

Other Stabilization Policies

Iran has been drawing down on its OSF to finance discretionary spending, such as public subsidies and low-interest loans. While estimates vary about the size of the Oil Stabilization Fund (OSF), many observers express concern that there are no longer sufficient funds in the OSF to cushion against the global economic turndown.

Other Stabilization Policies

Irans Central Bank technically is an independent institution. However, the Iranian government has direct control over lending and investment activities of commercial banks. Irans Central Bank, is not able to conduct a proactive monetary policy and has no control over the governments fiscal policy.

Other Stabilization Policies

In addition, the Central Bank is limited in its ability to issue direct instruments to combat inflationary pressures. The Central Bank must obtain approval from the Majlis in order to issue participation papers.

Other Stabilization Policies



In May 2007, President Ahmadinejad capped lending rates to 12% for state-owned banks and 13% for commercial banks, despite strong opposition from the Central Bank. Setting interest rates below the rate of inflation reportedly has placed many commercial banks under financial duress.

Other Stabilization Policies



In addition, most of the financial intermediaries loan portfolios are comprised of low-return loans to state-owned enterprises and quasi-government agencies, such as the bonyads. Currently the commercial banks- state owned or private- have a $40 billion overdue claim against their borrowers.

Other Stabilization Policies



To support the expansionary economic programs of Ahmadinejads government, the Iranian Central Bank has resorted to an unprecedented expansionary monetary policy.

Other Stabilization Policies



The monetary base, ( Currency in circulation + banks cash reserves), which is the ultimate determinant of liquidity and supply of money, grew at a breathtaking rate of 93% between 2006 and 2008, to be scaled back by 12 % over the following 6 months.

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