Tyranny of numbers

The recent nationwide protests in Iran are the result of an accumulation of grievances, increasingly focused on what is commonly described as the “loss of value of the national currency.” This phrase is a familiar everyday lament among Iranians, who often equate the value of the rial—measured in U.S. dollars—with living standards. In doing so, they typically focus on the free-market exchange rate. Although this is a narrow market, it produces the most dramatic signal. The bulk of foreign exchange transactions take place at lower rates, but access to them is limited. The free-market rate, now around 1.3 million rials per dollar and averaging just under one million in the past month (see the blue line in Figure 1, left axis), is roughly 100 times its level when Obama-era sanctions took effect in late 2011.

The depreciation of the rial is closely associated with inflation. On the one hand, because most domestically produced goods have an imported component, their prices rise when the currency depreciates. On the other hand, inflation itself undermines the value of the rial. There is no reason, however, for domestic prices and the exchange rate to move in perfect tandem. Devaluation can outpace inflation if demand for dollars rises faster than demand for the rial, as it has in Iran over the past decade and a half. This is shown by the near doubling since 2011 of the real exchange rate (RER) — which corrects the nominal exchange rate by the difference in the rates of inflation in Iran and the US.

The RER is a more meaningful economic indicator than the nominal exchange rate because it measures the competitiveness of Iranian products in global markets—or, more accurately, would measure it, since U.S. sanctions prevent Iran from competing globally. The near doubling of the real exchange rate since 2011 is enormous by historical standards and reflects Iran’s potential competitive advantage. This is one reason I have argued that financial sanctions do more harm than oil sanctions. For those who earn income abroad and spend it in Iran, the country appears cheap, allowing them to feel relatively wealthy and to enjoy inexpensive restaurants or low-cost services such as dental care. For those who live and work in Iran, however, currency depreciation is bad news: it can push many consumer goods out of reach, with notable exceptions such as bread, gasoline, and public transportation.

As Figure 2 shows, inflation has risen sharply following each major collapse in the value of the rial, surging after the Obama and Trump sanctions in 2012 and 2018. The figure also illustrates the close association between depreciation and inflation. This is hardly surprising. As noted earlier, most locally produced goods contain imported inputs, causing prices to rise when the currency weakens, while inflation itself erodes the value of the rial. There is no reason for prices and the exchange rate to move one-for-one, and devaluation can exceed inflation when demand for dollars increases more rapidly than demand for the domestic currency.

It is therefore unsurprising that news of currency reforms that are certain to devalue the rial was quickly interpreted as signaling further declines in living standards, regardless of how the government intended to use the proceeds. The government has announced plans to substantially increase cash transfers, which could raise the real incomes of the poor, as a similar policy did in 2022 under the Raisi administration.

Opposition to the reforms that may have triggered the initial protests in late December, as some have claimed, was partly rooted in the historical association between devaluation and inflation. However, if the new transfers resemble those implemented in 2011 under Ahmadinejad and again in 2022 under Raisi, fears that inflation and currency depreciation automatically translate into impoverishment may not be realized—at least for households below the median income. For decline in poverty after these reforms, see here and here.

In economics, currency depreciation is not inherently good or bad. Even when it is harmful, it does not necessarily signal economic collapse. Western media outlets that favor the forcible replacement of the Islamic Republic with a U.S.-friendly (read docile) regime invoke the specter of imminent collapse to discredit diplomacy. Years ago, The Atlantic described the sharp devaluation following the tightening of Obama-era sanctions in 2011 as evidence of a dying economy. Nearly 15 years later the economy is suffering but it is still alive. Thanks to cash transfers and subsidies, people can at least afford to buy their daily bread, children go to school, and buses run.

PS. I have corrected the definition of RER in the initial text to read “[RER] corrects the nominal exchange rate by the difference in the rates of inflation in Iran and the US.” (1/7/2026)