Iran’s subsidy reform survives crucial hurdle
What is described as the second phase of Iran’s Targeted Subsidy Program appears to be on its way to implementation after the parliament approved to increase the size of the program to 660 trillion rials (about $54 billion using the official exchange rate), denying the government its request for a much larger program (1,350 trillion or $100 billion). The compromise allows the government to increase prices of subsidized goods and at the same time raise the monthly payment of cash to families by an as yet undetermined amount. Some reports suggested that the current cash rebate of 450,000 rials per person per month could increase by as much as one third for the remainder of this year, which ends on March 20, 2013. The timing of the second phase is unknown but there is no doubt that it will happen. Getting the parliament to authorize the second phase means that the subsidy reform program has passed a crucial test, all the more because the economy is under stress from the effects of past inflation, sanctions, and general macroeconomic mismanagement. The critics who wanted to stop the program on its tracks have had a field day in pinning various failures onto the reform program. For the time being they seem content with having slashed its extravagant proposed budget. (more…)
The fall of the Iranian rial: too much of a good thing?
In Tehran’s volatile currency market the rial fell to its lowest level ever today (January 2, 2012), the US dollar closing above 17,000 rials. The devaluation of the rial that started at a gradual pace over a year ago, and was largely expected and welcomed by economists, accelerated, going from less than 11,000 to around 15,000 rial per dollar in a matter of weeks. The additional fall in rial of about 10% in the last two days raises the question if the correction has gone too far. To answer this question one needs to have some idea of what is the right rate of exchange for Iran’s currency, something that you are unlikely to find in standard economics textbooks. There are two reasons why the market clearing price is not a good guide to the value of the rial: sanctions and oil.
Anniversary blues for subsidy reform
The anniversary of the subsidy reform, on December 20, 2011, arrived with fireworks, but not the kind the government had hoped for. In a day that President Ahmadinejad was addressing a conference of the first anniversary of the subsidy reform in Tehran, the rial fell by more than 5%, breaching the psychological 15,000 rials per dollar barrier. These two events are more than coincidentally connected. The rial has been weakened by the inflation unleashed by the subsidy reform, a cost of the reform that was both foreseen and justified. At the same time, the precipitous devaluation of the rial adds to uncertainty and macroeconomic instability that can undermine the subsidy reform. The real benefit from the reform derives from reduced demand for energy, which can only happen if households and firms are willing to change their behavior and invest in energy saving equipment, which in turn requires confidence that the post-reform energy prices will not be washed up in some cycle of inflation and devaluation. Remember, unsubsidized energy prices are equal their world prices multiplied by the exchange rate. With 15,000 rials to the dollar, gasoline (at 4000 or 7000 rials per liter) is 50% cheaper than it was a year ago when the new price was set, and is once again subsidized. (more…)
The trouble with rial
Iran’s currency, the rial, is about to change if not disappear altogether. Iran’s Central Bank is seriously considering taking 4 zeros out of the embattled currency, and even changing its name, perhaps to something Persian sounding like parsi. Neither of these two actions, if they come to pass, deal with the real trouble with rial. I am all for taking the zeros out, and could go along with the name change if that would help people forget that the new rial is the old rial 160 times less valuable (compared to 1977).
Iran inflation accelerates, is the subsidy reform in trouble?
The recent inflation data from Iran’s Central Bank is higher than expected and has the potential to undermine the country’s bold attempt at subsidy reform. The latest published monthly increase in prices of 3.4% for Esfand 1389 (21 February-20 March 2011) is nearly twice what was reported for the same month last year (1.8%), and 30% higher than for the previous month of Bahman. The widely reported “12.4% annual inflation rate” for the year, or the year-on-year average, is misleading because inflation has been accelerating in recent months. The monthly inflation rate has increased steadily from 1.5% in Azar, just before the subsidy reform went into effect, to 3.4% in Esfand. Even the much higher month-on-month (Esfand 1388 to Esfand 1389) increase of 19.9% in the price level underestimates the extent of inflationary pressures: the annualized rate (=(1+monthly rate)^12) has gone in one month from 34% in Bahman to 49% in Esfand. These numbers probably overestimate inflation because of rising Nowruz expenditures, but the fact that the monthly increase in the price level this year is twice what it was last year suggests strongly that the annual inflation rate has at least doubled in recent months, to over 20%. (more…)
More on Iran’s subsidy reform
This oped of mine on Iran’s subsidy reform appeared on the Brookings website on Thursday. Suzanne Maloney of Brookings also wrote a nice piece on the same program, viewing it as a possible solution to Iran’s economic problems, which is a fresh approach instead of the more usual view that we have come to expect from commentators in Iran and the West — as the harbinger of economic ruin. I think the program’s initial success to raise prices at one go without mass protests is noteworthy, and perhaps a model for other Middle Eastern countries to follow, but its overall success depends on two things: (a) whether consumers will use the cash rebate to pay their energy bills and buy local goods and services, like health and education, or spend it on luxuries imported from China, like LCD televisions; and (b) whether producers can manage to stay afloat, by hook or crook, without shutting down or laying off many workers, long enough for the economy to adjust to the new price levels. Both of these depend on complimentary economic policies that the government will introduce in the next few months to improve the business climate in Iran. As usual, reform of the markets for labor, credit and foreign exchange are at the top of the list for action.
Remembering Mehdi Samii (1918-2010), the Good Banker
Mehdi Samii, who died in Los Angeles, California, a week after his 92nd birthday on July 30, 2010, was Iran’s most prominent banker of the twentieth century. His career in Iran spanned the period between the second World War and the Islamic Revolution. He was an influential banker and a leading figure among a small group of dedicated Iranian technocrats who helped build the foundations of a modern economy in Iran, one that produced the miracle growth period of the decade before the oil boom of 1973. (more…)
Is inflation anti-poor in Iran?
This week Iran’s Central Bank announced that the annual inflation rate has dropped below 10%, so it may seem like an odd time to talk about how rising inflation might affect Iran’s poor. But if the government implements the subsidy reform law, as it has promised to do in the second half of this year (Iranian year 1389), inflation will most likely rise. The strongest objection to this reform is not that it will increase the rate of inflation, but that higher inflation will hurt the poor. If that were to happen, it would be the height of irony, for the entire scheme was proposed to promote social justice, not to take money away from the poor. From the point of view of social justice the best part of the scheme as it was originally proposed was that the rich would pay full price for energy and other basic goods while the poor received their subsidy as income. With that scheme, the poor would have gained, at least in relative if not in absolute terms. But the progressive cash-back scheme is no longer on the table, so the distributional effect of the subsidy reform very much depends on how inflation affects the poor versus the rich. So, the crucial question is this: will the inflation that follows the removal of subsidies hurt the poor more than the rich? I have not seen serious evidence that can answer this question (perhaps there is, but I have not seen any). To satisfy my own curiosity I review here the historical evidence on inflation and equality, which seems to suggest that in Iran inflation may not be the cruelest tax of all, as the saying goes. (more…)
Money illusion
Recently an article posted on the government’s website claimed that household resources have doubled under the Ahmadinejad administration. Quoting from the Central Bank’s urban expenditure survey, it said that household expenditures rose from 56.6 million rials per year in 1383 (2004, the last year of Khatami’s presidency) to 113. 2 million in 1387 (2008). The numbers are accurately reported, but I can’t imagine that anyone in Iran would take the claim of doubling of family incomes seriously. One thing you cannot accuse Iranians of is money illusion. If there is any illusion it is in the opposite direction–that inflation reduces real incomes no matter how fast incomes increase in nominal terms. (more…)
A good time for goodbye to subsidies
Everybody acknowledges that Iran’s $50 billion subsidy program cannot continue forever but many don’t think that the time to undo past excesses is now. Iran’s economy is in deep recession, external threats of sanctions and military strikes are on the rise, and internally the nation is in the grips of an unprecedented political crisis. Yet this week the bill to reform the vast subsidy program became law and the Ahmadinejad government is getting ready to take the plunge. (more…)
Tyranny of numbers 
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