Iran’s Economic Slowdown Explained

EghtesadOnline: The recession predicted for the last fiscal year (March 2018-19) turned out to be deeper than expected and proved to be worse than what can be blamed on causes of economic contraction.

News ID: ۷۴۷۶۵۱

23 June 2019

This was stated by economic analyst Hamid Azarmand in an editorial published by the Persian daily Donya-e-Eqtesad on Thursday.

“Except for transportation, mining and some services subsectors, other economic sectors, particularly oil, industry and construction fell into recession last year,” Financial Tribune quoted him as saying.

Iran’s gross domestic product shrank by 4.9% in the year ending March 2019 compared to the year before, the Statistical Center of Iran’s latest report said.

The overall GDP figure stood at 7,130 trillion rials ($53 billion at current market exchange rates) for the year under review.

Production of the two groups of "industry" and "agriculture" contracted by 9.6% and 1.5% respectively.

The "services" group posted a meager 0.02% growth.

“Over the past decade, the investment rate has declined dramatically. The gross fixed capital formation last year was less than 70% of the fiscal 2011-12 level. With the decline of capital formation rate and production capacity, the economy was poised to slow and enter recession," Azarmand wrote.

“An unstable macro environment, a hostile business environment, public sector’s monopolistic practices and its substantial share in Iran’s economy, together with obstacles to financial transactions and foreign trade as well as financial straits each had a role to play in decelerating economic growth last year.”

The analyst noted that shockwaves of the reimposition of American sanctions (after US President Donald Trump unilaterally walked out of the nuclear deal Iran had signed with world powers in 2015) and its direct impact on Iran’s oil exports, foreign trade and consequently the decline in production pushed Iranian economy deeper into recession last year.

Oil Factor

Historically one of the main sources of revenue in Iran, oil has been the main target of US measures against Iran's economy, as Washington seeks to force Iranian crude clients to halt their purchases.

With the extremely rigorous approach of the US to enforce its sanctions of oil exports, Iran’s oil exports fell to around 400,000 bpd in May, less than half of April’s level and down from around 2.5 mbpd in April last year, according to tanker data and industry sources.

The severe impact of reduced oil production is well reflected in the SCI report, according to which economic growth without taking oil production into account stood at -2.4%.

“Despite a 1% growth in the value added of oil and gas sector in the first half of last year, the main engine of Iran's economic growth registered a 29% decrease in the second half of last year,” he said.

“Close to 70% of the negative growth of Iran’s gross domestic product last year could be blamed on the decline in oil production. On top of the direct impact of reduction in oil output on GDP, the revenue effect of black gold was also felt in the government’s public budget.”

With around 40% of Iran’s budget revenues coming from oil exports—far less than the 80-90% of many of its neighboring oil states but still substantial—this year’s budget looks increasingly fragile. It is founded on the twin assumptions of exporting a volume of 1.54 million barrels per day of crude oil and gas condensate at a rate of $54.1 per barrel. Both of these now look impossible to realize, according to Oil Price.com.

Before the US oil sanctions began in earnest in the second half of last year and were bolstered with the removal of waivers in April, Iran’s budget was predicated on at least $30 billion from oil and gas condensate export.

From this, about $24 billion were earmarked for the government’s operating budget (including ongoing National Iranian Oil Company projects), with the remainder to be deposited in the National Development Fund of Iran (the state sovereign fund). The government’s operating budget covers such everyday necessities as salaries for its nearly five million employees, pension payments and corollary benefit payments.

Subsidized Foreign Currency

Following last year’s depreciation of national currency and in a bid to ease the financial burden of Iranian households, the government initiated a policy of massive subsidized foreign currency grants to import essential goods, Azarmand said.

This policy, unlike what the government had expected, not only failed to lower Iranian households’ expenses, but also brought about adverse economic consequences and plunged the country deeper into recession.

“Data provided by the Islamic Republic of Iran Customs Administration show that last year, imports of corn, rice, soybean, soybean oilcake and raw vegetable oils increased, in terms of weight, by 23%, 24%, 17%, 13% and 23% respectively compared with the year before.

The country became overwhelmed with products whose importers received subsidized foreign currency from the government, thanks to the fat profit margins involved in their imports,” he said.

The analyst further said SCI figures show private consumption expenditure, after adjusting for the price level, decreased by 2.2% last year compared with the year before, suggesting that aggregate demand decreased last year.

“The rise in imports of essential goods is, in fact, synonymous with a decline in domestic production. The allocation of subsidized foreign currency with a rate much lower than that of the market boosted imports rather than local production. That is, at least in part, to blame for last year’s recession,” he said.

Export Restrictions & Gov't Pricing

Azarmand slammed export restrictions imposed by the government in the wake of price hikes last year.

“These measures were designed to control prices in domestic markets. However, they dealt yet another blow to economic growth. As costs of domestic production soared, the government decided to pursue a tougher pricing policy by tightening its grip on markets on the pretext of anti-overcharging measures and fight against inflation," he said.

Azarmand stressed that constant changes in foreign exchange market rules and regulations as well as the list of banned exports left exporters and producer confused.

“Under the circumstances, exports at rates higher than those in the domestic market could help production and prolong the survival of domestic manufacturers. They were deprived of this opportunity, thanks to export bans and restrictions,” he concluded.