Think Tank Deliberates on Government’s Budgetary Woes

EghtesadOnline: With oil prices in freefall and the coronavirus spreading like wildfire, the government will get more and more worked up this year than the last, especially because of the fiscal burden imposed by sanctions and the decline in oil sales.

News ID: ۷۵۰۰۷۹

19 May 2020

In the fiscal 2019-20, the relatively smaller size of the budget deficit, the availability of foreign exchange reserves from the National Development Fund of Iran and the untapped potential of debt bonds to some degree prevented the deficit’s strong impact on the economy.

In the current fiscal year (March 2020-21), the projected budget deficit of 1,500 trillion rials ($8.62 billion), the 960-trillion-rial ($5.5 billion) reliance of the budget on bonds and the drastic fall in oil prices and tax revenues, as well as the mounting costs of coronavirus outbreak, are bound to compound the government’s economic woes.

The research arm of the Iranian parliament, Majlis Research Center, has put forth solutions to tackle this long-ignored fiscal challenge in four stages in one of its recent reports.

It has also recommended that the government end the two-year old policy of allocating subsidized foreign exchange currency to the import of essential goods and free up between 100 and 430 trillion rials (574 million-2.47 billion) from these resources.

Subsidized Import Policy

Following the re-tanking of the national currency in early 2017, the government introduced stringent rules like banning the import of non-essential goods, especially those produced inside the country (known as Group IV goods).

It allocated subsidized currency at the rate of 42,000 rials to a dollar to 25 categories of essential goods (also known as Group I or necessity goods) to help protect consumers against galloping inflation, rampant price gouging and hoarding, not to mention the high and rising cost of living.

Two other categories of imports were also defined: Group II, which mostly included raw materials, intermediate and capital goods, and Group III consisting of essential consumer goods.

Importers of products in Group II were to meet their forex requirements from the secondary forex market, known by its Persian acronym Nima. Importers of goods in Group III could buy hard currency from exporters who were not required to offer their forex earnings on Nima.

In the last fiscal year, the government removed five imported items, namely red meat, butter, pulses, tea and sugar from the list of basic goods entitled to subsidized currency.

So far, vegetable oil, oilseeds, corn, barley, soybean meal, raw materials for manufacturing tires, heavy-duty vehicle tires, paper pulp and different types of paper are still considered essential goods.

The government has envisioned $10.5 billion for their imports this year, of which only $5 billion have been projected to be gained from oil exports. It will have to provide the remaining $5.5 billion from the secondary forex market and offer it to importers of essential goods at the subsidized forex rate.

Experts of MRC believe that foreign currency exchange reserves needed to import essential goods should be provided through the secondary forex market. The allocation of subsidized foreign currency, they say, will increase the monetary base and inflation rate. In addition, just like the past two years, it would result in rent-seeking practices among importers and further enfeeble domestic production.

With the hypothetical 128,000 rials per dollar provided via the secondary forex market and the lack of $5.5 billion, the budget deficit coming from keeping subsidized currency policy would hover around 473 trillion rials ($2.7 billion) that would probably be totally met from monetary base. Such an increase in the total amount of currency that is either in general circulation in the hands of the public or in commercial bank deposits held in the Central Bank of Iran’s reserves will increase inflation by 11% in the fiscal 2020-21 whereas the abandonment of subsidized imports would increase the Consumer Price Index by 6%.

Notably, the nature of inflation coming from these two policies is different. Inflation resulting from terminating this expensive policy would occur once and in the form of growth in the Consumer Price Index and changes in relative prices. But, the inflation created by budget deficit will be structural and long-term; its consequences will linger over subsequent years. The total termination or reduction of subsidized imports will release between 100 and 430 trillion rials (574 million-2.47 billion) for the government to help narrow the budget deficit.

Solutions

The parliamentary think tank has put forward other solutions to tackle the deficit situation, including the transfer of governmental shares in non-governmental companies, sales of public, nonfinancial assets that derive their value from their physical traits like real estate and mines, selling debt bonds beyond the projected sum stipulated in the budget law, imposing tax on banking transactions and increasing the value added tax rate.

Other proposals include increasing the tax rate on stock market trades, levying tax on capital gains realized from the sales of stocks and interest earned from bank deposits, capital gains tax (housing, cars, lands) and wealth tax, raising tax on unhealthy hazardous products or pollutants, eliminating tax exemption of free trade zones and special economic zones, introducing personal income tax and taxing agriculture (after cancelling the sector’s tax exemption).

Stimulating production through various methods like supplying land for housing projects, increasing consumption of alternative fuels like liquefied petroleum gas and compressed natural gas, and exporting gasoline, reforming the reference exchange rates of import duties, reducing tax evasion by making transactions transparent and removing a portion of unnecessary subsidies were also proposed to the government in the MRC report.