Central Bank of Iran Sees Reason in Gov’t Oil Presale Proposal

EghtesadOnline: The governor of Central Bank of Iran has backed a government crude oil presale plan of action for domestic buyers, saying that it is one of the few government options to fund the budget deficit in a “healthy” manner.

News ID: ۷۵۰۶۸۶

13 August 2020

By “healthy budget funding”, Abdolnasser Hemmati meant any viable method other than borrowing from the central bank, which runs the risk of increasing the monetary base and pushing up consumer price inflation, which already are at record highs.

“The government budget deficits due to the US economic sanctions on oil exports is a reality,” Hemmati wrote in a note on his social media account on Wednesday.

To cope with the chronic budget deficits, the senior banker narrowed down solutions available to the government to four: 1) reducing expenses, 2) increasing tax revenues 3)selling government assets, and 4) issuing bonds or presale of commodities like crude oil.

Pointing to the devastating economic impact of the coronavirus pandemic, he said the first two options are less likely to contribute effectively to government revenues.

However, the plan to cede government assets is being implemented. The assets include government shares in several state-run companies offered at the stock market.

Earlier in the week, head of the Plan and Budget Organization Mohammad Baqer Nobakht said the government earned 160 trillion rials ($695 million) from share sales in state-run companies. It was far beyond the initial 119 trillion rials ($517m) projected in the 2020-21 fiscal budget.

The government has also earned 520 trillion rials ($3.2 billion) so far from selling bonds at weekly auctions held by the central bank.

Pointing to the merits of selling oil salaf contracts, Hemmati said the initiative “will help manage inflation expectations”. It is also different from other debt instruments as it delivers higher yields.

In response to criticism that such debt and financial commitments would be far too much for future governments to handle, Hemmati said “issuing bonds is a tried and tested method around the world for reducing volatility in macroeconomic variables. Such claims are indeed misplaced and immature.”

He warned that if the government fails to finance the budget deficit via the abovementioned methods, it will again have to approach the central bank, “This would result in increase in money supply and inflation in the coming years and add pressure on the people.”

The outlines of the crude oil presale scheme has been approved by the Supreme Council of Economic Coordination, the ad hoc economic decision-making body comprising the heads of three branches of government. However, it needs indepth reviews by economic and financial experts.

Some Details

According to media reports, the government plans to presale 220 million barrels of crude oil to the people in one year using Islamic parallel salaf contracts.

If the government succeeds it could generate 2,000 trillion rials (9 billion), according to the Persian-language economic newspaper Donya-e-Eqtesad.

Salaf contracts are due to be traded at the Iran Energy Exchange. Reimbursement is backed by the government’s future crude sale after the US embargo on oil export is lifted.

To hedge investment risks emanating from decline in international crude prices and control forex market volatility, the government guarantees that investors would not have to bear any loss. In the worst case scenario they would make profit equivalent to the maximum interest rates banks pay on deposits.

The plan also includes setting up Exchange-Traded Commodity (ETC). An ETC is traded the stock exchange, like any stock, but tracks the price of a commodity or a commodity index. This allows investors to gain exposure to commodity markets without buying futures contracts or the physical commodity. In this sense, ETCs have a share price that moves up and down as prices of the underlying commodities fluctuate.