Iran: Gearing Up For Post-Sanctions Optimism

Courtesy of The Financial Times, a look at Iran, post sanctions:

The prospects for an Iranian economic revival and new opportunities for foreign investors hinge on a final agreement at the end of this month on the nuclear deal and United Nations verification – probably at the start of 2016 – of Iranian compliance, after which sanctions will begin to be lifted.

But even before being finalised, the nuclear deal is already proving economically beneficial since the prospect of the deal is facilitating the Iranian government’s efforts at fiscal adjustment essential for longer-term macroeconomic stability.

Political risk is well contained and will be further reduced by the most tangible dividends of the lifting of sanctions: Iran’s gaining access to $100-120bn in frozen assets (as soon as sanctions are lifted) and its readmission to the SWIFT mechanism of electronic money transfers.

The administration of Hassan Rouhani, the president, inherited a budget framework requiring a $120 per barrel to break even. In drafting its budget for the 2015-16 Iranian fiscal year (which runs from March to March), the government cut its oil price assumption from $72 per barrel to $40 per barrel. As a result, expenditure during this fiscal year is set to rise by 9 per cent year on year – well below inflation at 14 per cent.

The government is hoping for a balanced budget in 2015/16 and is pursuing a multi-faceted strategy of economic liberalisation and investment promotion. Longer-term challenges being addressed include cleaning up the banking sector and developing a workable contractual framework for foreign investment in oil and gas.

Long term investment strategy
In parallel with efforts on the macroeconomic stability front, the government is pursuing a longer-term agenda to boost growth by investment in globally competitive high-value production, thereby reducing dependence on exporting crude oil. Sectors likely to generate strong investment demand are petrochemicals, automotive, mining, tech, insurance and tourism; moreover, businesses with potential to attract outsourcing demand such as pharmaceuticals should also attract investment.

Iran’s internet and e-commerce sector is already bigger than the rest of the Middle East and North Africa region combined – thanks to a rash of entrepreneurial first movers, some of which already have foreign backers. Annual electricity consumption now stands at around 2,160 kwh per capita, compared with 1,300 in neighbouring Iraq. But large-scale investment in generation capacity and modernization of the distribution grids will be needed to keep up supply.

Although labour laws are inflexible, labour itself is cheap and the workforce well educated. For example, Iranian pharmaceuticals companies, which currently make competent replicas of patented medicines, could do so under licence if and when Iran joins the WTO.

Growth would strengthen nuclear deal implementation
From a political standpoint, a return to economic growth would erect an important domestic political barrier to reneging on the nuclear deal or otherwise taking any steps that would risk unravelling the deal. Already in its virtual state, however, the deal is bringing economic benefits.

To ensure the macroeconomic stability required for realising post-sanctions economic growth, the government of President Hassan Rouhani must carry out painful upfront adjustments, especially fiscal, to reverse the populism of the preceding Ahmadinejad administration and to deal with the effects of the oil price collapse. But the government’s political room for manoeuvre in imposing this necessary austerity is increased by the hopes generated in Iran over the prospect of the nuclear deal leading to the country’s global integration and higher living standards.

Cleaning up the state banks is one of the government’s priorities. The 10 big government banks have been told to divest fixed assets and cut back non-core activities by one-third in order to help recapitalization and reorient towards the real economy. One-year deposit rates in excess of 20 per cent have been banned.

Relief at apparent end of era of confrontation
As a result, public grumbling over Rouhani’s failure so far to bring about a miracle of national regeneration has been outweighed by satisfaction that the era of confrontation seems to be over and that the economy is behaving in a more predictable manner.

Thus, the riots that greeted the government’s first subsidy cuts in 2014 were not repeated when, in the latest phase of subsidy eradication last month, the price of petrol was hiked by 40 per cent to 10,000 riyals per litre (around $0.35). In a second anti-populist measure, the Central Bank of Iran (CBI) has tightened financing terms for the massive Mehr project, under which Ahmadinejad had planned to bring subsidized housing to 2m families.

Political-risk factors show an improving picture though the following need to be kept in mind:

A drop in Rouhani’s popularity could lead to the election of conservatives in next spring’s parliamentary elections and his failure to win the next presidential poll (in 2018). At the moment, however, such a scenario seems unlikely. Sealing the nuclear deal in June should result in more of Rouhani’s supporters entering the new parliament next year – as well as creating a tailwind for his re-election (the constitution permits him to run for a second term).

In the current tense international circumstances, public demands for democracy have become markedly less vocal. A somewhat benign dual trend can be observed. On the one hand – and in marked contrast with, say, the attitudes in the Arab street on display during the tumult of 2011 – Iranians value the stability they now enjoy and have a certain stake in the steady evolution of the present system as opposed to upheaval. This attitude has likely been reinforced by the prospect of an end to Iran’s international isolation – a prospect that few will wish to derail.

Secular values trump revolution
At the same time, there is clear evidence of general drift in society away from revolutionary ideology towards secular values. Survey estimates put the share of Iranians who remain committed to the ideals of 1979 Islamic Revolution at 20-30 per cent of the population; the remainder show various levels of commitment towards achieving Western-style social emancipation and consumerism. While this creates obvious longer-term risks for regime stability, the immediate outlook is one of relative political calm.

Just as the prospect of economic revival stemming from the nuclear deal is already helping to mitigate these political risks, so the impact of the tangible dividends – above all, Iran’s ability to access $100-120bn of frozen assets as early as the first quarter of 2016 – will be to further reduce such risks.

This entry was posted on Monday, June 29th, 2015 at 10:20 am and is filed under Iran.  You can follow any responses to this entry through the RSS 2.0 feed.  Both comments and pings are currently closed. 

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