Predicting the future, especially the future outlooks of complicated economic conditions of Iran, is a daring job. If the forecast turn out to be wrong, the author will be taken to task and if the forecast comes true, nobody will mention it. Therefore, there is no serious motive to speculate about the situation of the Iranian economy.

Saeed Leilaz, Economist

The writer, however, is used to predicting the overall situation of the Iranian economy in the coming year, though none of my forecasts were as accurate as that of 2006. When I read it before publication, it thought it was too bitter and pessimistic and I was afraid lest insistence of Dr. Ahmadinejad’s government to dismiss me from lower levels of management has been influential in my writing. However, realization of my forecast was indication of a calamity, which is much more important than consternation of people like me.

As expected, the Iranian economy weathered the preceding Iranian year (ended March 20, 2007) with grave concerns about the fate of the nuclear dossier, on the one hand, and final orientation of government’s economic policies, on the other hand. After a whole year, the ambiguity about both issues (the nuclear dossier and government’s economic policies) is still in place. Last year, statesmen believed that without any need to academic and scientific backing, the ninth government has a silver bullet to solve, more or less, chronic economic problems of the country. According to new solution, the government could print as much money as it wanted without increasing inflation rate; reduce the interest rate without sending ripples into the money market; and shake domestic and foreign political situation without scaring investors and triggering capital flight. They thought they can reduce customs tariffs to pave the way for excessive imports without harming domestic production and job creation or double financial resources without encouraging extravagance….

As a result, the past Iranian year turned into another lost opportunity in which financial resources were introduced into the economy more than any year before. Although Iran’s foreign exchange revenues reached the fabulous figure of 70 billion dollars and even the record for per capita exports of 1976 was broken for the first time after the victory of the Islamic Revolution, and despite the fact that most of that money was introduced into the economic system through excessive import of goods and services, no positive and considerable change took place in major economic indexes such as the growth rate of gross domestic product, increase in job creation, and reduction of inflation. According to official figures produced by the Central Bank of Iran, growth rate of gross domestic product stood at 4.7 percent in the first quarter of the Iranian year 1385 (2006-07) against 7.1 percent for the corresponding period of the preceding year. The figures for the second quarter were so low that they were taken out of the Central Bank’s report.

The oil sector will be under pressures from two limiting factors. The first factor is downturn in crude oil production in the country, which has been there since the middle of 1384 according to official reports and has fell below 4 million barrels per day.

According to official estimates by Management and Plan Organization, growth rate for gross domestic product (GDP) stood at less than 5 percent for the same year, which was below the preceding year’s figure of 5.4 percent. However, overall economic performance of the country during the same year showed that the figure may be even lower than the corresponding figure for 2003 (4.8 percent), thus accounting for the lowest figure for GDP growth in 2000s. The main feature of growth reduction was severe stagnation in service, housing, industries and oil sectors. Of course, due to rapid escalation of prices in the housing sector during the second half of the year, growth lag in that sector was accounted for. However, due to reduced production and export of crude oil in the ensuing months, the added value of the said sector grew negatively. In industries sector, enforcement of open doors policy and turning Iran into a huge free zone with an area of 1.6 million square kilometers and a population of 70 million, further subdued growth of added value in that sector. On the whole, all sectors of national economy performed worse in 2006 compared to preceding year and the only apparent growth took place in the housing sector due to unprecedented price hike and poor performance of the sector in 2005.

One of the most important developments of 2006 was a new wave of inflation in the middle of the summer due to expansionary monetary policies. The price index of consumer goods and services, which had increased 6.5 percent in the first month of the year compared to the corresponding period of the preceding year, grew so rapidly after August that it reached 17.3 percent in late December 2006 and January 2007, which was comparable to 10.9 percent inflation in September of 2005. Therefore, the main aspiration of the ninth government was stifled due to explosive monetary policies of the Central Bank and a 40-percent growth in liquidity. The inflation rate surpassed the 20-percent mark by the end of the year to become the double of the inflation rate when President Mahmoud Ahmadinejad took over from Seyed Mohammad Khatami.

Enlargement of the government at an unbelievable speed and unprecedented increase in current and developmental expenses made the government sell 25 billion dollars of petrodollars in addition to figures mentioned in the Budget Act to cover its expenses. During 2001-2006 the growth rate of government’s consumer expenses had never surpassed one-fifth of the growth rate of private consumer expenses which means reduction in the government’s share of gross domestic product at the highest possible speed.

However, since the second quarter of 1384 (corresponding to third quarter of 2005), and according to figures released by Central Bank of Iran, the trend took a reserve turn, so that, in the first quarter of the Iranian calendar year 1385, growth rate of the government’s consumer expenses increased by 10-fold, that is, twofold the growth rate of private consumer expenses which was translated into increased share of the government in national economy after years of downsizing. Also, despite the intent of the chief executive, the law of "cause and effect" in the economy did not let the change to end right there. In order to be able to create "demand" for the huge amount of sold foreign exchange, in addition to expanding the liquidity by 40 percent, the government was forced to make another big mistake by reducing the effective rate of customs tariffs (as evidenced by Ministry of Commerce) from 16 percent according to Budget Act of 2006 and 12.5 percent under president Khatami (which was sharply criticized by head of the ninth government) to about 10 percent so as to facilitate import of goods and services to the country.

As a result of that policy, in addition to reduction of projected customs revenues by, at least, 2,000 billion tomans and putting more pressure on the Oil Stabilization Fund. Domestic production and employment, as another promise of the ninth government, was dealt serious blows. Despite the fact that the year 2006 was the most luxurious year for Iran in terms of foreign exchange revenues, even in terms of per capita foreign exchange revenue, domestic production was hit by excessive imports and, thus, many plants were shut down and thousands of workers lost their jobs.

It was due to lack of theoretical basis for the implementation of macroeconomic policies that the ninth government implemented the correct policy of reducing interest rate, though in an erroneous manner. As bank deposits poured into the housing sector as the best haven for people’s investments, the sector experienced its highest inflation during the past decade. Due to lack of firm theoretical basis, reducing the interest rate, which should have powered economic growth and prosperity, only channeled liquidity toward the housing sector. While the government had practically stopped privatization and offering new stocks on Tehran Stock Exchange to invigorate the stock market and had prohibited any form of increase in the capital of companies on the stock market and even made trading about 10,000 billion tomans worth of Tehran Stock Exchange’s stocks well-nigh impossible, the price index did not go past 9990 by late February 2007. The figure is not likely to pass 10,000 mark by the end of the said year (March 2008). If according to the stock market index of mid-1383 (13,500), Tehran Stock Exchange was supposed to claim its per capita share of liquidity growth in the Iranian years 1384 and 1385, the bourse index should have surpassed 24,000 by the end of the Iranian years 1385 (ended March 20, 2007).

A glance at the government’s economic performance in 2006 and its comparison with the Budget Act that has been ratified by the Majlis leaves no hope for prediction of the country’s economic situation through the contents of the current year’s budget bill.

Pressure put by the government on the banking network to reduce interest rate of its facilities without asking for creditable collateral, led to a bigger and new calamity. According to the latest statistics, the outstanding claims of domestic banks during the first 8 months of the current year (1385) suddenly increased by 50 percent from 8 percent to 12 percent. During the same period, total claims increased only 15 percent. In other words, by adding about 500 billion tomans to outstanding claims of banks in less than a year, the biggest rent seeking current in the whole Iranian history came into being and the gap between the poor and the rich greatly widened.

Despite such measures that were against economic principles, deteriorating situation of Iran’s foreign relations and controversy over such issues as Holocaust conference only worked to hasten the collapse of Iran’s economy. Attraction of foreign capital fell from 3 and 4.3 billion dollars in 2003 and 2004, respectively, to less than 0.8 billion dollars in 2006. To make up for capital flight, 4 billion dollars was withdrawn from the Oil Stabilization Fund. Also, official sanctions by the United Nations and unofficial sanctions by the United States and its allies were intensified.

All those developments along with negative events in economic fields such as reduced share of the private sector from national economy, decreased ratio of taxes to current expenses of the government from 37 percent to 36.4 percent, increased foreign exchange spending, depletion of the Oil Stabilization Fund to the loss of domestic production and employment, as well as unbridled increase in demands by various groups of people, especially civil servants… worsened gravity of political and economic situation in the country to the extent that it reverberated in the general elections of December 15, 2006. Afterwards, both Majlis deputies and high ranking officials were seeking ways to change economic and political orientation of the government in the winter of 2007. As a result of unanimous pressures, even from strategic allies of the government, the budget bill for the current year was formulated in a totally different direction from performances, mottos and directions of the preceding year. The budget, which was contractionary, but equally dangerous, was forwarded to the legislature in late January.

On the whole, the Iranian year 1385 (2006-07) was among economically and politically dangerous junctures after the victory of the Islamic Republic of Iran. During which the fragile social structure of the country was made more so as a result of reliance on popular, but impractical mottos, and moving in the reverse direction. The government not only failed to achieve its ambitious economic and social goals in realizing a two-digit production rate and bringing down inflation and unemployment to single-digit figures; but also failed in achieving the logical and more practical goals of the Fourth Economic Development Plan, including an inflation rate of 11.5 percent (with real inflation exceeding 14 percent), a liquidity growth rate of 22 percent (with real rate hitting 40 percent) and an economic growth rate of 6.5 percent (with real rate being less than 5 percent). Therefore, the country is bracing for a new Iranian year without having the least estimate and speculation of direction in which political and social relations as well as domestic and foreign economic relations will move.

Available estimates of the latest economic situation in the world show that apart from Russia, almost all big economies of the world, which account for more than 95 percent of global wealth generation, experienced slowed growth in 2007. A forecast by the Economist magazine shows that in 2007, economic growth in the United States, Japan, and the European Union will be on the fall while other countries like China, India, and Russia will experience little growth of their economies. Despite continued political instability throughout the world, especially in the Middle East and Persian Gulf, the said reduction in global economic growth rate is responsible for instability of global oil price. When this paper was written, international oil price stood at 58 dollars per barrel, that is, about 20 dollars lower than its peak in the middle of 2006.

Therefore, if average international price of crude oil is taken to be about 55 dollars per barrel in 2007, average price of every barrel of Iran’s exported crude will stand lower than 50 dollars. As Iran’s oil export has been constantly on the fall since the summer of 2005, and currently stands below the 2004’s level, that is, below 2.6 million barrels per day, assuming discontinuation of production and export decline, Iran will export about 950 million barrels crude oil in 2007. Therefore, government’s foreign exchange revenues will hit 47 billion dollars if every barrel of oil is sold for 50 dollars and will stand at 43 billion dollars is Iran’s oil is sold at 45 dollars a barrel.

Performance of the ninth government with regard to the Budget Act in 2006 and presenting five supplements shows that any discussion of the budget act for the current year, both in this paper, or in Majlis and elsewhere will be futile and, more importantly it is not possible to get a general image of future trend of the Iranian economy through the budget bill.

A glance at the government’s economic performance in 2006 and its comparison with the Budget Act that has been ratified by the Majlis leaves no hope for prediction of the country’s economic situation through the contents of the current year’s budget bill. However, it does not seem that the government will be able or even willing to harness its expansionary financial and monetary policy in the upcoming year and change its direction. Compared to totally expansionary policy of 2006, both in financial and monetary terms, the budget bill for 2007, even if approved by Majlis without any change, will not be practical because even if the government halts the said policy right now, restoring the situation that existed in the first half of the Iranian year 1384 and going back to the word and spirit of the Fourth Economic Development Plan will not be possible before 2008 or 2009. Since according to remarks made by Minister of Economic Affairs and Finance and taking the budget supplements into account, the government’s foreign exchange spending in 2006 reached 47 billion dollars, if price of Iran’s crude oil remains constant in 2007, no more money will be settled to the Oil Stabilization Fund and the country will be facing a deficit in its foreign exchange balance.

As said before, the second presumption of this paper is the government’s unsuccessful effort to implement contractionary budge bill of 2007, which would mean continuation of foreign exchange policy of 2006 and, subsequently, import policy of that year. Complete implementation of the government’s proposed budget bill will be a great shock to the society because it is not in line with orientation of the government over the past three years and will further increase social vulnerability of the country. Many sources of revenues like bonds, revenues through privatization, taxation, and customs revenues will not be realized to the extent that has been projected by the budget bill. On the contrary, many expenses such as salaries and wages of civil servants and the cost of gasoline imports will exceed budgetary figures. Therefore, the fate of the bill is to be ignored by the government which will have to tap the Oil Stabilization Fund again, with the help of the Majlis. This will cast serious doubts on the outlooks for balance between supply and demand for dollar and it is not clear whether the government will be able in the current year to sustain a single foreign exchange rate system and keep parity of dollar at the current level of 920 tomans.

The third presumption is continuation of the current situation in the Islamic Republic of Iran’s diplomacy and persistence of the current situation of the nuclear dossier and critical relations with the United States in 2007. Of course, the outlooks for economic sanctions look bleak. Both with regard to official sanctions through resolutions adopted by the United Nations Security Council as well as more important and effective sanctions imposed by the United States, the Iranian economy will be under mounting pressures in 2007. Those pressures are source to cause troubles for economic managers and various corporations and will also increase the costs of the national economy through more extensive imports and less expensive exports. Of course, the situation will not lead to economic collapse or submission in nuclear standoff without receiving needed incentives and concessions. At present, the sold international element affecting Iran’s economy and foreign policy is fluctuations of international oil price, whose outlooks for the current year are not so bad.

However, the most economic impact of the current standoff with the United Nations Security Council and the United States of America is continuation of a state of uncertainty and capital flight. The fact that despite a 40-percent increase in liquidity, both the Tehran Stock Exchange index and value of transaction therein in 2006 was lower than 2005 shows that investors are afraid of taking their money to the capital market. It seems that by the end of the Iranian year 2006, total value of transactions at Tehran Stock Exchange barely reached half of the 2004’s performance of 104,000 billion rials.

As was the case in 2006, the conflict between the ninth government and the seventh Majlis will continue with more heat. Aggravation of economic situation, especially inflation, after May 2007 will even turn the outward respectful language between the government and Majlis into open criticism and the government will not be able to make Majlis follow suit with its policies as it did in 2006 (including ratification of five supplements to the Budget Act). Since the contractionary budget bill for 2007 has been offered with an eye on presenting necessary supplements throughout the year, the end of the apparent union between government and Majlis will mean that the government will be deprived of surplus financial resources in addition to those projected by the budget bill. This will further deepen the gap between the executive power and the legislature. On the other hand, the ninth government will start the current year from a weaker economic and political position compared to last year and since it has lost much of its self-confidence about rightfulness of its economic policies and having the backing of people, the government will be more open to criticism from its political opponents.

The change made in the content of the fifth budget supplement by the Majlis in late February showed that due to government’s inattention to the impact of its expansionary policies, Majlis has decided to care more for the economy. Therefore, the fourth presumption is that the budget bill will be under painstaking scrutiny by the Majlis. This will further aggravate economic situation because the anarchic order of the government which reigns its economic trends will be lost without any alternative of supplant it.

In general, the year 1386 (2007-08) seems to be more turbulent in economic and political terms and there will be less social calm compared to relatively peaceful years of 2001-2006. In that case, economic trends combined with diplomatic problems facing the country will affect all fields of investment, employment, inflation, and economic growth. Therefore, it would be fair to say that both from the viewpoint of foreign policy and the impact of economic policies of the government, including increased liquidity and contractionary budget of the current year, inflation rate at the end of 1385 and the outlooks for imminent increase in gasoline price, the new Iranian year has been started with more turbulence and ambiguity compared to the preceding years.

The fifth presumption of the report is that many investments made since the middle of the Iranian year 1384 (2005-06) will become operational in the current year. Of course, the government’s infatuation with "figures" and giving priority merely "spending money" as opposed to where and why to spend that money has caused many expenses and paid loans not to lead to a clear result. However, 85-percent increase in developmental expenses in 2006, will certainly affect the country’s output in 2007 and afterwards even if those expenses have been spent on nonproductive projects.

Despite remarkable decline in industrial growth of Iran during the first half of the Iranian year 1384 (2005-06), which continued into the first half of 1385 and does not seem to have abated in the second half of that year, average added value in the industrial sector during past year was higher than overall economic growth rate, which in the face of political instabilities, is indicative of high industrial capacity in Iran for production of added value. Among the most important factors restricting growth of the industrial sector one can point out relatively severe reduction in customs tariffs, which the government had to enforce in order to sell surplus petrodollars in the market. Like 2006, the government will have to sell, at least, 20 billion dollars in the market and to attract that huge amount of foreign exchange, it will have to create more demand and keep the effective customs tariff at 10-11 percent that was enforced in 2006. That rate will strain domestic production capacity.

On the other hand, inevitable increase in inflation rate, especially pay rise for the current year, which will at least stand at 15 percent, will further undermine domestic production against relative cost price of imports because the foreign exchange rate will remain constant. Therefore, due to excessive imports, the golden age of the Iranian economy during the contemporary history was marked by the highest rate of insolvency of domestic industries, this trend, perhaps is the most important factor limiting growth of added value of the industrial sector in 2007.

The second limiting factor is the impact of domestic and foreign political crises on the industrial sector. The industrial sector, along with service sector, conducts more transactions with the outside world and any turbulence in international relations, either economic or political, will immediately leave its mark on the sector. The state of waiting and uncertainty in the political sphere since winter of 2006 has echoed in the economic sector as increased parity of euro inside and outside the country, sanctions imposed on some Iranian banks by international banks, as well as economic and political gossip. It is unlikely that the situation will undergo any improvement in the current year. This malady will affect attraction of private investments as it will restrict the private sector’s access to industrial loans, and in addition, will limit demand for durable industrial consumer goods.

Despite heavy blows that have been dealt on the economy and government due to unprecedented interference of government in all industrial and economic affairs, which led to a clear turnabout in the said fields since early 2007, it seems that the third impediment on the way of Iran’s economy and industry in the next year, will continue to be government’s interference in all economic fields that should be run by the private sector. In 2006, aimless involvement of government in various fields, which was manifested as stock market control, dictated determination of the interest rate, rough handling of labor unions and subsequent tensions, unclear manipulation of customs tariffs, and constant threats posed to economic activists were major factors that worked to reduce willingness for the industrial investment. That intervention will continue into the current year and will negatively impact industry and growth rate of the industrial sector.

Apart from the said negative factors, growth of state credits related to developmental projects in 2006 and grant of various state loans will cause increased demand in the industrial sector of Iran in 2007. Also, a 40-percent growth in liquidity during 2006 which will not fall below 30 percent in the current year and will goad some relatively stagnant industrial sectors, including manufacture of commercial and sedan cars. In addition, prosperity of housing sector in the country during 2007 will give more energy to the industrial sector.

The ninth government’s expansionary monetary policy, despite all its negative points, has been effective in invigorating demand in many fields including industry and that effect will continue into 2007. It is predicted that demand for automobile, steel, home appliances, and cement as well as such infrastructural facilities like water, power and natural gas will fare relatively better than 2006. Of course, the issue of customs tariff rate and government’s policy to control inflation rate will continue to be a threat to performance of this sector and its demand. Therefore, it seems that a growth in added value of up to 4-5 percent can be projected for the industries and mines sector in 2007.

Due to its 52-percent share of the national economy, the service sector was the main impetus behind economic growth of the country in 2006. Government’s policy for reducing customs tariffs and opening all doors to imports, were major reasons for that phenomenon. In 2007, however, due to restrictions considered by the budget bill and strict approach taken by Majlis to accept government’s frequent requests for withdrawal from the Oil Stabilization Fund as well as the relatively critical situation resulting from severe growth of liquidity will further restrict imports and the sector will be less prosperous compared to 2006. Government’s drive to dominate telecommunications and retail market through controlling prices, limiting banks and private financial institutes, stagnation in tourism, and aggravation of diplomatic differences between Iran and western countries will further stymie the sector’s growth.

However, investments made in preceding years and great inflow of imported goods whose credit lines were opened in the last quarter of the Iranian year 1385, especially up to the end of the first half of 1386, will cause the current year to experience increase in added value of the service sector. The growth is projected to stand at 4-5 percent for 2007.

As current estimates reveal, average economic growth of Iran will reach 4.5 percent in 2007. Therefore, it will be the fourth consecutive year that average economic growth figure for the country will be less than the Fourth Economic Development Plan’s projected goal which is sufficient to meet the minimum needs of the country. Rapid growth in supply of manpower, geopolitical need to bolster defense stamina, the need to reduce income gap and repair vulnerabilities of the social structure, as well as historical lag compared to economic growth rate of other countries will set the minimum of average economic growth rate needed to meet the said needs at 1-6 percent per year. Any figure below that range will lead to a new crisis in economic, social, political or geopolitical fields.

In view of rapid growth in current and developmental expenses of the government, which had grown by, respectively, 47 percent and 85 percent, in 2006 compared to a year before, sudden halt of that growth in 2007 will not only push inflation rate to over 15 percent during the whole year, but that inflation will also be combined with stagnation, which will engulf Iran in the closing months of the Iranian year 1386 (2007-08) and throughout the Iranian year 1387. Therefore, it seems that increase in inflation rate and reduction of economic growth rate will be enhanced from the beginning of the year toward the end of it and will, in turn, impact social developments in Iran.

According to the experience of 2006 and due to overreliance of the government on using foreign exchange resources – although at a slower pace – the output of the national economy will decrease compared to the input in 2007 and reduction of economic productivity of the country will take place more rapidly. This malady will further aggravate the current situation of the ailing economy which is already suffering from an oversized government, lack of economic motivation, wastage of resources and administrative corruption.

The economic and political behavior of the government in the last quarter of the Iranian year 1385 was more peaceful, logical and predictable than the preceding year. This trend, especially in view of grave consequences of the past behaviors and remarks, will continue in 2007. Therefore, it took only 16 months to prove to the government that revolutionary and radical views are not effective for the settlement of economic and social problems facing Iran, which is a good record for adapting to scientific and expert viewpoints instead of giving in to sentimental and populist ones. Therefore, the Iranian year 1386 has been started with less concern compared to preceding years.