The Forum for Partners in Iran's Marketplace
 
 
 
 
 
 
 
 
 
 
 
 
 
 
     

June 2019, No. 91


Special Report: Inclusive Finance | Part 1

A Solution to Stagflation


Iran’s development process is now facing complexity challenges and needs to strongly prompt both economic growth and sustainable development.


Mohammad Ali Farzin, Development Economist


Increasing global complexity has prompted many changes, multi-dimensionality in functions and purpose, and new processes which mean that sustainable solutions, objectives and outcomes can no longer be achieved through our previous, singular (linear) approaches but now also require new, multi-dimensional (and non-linear) type solutions. Such complexity, and ensuing gaps, problems and constraints have resulted in financial instabilities and crisis – which have prompted new global development and finance approaches, and a new approach to development finance gradually overcoming both the traditional boundaries between monetary and fiscal policy and between public and private concepts, thereby linking public and private goods, and forming public-private-community partnerships (PPP).

This article (1) suggests that Iran’s development would be significantly enhanced if the new “development finance” and alternative “inclusive finance” systems approaches are enabled.

Iran’s Growth and Development:
Monetary and Macro Type Solutions

Despite expansion of banking infrastructure and financial products, poorer and low-income sections in Iran remain out of touch with appropriate financial services for growth and development. A framework of action is required. This article (part of three summarized articles on this subject) provides basic concepts and policies from global lessons learnt – and indicates that inclusive finance is a solution to stag-flation.

Iran’s development process is now also facing complexity challenges and needs to strongly prompt both economic growth and sustainable development. It would specifically need to prompt more “inclusive” type growth, employment and finance; all jointly and at the same time; and in a manner that can support sustainability. Such development type approaches to economic growth generation have high probability of potential success in Iran, if government adopts them as the country has significant potential: being amongst most-endowed natural and human resources countries; with a population of 81 million; and considered by the United Nations as both a higher level middle income country and with a relatively high human development level.

On the monetary side of the economy there is now a huge money base – with both positive and negative aspects. The Central Bank of Iran (CBI) recently announced monetary expansion of circa 22% in the past year (a figure also in line with the long term average growth rate). Base money volume was circa 1,900 trillion Rials (growing at over 19%); with about 600 trillion Rials of notes and coins now in circulation. Total liquidity is close to 16,000 trillion Rials (up by 22%); and total banking sector liabilities about 21,000 trillion Rials (of which around 50% are private sector deposits). With a GDP of circa 9,000 trillion Rials, liquidity is, therefore, more than one and half times value added (GDP); and the latter is fifteen times the amount of notes and coins in circulation. These monetary aspects indicate both significant possibilities and also real red lines. The simplest probable indication of all this is that the financial sector is regularly growing at more than 22% - a significant rate, and much more than other sectors - thereby, financial capital is increasingly dominating the economy.


All development programmes require sustainability – as a key principle.


The latter suggests that Iran now faces constraints in financial and money markets, which are apparent: especially the increasing difference between overall savings and new investments; with leakages in savings as well as rising speculation in assets; and a problem for real investment necessary to get back into the productive circulation. These then result in varying capability to mobilise appropriate funding and savings; insufficient appropriate investment opportunities due to stag-flation; sharp dividing lines between informal and formal financial markets, along with domestic market segmentation; ongoing bias of lenders and investors against small-medium sized, labour intensive projects; incapacity of the poor to borrow; more conservative national central bank attitudes and capacity for “development finance”; etc (2).

How can a new policy approach and methodology in Iran ensure both conjoint economic growth and sustainable development? How can it ensure improved development finance dynamics that can enable new money to reach the periphery, new small business development? Given that stag-flation is a combined production-distribution problem, how can the CBI mainstream inclusive finance methods to alleviate the root causes of this problem? How can the CBI facilitate monetary policy with public investment and fiscal policy to help resolve the stag-flation dynamics?

The key to success in all this, as indicated above, is prompting the savings-investment differential and large quasi-money base (now circa 21,000 trillion rials), along with their conjunct credit/debt and the actual money circulation, to move away from mainly pure financial transactions, asset speculation and capital intensive processes they are trapped in, and move towards the required smaller, employment generating projects and micro and SME production that can actually realize local relative comparative advantage and utilize the existing potential capacity for domestic production growth and more employment.

This move would also be a preventative measure against the significant growth rate nowadays in rentier capitalist processes that not only produce financial distortion and bubbles but also engender finance/banking monopolies and larger debt burdens: all of which are increasingly causing problems and prompting both financial crises cycles and increase income inequality – along with possible risks in banking institutions possibly needing to be bailed out through devaluations, money supply easing, cash transfers and similar actions (all against the principle of economic prudence and discipline). 

The main challenge in all this is to not only have more economic growth and per capita productivity (and through better monetary paths and channels), but to have this growth rate and pattern in a manner that improves human capital, employment, diversification, technological improvement, increased alternative green livelihoods, improvements in the resource base. These need innovation in financing towards more smaller, inclusive and labour intensive project financing outcomes that can ensure all together (in an integrated manner).

If Iran is to achieve such an outcome it requires at least a two pronged strategy that can programme for the above mentioned targets in an integrated manner, as follows:

I) By promoting a general policy and a complementary programme approach that targets the local level, so as to shift production and money circulation to where the relative comparative advantage is (3) ; by supporting productive, entrepreneurial, creative, innovative, micro-small sized enterprises ; and doing it through a combined monetary-fiscal policy approach that backs targeted public investment in a) low overhead cost per employment generated, b) high value added per unit output, and c) labour intensive employment generating projects. This is a temporary, SMART type approach for starting up stagnated systems.

II) Through a restructured monetary policy that enables increased access to inclusive financial services, with more weight given to the financing of I above (e.g. 15% of all financing). Through strengthening the capacity of domestic financial institutions to encourage and expand access to inclusive banking, insurance and financial services (i.e. services for all) that ensure the appropriate investment projects and packages are financed – investment projects that can result in value added generation and trickle up growth (rather than trickle down) by generating money circulation and multiplier impact.

That is, a combined fiscal and monetary policy is required in Iran so as to achieve a joint objective – and with own (new) criteria and operating procedures. An appropriate combination of monetary policy and fiscal policy would both complement the new domestic oriented restructuring policy and also alleviate the current austerity process; at the same time prompting local effective demand to alleviate and mitigate the adverse effects. This new development oriented inclusive finance approach has own criteria, systems, approaches, procedures and outcomes. It may be programmed for either a temporary period of time, or for the short-term, for medium term and/or as a long term architecture – as necessary.

The above concepts are also more fully developed in Part 2 and 3 of this article.

The financial system is important for economic growth: its loanable funds encourage economic activity, prompting investors and investment; it supports adoption of new technology and new production process of an economy; it enables spill over effects into the whole economy. Access to affordable financial services lead to increasing economic activities and employment opportunities with multiplier effects on the economy. It enables a higher disposable income leading to greater savings and a wider deposit base for banks and other financial institutions. Policymakers and central bankers are now hoping to develop more financially inclusive economic systems, to achieve equitable and sustainable growth. Financial inclusion is considered now as an enabler of combined economic and social development; through savings mobilization and providing households and small companies with greater access to resources needed to finance consumption and investment it is believed to prompt joint growth, poverty and inequality reduction, and to also insure against shock. Financial inclusion can also help boost government revenue and strengthen social safety nets by developing labour and company formalization: it enables the Government to provide social development benefits and subsidies directly to the beneficiary bank accounts, thereby reducing leakages in social welfare programmes.


Financial stability is a public “good”, while financial instability, on the other hand, is very costly for all.


The inclusive finance approach, and its various instruments and infrastructure such as “social banking”, “micro-credit” and “micro-finance”, promise to be an answer to the challenge of improving the transmission effect (of any new money creation) on subsequent sustainable growth and employment: by the possibility of selecting a larger number of more useful investments with improved joint sustainable growth and employment outcomes.

All development programmes require sustainability – as a key principle (financial and non-financial). Much of the success in inclusive finance may be seen in the win-win scenario, in which good banking and finance principles combined with right targeting and development programme management (including supports) bring about a mixture that alleviate much poverty and generates economic growth (benefits) at the same time. But getting this combination right is very difficult in practice – and needs precision and good sequencing of actions, as well as the right institutional set up, so as to meet the win-win overlap areas of intersection in the set of possibilities. An important benefit of inclusive finance is financial sustainability in loan repayment rates: for example, in almost all cases of micro credit these have been above 95%. The programmes also have proven able to reach the poorest individuals, particularly women, that have been difficult to reach through sole financial approaches.

The main lesson of inclusive finance is that complementary programmes, mechanisms, targeting, operating procedures and detail matter. Meanwhile, commitments to experimentation, innovation, assessment and evaluation are continuously required.

Institutional Approaches

Such a combined target, in tandem between the CBI, the Ministry of Economy and Finance (MEAF) and the Plan and Budget Organisation (PBO), based on the principle policy focus in development financing, would improve economic growth, employment generation and income distribution, and help get Iran out of the current stag-flationary trap. A strategy that requires the above three institutions to adopt a coordinated, combined fiscal and monetary policy of inclusive growth outcomes through inclusive finance instruments and supportive public investments. Both the national Inclusive Employment and Rural Employment initiatives (part of the current Resilient Economy strategy) provide possible good prototypes for this to start with: as long as they keep consistently to specific objective criteria – for example, of low overhead cost per each employment generation for most selected projects (to ensure high value added and high employment outcomes).

If such a two pronged policy measure, as proposed in this article, is undertaken the above combinations which destabilize in the short to medium term can be mitigated. Stag-flation easily distorts the balance between asset values and income flows and so one cannot evaluate the two sides (real; money) of the economy in a consistent and cointegrated manner (neither the private investor nor the macro-economist); forcing inaction or pushing new investment towards later implementation and more rentier based type initiatives and projects. The subsequent sustained imbalance between aggregate savings and investment, a classic economic problem (4), then leads to non-sustainability in all dimensions including: a) distortions in the benefits of investment outcomes, b) weak income “trickle-down” effects, and c) large income inequality (5). These raise the probability that interactions between new investments will not necessarily have positive outcomes (6) and also that debt creation and ponzi type adverse pyramid structures will accompany this and prevail. Together these lead to quicker diminishing returns on investment, thereby generally reducing the level and duration of any real economic (GDP) growth process.

Further reasons for non-sustainable processes and outcomes may include: the still prevailing economic “sole-growth” policy approach; the determined efforts to achieve a national yearly growth target at whatever cost (e.g. 8%); and, the tendency in credit facilitation towards maximum profit generating projects that can help achieve the pre-set growth target. An approach that certainly does prompt wealth generation, but course as long as income is distributed well, and new savings and profits are invested back into the economic system appropriately to ensure development: and so is, therefore, useful. Unless this does not happen and then it has significant social and environmental cost.


Financial inclusion has attracted development professionals, researchers, economists, policymakers, bankers and academia.


For alleviating stag-flation problems, and getting away from the prevailing rentier type growth, the proposed two pronged policy approach should encompass bottom-up institutional structures and mechanisms so that both the new money creation and the public investment can start their processes from the bottom. That is, consumer market and small/medium sized investments that can trickle upwards, accompanied by appropriate skills training and monitoring/evaluation mechanisms. A PPP approach that brings together finance and social institutions.

The recent Rural Employment Credit Scheme does provide an opportunity – but this needs to become systematically complemented by its own particular support mechanisms. If done, the expectation would be that such small targeted and local-based interventions and project financing (once scaled well) may start the local money circulation process and prompt local economic cointegration required to help unfold the tangled knot of various adverse economic dynamics and distortions that sustain the current depressionary/inflationary inertia and unemployment.

Improved, SMART type, mechanisms are needed: to be implemented in order to support the formation of informal and formal local production oriented groups, incubators, growth hubs and business clusters. This would be very useful.  Based on strictly bottom up approaches (for development impact), and with their linkage to broader and higher level value chains ensured, they can prompt local growth and also lower the scale/level of the cluster hub in a value added chain structure towards local comparative advantage rather than national comparative advantage. These, and the latter especially, can help to ensure sustained local dynamics and monetary circulation; to reduce overhead costs that raise transaction costs; to grow sustainability (not necessarily at a maximum rate); to prompt further new investment in micro and small enterprise in the locality; and to prevent savings from flowing out of the region.

Challenges in Combining Fiscal and Monetary Policy

The need for a strategy seeking large scale impact in value added, employment and sustainability to meet growth and development challenges, through alternative and complementary approaches that combine monetary and fiscal policy and with selection of appropriate public and private investments – both  appropriately integrated and coordinated, along with PPP – is now globally accepted. The identification of priority private and public investments, along with their complementary programmes and financing, has become a major effort. Such support mechanisms are considered paramount and are being promoted by the United Nations international development goals and indicators (especially the Sustainable Development Goals, SDG’s).

These propose targeting rural development, urban development, health systems, education, gender equality, environment and science, technology and innovation – requiring combined monetary and fiscal policy approaches, and public-private-community partnership investment structures and procedures. Highlighting the importance of the role of governance in determining the development quality of growth paths and public investment policies.

To meet such a large scale challenge, both monetary and fiscal policy have to adjust to each others objectives and capabilities – and perhaps to a new standard. Given lack of domestic resources in many countries, significant increases in public investments (in partnership with private and community sectors) are necessary. In stagnation conditions, this may be supported by a quantitative easing of money, and perhaps bond sales and other resource mobilization. If designed to target low income areas/groups, and to set them on a growth path structured to be self-sustainable, these can be successful in stag-flation (through wealth shifts). The usual central banking focus on macroeconomic stability, aggregate fiscal discipline and overall inflation, however, needs to be complemented in stagflation conditions by other criteria for resource allocation, efficiency and effectiveness in public spending that are more structural (that is, at the meso level and with programme type qualities).

Consistently combining monetary policy, fiscal policy and public investment towards inclusive economic growth outcomes is not easy: i) given the reality of the policy making process of resource allocation; ii) investment choices are usually made on political rather than technical development priorities; iii) without appropriate assessments of development alternatives, and good evaluation usually remains in academic and technical circles. Consistent methodology is need.

However, and in any case, the macro-economic system itself never works too well to enable us to undertake good investment assessment and project cost-benefit analysis, due to both uncertainty and the fact that many markets are dysfunctional and prices and quantities are not always aligned – along with significant under-capacity and unemployment. And of course, fiscal policy (and public investment) impact on growth and development is also controversial. It is argued that public investment has not been as positive/significant as one might expect: large increases in public investment yield low return. Reasons include some unconnected with public investments (e.g. diminishing returns or terms of trade adversity) and some to do with assessment methods.

One important reason is the following: credit seeks the highest project internal rate of return. In many circumstances credit is usually facilitated towards excessive capital intensity projects with high overhead costs (of assets) relative to income flows (which offer a high NPV). When this accompanied by high interest rate levels (and rentier type costs) then contradictory effects appear over-shadowing the ongoing guesstimated net benefits. One effect of this is a less “trickle down” effect; another, of great importance, is a continuous excessive rise in capital cost for each new employment generated. In the late 1980’s – when the economic “sole-growth” policy approach was first implemented in Iran – one job created in industry was circa 70 million Rials; it is now estimated at around 2500 million Rials (7). And not just to inflation alone.


Development approaches are now also fully concerned with the integration of economic, social and environmental concerns.


One reason for this trend is the near exclusive micro-based view that financial profit maximization is sufficient criteria for growth and choice of investment projects (and accompanying technique involved). A project is considered efficient and the outcome of the adding up of many such profitable investment projects is expected to be positive. Instead, a more clear understanding of how individually positive and beneficial investment projects may or may not actually add up into positive outcome is required (either with sole profit maximization criteria or any other criteria). Otherwise the selection of capital intensive projects based on just profit maximization (over a long period of time) can lead to high overhead transaction costs and non-sustainability. So new methodologies for deciding on optimal investment interventions are needed, to make a fundamental difference in identifying linkages between investment, growth and development. For example, development policy-making could adopt integrated programme and project selection methods: those that compute a portfolio of investments on an area-based criteria (so as to manage the computations and outcomes).

Further, the aggregate effects of combined policies, and their development impact, also remain difficult to identify and assess, due to: definitions for appropriate resource-allocation criteria; basic budgeting/financing problems involved; and impossibility of defining a comprehensive objective function or decision-making mechanism that can satisfactorily reconcile the competing claims of different interests for resources across the whole public sector.

The above contradictions need to be addressed specifically, on the basis of SMART type objectives and programme targeting. Objectives that need to also remain aligned with a market-based and community oriented wealth generation and accumulation approach; however, rather than just targeting capital intensive, high value ended outputs, they also target employment in core investments in human capital, social capital, SME’s and related infrastructure. To enable low income and poor people to join the national economic cycle and establish the basis for a popular, private-sector led trade in diversified outputs for economic growth.

Inclusive Development Finance

Financial stability is a public “good”, while financial instability, on the other hand, is very costly for all. A public “bad”: bankrupting institutions, making people poor and significantly reducing GDP (e.g. global 2007 crisis). Further, development, demographic and economic factors have changed Iranian people’s financial conditions and needs: increased migration and mobility is reducing the ability to rely on family in situations of need; privatization of social services and increased fee for service, such as in health and education, and increasing job insecurity due to unemployment, require new insurance arrangements; while enhanced access to financial services and credit are required to better cope with unemployment and new small enterprise.

Preventing financial crises and raising access, requires improved national capacity: better macro-economic programme design and implementation; more resilient and deeper financial markets; better banking regulation and supervision; stronger legal frameworks, including bankruptcy and property legislation; accounting standards and SOP’s; monitoring of domestic capital movement and market surveillance (given the excessive M3 figures mentioned above); orderly debt management; etc. To ensure such enhanced financial market efficiency (stability) it is insufficient to consider only efficiency, but must also think about who the financial markets serve and how (equity), and long term sustainability (stability).

Inclusive finance is about this – and about the quality, transmission and targeting of money and credit. Enhanced financial efficiency not only benefits overall economic performance but also poor and low income persons economic prospects – and needs good inclusive and social finance principles, as well as equitable burden sharing between national banks, lenders, borrowers, and the population. Financial market depth and differentiation also enhances competition among market creditors, brokers, instruments and products.

As banks dominate financial markets in Iran, while the development of bond and stock markets is also proceeding fast, the development of financial instruments and services for the financial needs and interests of ordinary people and the poor should be looked at (as they are lagging). Progress in terms of making financial markets more responsive to people’s needs could yield many benefits. Besides improving people’s financial security, it could encourage savings, which, after all, should be the main source of investment (not just oil revenue). And it could release some of the public funds presently needed for public welfare and social security programmes that could be undertaken instead through PPP. And also to be invested in R&D for such new financial instruments. Instead of fully taking care of people, people could be enabled (made capable) to better take care of themselves (individually and in groups and cooperatives).


Financial inclusion will enable the Government to provide social development benefits and subsidies directly to the beneficiary bank accounts, thereby reducing leakages in social welfare programmes.


Financial inclusion has attracted development professionals, researchers, economists, policymakers, bankers and academia. Financial inclusion is considered now as an enabler of economic and social development; believed to promise prompting growth, and reducing poverty and inequality, through savings mobilization and providing households and companies with greater access to resources needed to finance consumption and investment and to insure against shock. Financial inclusion can develop labour and firm formalization, helping boost government revenue and strengthen social safety nets; and is a means to measure the growth of an economy as well as human development. Policymakers and central bankers are hoping to develop more financially inclusive economic systems, to achieve equitable and sustainable growth.

Development approaches are now also fully concerned with the integration of economic, social and environmental concerns (or efficiency, equity and sustainability) along with provision of both private and public goods, etc. The international Sustainable Development Goals (SDG) is indicative. However, finance and banking are still mainly concerned with money, sole market mechanisms and private returns – as is natural.

Finance was originally, always a state managed resource allocation process:  with control of the money supply, interest rates and foreign exchange movements, credit rationing and quantitative control, etc, being widespread in countries until recent times. The collapse of the Bretton Woods system (of fixed exchange rates), the US withdrawl from the gold standard and the UK/US agreements on finance - in the 1970’s and 1980’s - all significantly changed the rules of global finance. Finance and banking took centre stage, global financial liberalization became the rule: also leading to privatization, outsourcing and user fees of formerly state provided public goods and services; and to more macro fiscal prudence concepts and sole market-based mechanisms as ideal solutions. This less restriction system and more finance-cum-market-orientation process has resulted in a financing system that has expanded into an all powerful global driver.

However, it has been a process of both progress and havoc at the same time. The financial sector is now so large that it is immersed fully in its own self: financial market growth rates and procurements of assets are at historical records; with huge debt and debt financing burdens; and with significant financial risks all round. Sometimes requiring large scale support, bail-outs, and price and devaluation changes just to keep the financial sector afloat – and prevent the adverse negative externality spill onto economy and society.

Such globalisation and liberalization have also reduced government revenue sources;  financially squeezing countries (e.g. Greece recently) – along with imposed international finance conditionalities and discipline (as EU on Greece). The rising scale of international activity and growing number of global corporations, commerce, capital and people mobility, and rising informal sectors, have also helped reduce government revenue. Meanwhile public finance needs and burdens have been increasing: global openness requires new costly institutions; businesses need to adjust to trade competition, and so market integration needs expensive policy, legal and infrastructural adjustments; environmental quality needs R&D incentive structures; society demands new approaches to costly education; financial crises and debt burden puts pressure on public budgets and peoples pockets, and bail-outs; etc. A serious dilemma: budget and trade deficits are punished by the global financial markets; cutting national spending risks both the social fabric and future economic competitiveness.

However, both the globalization process and development constraints now prevent a return to full, state-based capital controls and/or to a sole economic growth capitalistic approach. What is to be done? The real issue is whether development and finance are in tandem, supporting each other and to the benefit of people. That is, is development finance inclusive?. A development finance approach is required, combining financial progress with sustainable development – and within a public-private partnerships (PPP) type framework – to ensure inclusion.

Taking into account lessons learned from past experience the new global sustainable development goals SDG framework, for example, intends to help reduce the adverse financial affects of the current complexity; a policy/programming attempt at an integrated framework for combining economic growth, finance, development and environmental sustainability approaches and outcomes. That is, from a sole finance, sole growth capitalistic obsession to finance for sustainable development; from sole state or sole private sector to multi-actor public-private partnerships (PPP); from sole domestic policy action to international cooperation; and from a private finance perspective to one of inclusive finance. The SDG framework can, possibly, be seen as a global public goods approach.

The SDG and PPP frameworks approach to development finance can help bring together the many variety of possible solutions. Public and private today are in fact intertwined when we consider the mixed, public-private nature of many goods, commodities and activities. Social enterprise is a good example of such combination; the Iranian “vaghf” approach another – both combine money making and social capital development, at a human pace.

Mainstreaming Inclusive Finance

The financial system is important for economic growth; loanable funds encourage economic activity; prompting investors and investment, the adoption of new technology and the production process of an economy  - with spill overs into the whole economy. Access to affordable financial services would lead to increasing economic activities and employment opportunities for rural households with a possible multiplier effect on the economy. It could enable a higher disposable income in the hands of rural households leading to greater savings and a wider deposit base for banks and other financial institutions.

Financial inclusion will enable the Government to provide social development benefits and subsidies directly to the beneficiary bank accounts, thereby reducing leakages in social welfare programmes. It could be an instrument to provide monetary fuel for economic growth and is critical for achieving inclusive growth. Some specific aims include:

a) mobilisation of savings: in the process of financial inclusion the weaker sections of society link up to banking services which will create a higher level of national savings which can be used for investment and economic growth.

b) larger market for the financial system: a larger market for the financial system can be created through the creation of high level of savings and this market will meet the demand of the larger section of the society; a process which will prompt banking sector sector growth.

c) economic objectives: financial inclusion aims at achieving an equitable distribution of income and reducing income saving gap.

d) social objectives: social problems like poverty can be eradicated in the form of giving bank loans to create income and livelihood.

e) sustainable livelihoods: bank loans provided to weaker sections of society create own business and lead to sustainable livelihood of weaker sections 

Alleviating poverty, prompting micro enterprise and generating employment through banking system approaches is, of course, an old idea: as employment generation and poverty alleviation through the provision of subsidized credit was a centerpiece of many countries’ development strategies from the early 1950s through to the 1980s (8). Such global experiences were not too successful as loan repayment rates were below 50% percent, with increased costs, while much credit was usually captured by elite groups (diverted to the politically powerful) and away from the intended recipients. Experience in Iran in 2007/8 on quick return loans are also indicative of the failure to properly combine finance with management, training, monitoring, evaluation and institutional contracts.

However, the inclusive finance movement has overcome these problems, and has made significant inroads around the world. The primary benefit has been that low-income and poor households are being given hope and the possibility to improve their lives through their own labor.

While such inclusive micro-finance programmes aim to bring social and economic benefits to the poor and their clients, the approaches and outcomes differ. Poor and low income households, and the unemployed, are typically excluded from the modern formal banking system, for lack of collateral: but inclusive finance programmes have demonstrated that the poor are enterprising and can save in substantial quantities (and they also help each other and cooperate well). In other words, they can be relied upon to borrow and repay. This is an important understanding.

Inclusive finance encompasses many new and unusual financial institutions and instruments. The terms “inclusive finance”, “social banking”, “micro-credit”, “micro-finance”, “conditional cash transfers” and “institutional demand” indicate the wide range of financial services involved. Many countries have also started adopting such approaches: developing social (inclusive) banking/finance systems capacities and infrastructure that prompt services, credit provision and transfers to new investments, projects and initiatives that have combined high labour productivity, low initial overhead costs, and large employment outcomes. Monetary and fiscal approaches combined, mixed with investment PPP approaches.

These are new concepts and methods that need to be supported by a Central Bank, and not just a development planning agency or a social development ministry. The famous international success stories were also supported by CB’s, (more fully described in Part 2 of this series). The successful initiatives have a national support framework – that is, CB’s somehow actually support the process. When added up significant national growth outcomes are achieved.

Such social banking and inclusive finance initiatives target individuals, as well as groups and small communities, and provide a mix of financial services accessed by low-income and poor people from a variety of service providers, depending on local knowledge, history, context and need. These not only provide loans to establish income generating projects, but also are customer-centred (people centred rather than commodity-centred): encompassing programmes of micro-credit, micro-savings, micro-insurance, money transfers and social enterprise financing. Financial service components include savings, credit and insurance, while financial providers can be informal, formal, and semi-formal. The service may be owned and managed by the users themselves or other providers, while the source of funds may be diverse.

These are also complementary to and in cooperation with non-financial services and capability development actions such as education, vocational training, technical assistance and guaranteed procurement – all crucial to improve the impact of such inclusive, micro-level and local financial services. The trade-off between financial self-sufficiency and sustainability, the depth of outreach, and the social welfare of service recipients are improved: reducing poverty, increasing capability, building enterprise.

These approaches have been successful in both prompting local economic growth and alleviating poverty, while at the same time raising local community capacity and capability (empowerment) and reducing dependency. Developing social capital. The fact that financial services are offered specifically to low-income households, the poor and to micro-small enterprises is seen as an opportunity and strength (rather than as a weakness). An approach that actually prompts inclusive GDP growth and keeps overhead costs low; targeted to low income groups and to micro-small enterprise and leading to employment generation and large local multiplier outcomes. They are attempts to deliver small scale loans that have local multiplier effects and are sustainable; through finding ways to cost-effectively lend money to poor and low income households – by exploiting new contractual and institutional structures and forms that reduce the riskiness and cost of making small, uncollateralized loans. Loans that can lead to local micro-small enterprise development – and hence employment generation and local economic multiplier effects. Loans that are preferably collateral-free loans to usually unsalaried borrowers or members of groups and cooperatives who otherwise cannot get access to credit.

Inclusive finance, then, brings together poverty and financial markets – and State. Sole top-down, centrally planned development has been proven to not work. The Government ought take a complementary role through the interplay of both public and private markets and finance; and ensure rule of law by including representatives of social and environmental concerns into financial negotiations. The broad exclusion of the poor from financial markets is a State failure – not a market failure; even small public funds can be made to make a difference in terms of credit worthiness of poor people, supporting R&D to develop pro-poor financial mechanisms. Once finance is considered as a sub-system of development, it can encompass public and private finance, domestic and external resources, public and private goods: encouraging private initiative and empowering peoples capability. Public support for the evaluation of small-scale investment proposals is also useful.

The Central Banks Should Support Inclusive Finance

The Central Bank of Iran (CBI) may take short-medium term measures by mainstreaming inclusive finance that can help facilitate public investment to generate the capacity and capability to not only develop social capital (mentioned above) but to also resolve the stag-flation dynamics. How can the CB mainstream inclusive finance in Iran and in order to improve individual capabilities and reduce overall stag-flation? 

Economic (GDP) growth is, of course, an objective of any CB, as it is also of Iran’s CBI. Nevertheless, there is a usual tendency for believing that the linkage between money and inflation targeting to be a CB’s main function: to focus on prices, rather than material quantities or labour productivity (or capabilities). However, once such a policy view remains fixed (and is not discretionary) it limits sustainable growth possibilities. However, the provision of finance to Government and to the banking system enables a CB to generate new money creation which subsequently supports the actual material growth process (i.e. the new money goes into new investment projects that then bring about GDP growth).

It is normally assumed that a CB can control the money supply and, therefore, in ideal circumstances, subsequently also control the price level (9). Alternative economic thinking suggests that in modern economies money supply first affects the credit system that finances new investments, then the production system and only subsequently affects the price level. The transmission path is through investment and production. Further, money is dynamic (endogenous) and is led/controlled by financial institution developments (rather than the CB). In other words, and given the transmission mechanism of money creation and the “endogeneity” of money, CB could easily concentrate on GDP growth (rather than solely the price level) – and preferably focus on the employment and inclusiveness aspects of income growth. That is, a CB can actually focus on productivity growth that can ensure inclusive GDP growth and achieve the same inflation results it seeks.

The inclusive finance approach, and its various instruments and infrastructure such as “social banking”, “micro-credit” and “micro-finance”, promise to be an answer to the challenge of improving the transmission effect (of any CB’s new money creation) on subsequent sustainable growth and employment: by the possibility of selecting more useful investments with improved joint sustainable growth and employment outcomes. This can help in poverty reduction, in social capital development, in employment generation and in economic growth – conjointly; at the same time. Such an approach would also develop institutional capacity of existing financial systems to do sustainable social banking, and hence improve income distribution, and root out stag-flation.

The inclusive finance movement has already captured our imagination; generating hope for prompting combined growth, employment and poverty alleviation; and for prompting local development and employment generation, in low-income groups and regions. Globally, by 2013 possibly 50 million households are involved such initiatives: as many as 200 million poor people benefiting; from poor villages in developing countries to inner-cities of developed countries.

A people based capitalist process as end result, both financial institutions and people gain and profit, establishing new income and wealth accumulation processes. Inclusive finance is win-win.

What are the benefits? The main difference, possibly, between conventional formal banks and social banks are that the former seek profit (i.e. are economic) while the latter also consider people and resources (i.e. are economic, social and sustainable oriented). These social banks and inclusive finance institutions serve people as clients and customers, rather than just financing a product. The focus is on financing development type programmes and projects that generate employment and reduce poverty (rather than charity and protection of the poor); supporting people excluded from the formal banking sector. Social banking institutions combine normal banking operations with development programmes – towards social capital outcomes.

However, such an outcome requires a monetary policy resolution for a change in approach: in adopting complementary programmes; and in the required infrastructure and mechanisms required. A need to change the way things are done, the way financing is undertaken and the way investments are considered as a whole. And, as a pre-requisite, a change in the way a national CB functions.

First, the CB must believe that a parallel functional inclusive finance programme can actually be designed, managed and sustained. One that can support credit facilitation in a bottom-up manner so as to prompt productivity gains in comparative advantage activities in localities, areas, regions along with the targeting of micro and small scale enterprise development. A need to reverse the usual monetary top-down process; that usually seeks national comparative advantage; that aims at maximum profit; and that tends to push debt downwards onto middle-lower income groups and concentrate net wealth at the top. To enable the money, credit and income flow to reverse and to “trickle-up”; to help prompt regional comparative advantage and local dynamics; and a more sustainable growth path; which can alleviate stag-flation causes and symptoms.

More formally, an economic “inclusive-growth” policy approach and focus, and an “inclusive finance” approach, along with necessary CB monetary policy support for required infrastructure and instruments, needs to be adopted.

Conclusion

There is an urgent need to focus on resolving complex problems in Iran; on the possible ensuing instabilities due to conjoint stagflation and a fast growing financial sector (allocating money to non-productive sectors) in the country; and on the needs of people through sustainable human development (10).

A new era and approach to development financing may need to start in Iran – given sanctions and stag-flation. This article suggests that Iran’s development would be significantly enhanced if “inclusive finance” systems are adopted. Such development finance would require overcoming the traditional boundaries between monetary and fiscal policy; and between public and private goods and partnership concepts. To work multi-dimensionally. Beyond either sole financial planning and control for regulation, or beyond sole financial liberalization and risks of banking instability. A new system and approach to development finance. One to be complemented by PPP. Less competitive parallel financing, with more support for cooperation based development; pulling together the different mechanisms of development finance.


Endnotes

1 This article is based on Inclusive Finance: Approaches and Measurement for Iran – Working Paper 2018 by this author

2 A reading of Keynes Teatise on Money would be useful for central bankers in such circumstances

3 remembering that where there is relative comparative advantage, the overhead costs for start ups can be lower.

4 see the classic work by Keynes on the money, velocity and value linkage (Treatise on Money).

5 for example, see the various structural macro-economics works of Lance Taylor on this for the theoretical aspects.

6 the classic example is ecological damage and human migration due to excessive capital intensive investment in a closed waterbasin.

7 see this author previous writing in Iran International Magazine

8 and even in 2018 Iran initiated a low interest (6%) rural employment credit scheme as well as an inclusive employment credit programme

9 the famous economic equation of exchange MV=PQ is used for this understanding (where V and Q are conventionally assumed beyond the control of CB).

10 See Farzin 2008 : Development Policy, Economic Adjustment and Welfare in Iran. Westminster University  

 

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  June 2019
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