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January 2020, No. 93


Banking

Strengthening the Value of the National Currency


In the view of the CBI chief, a fair judgment concludes that, given the monetary and exchange policy constraints, there was no better solution than has been adopted.


Central Bank of Iran (CBI) Governor Dr. Abdolnaser Hemmati addressing the ‘International Conference on Global Economy and Sanctions’ said understanding the hardship yet success in countering the sanctions in the fields of monetary and foreign exchange policies is possible when there is a reasonable analysis of the US goals behind the sanctions. “It is crystal clear that in general the application of any kind of sanctions, whether by international institutions or by a particular government, is aimed at putting pressure on the specific country to change its course of action, and this is not done for fun.”

Hemmati said the enemy by sanctioning Iran pursues investment cut, slowing the economic growth, organizing unrests, waging widespread media war, slashing Iran’s oil sales and raising the costs of trade with the outside world. According to him, all of these actions were aimed at fomenting inflationary expectations on the one hand and inflicting a severe negative shock on the Iranian economy on the other. In the opinion of Hemmati the US sought to create speculative attacks on the asset markets particularly the foreign exchange and then the prices of goods and services and cause extreme instability and prompt public discontent; secondly, by reducing actual output, creating recession and unemployment, thus using up the real potential of the economy and again spread public discontent, even providing the grounds for famine and social unrests.

“For many analysts, if the trend continued last summer, it would mean that the economy and inflation would not be contained, and there were even talks of hyperinflation and triple-digit and four-digit inflation and high exchange rates in the market. At the same time, some said any efforts were useless and believed the price of the US dollar would reach 400,000 rials,” he noted.

“At the beginning of 1397 (March 2018 – March 2019), with the intensification of the pressure on the exchange rate and the formation of a widespread speculative attack on markets, and in particular the foreign exchange market, policymakers were faced with conditions that any policy mistakes would cause harmful implications to the economy,” the CBI governor stressed.

He said at that time three types of solutions were proposed by the authorities the implementation of each of which would create new problems for the economy. They were: Increase in the banking interest rates; strict foreign trade regulation and foreign currency rationing and exchange rate control at much lower levels than it is today; and major surgery in the banking system such as restructuring banks, restricting deposits and especially large deposits, controlling bank lending and kind of assignment of banking facilities.

He commented on the first proposal: “Some friends suggested an increase in banking interest rates based on inflationary expectations while inflationary expectations were not due to demand shocks but because of supply shocks and that shock would not allow us to make such a decision. At the same time, there was a bad banking system imbalance which would be exacerbated by that decision and the foreign currency market could not be controlled. “

“The second group emphasized the CBI’s intervention and strong pressure to keep the exchange rate at low prices and apply specific restrictions on foreign trade, which was not practical because protecting the CBI reserves was important and we could not allow the national assets be destroyed. Upon my appointment as the CBI governor I had announced that the large supply of foreign currency at a low rate was a trap by the architects of the sanctions and we should not fall into this trap. So we went out immediately and designed our program,” he said.

According to the CBI chief, the third group referred to surgery and restrictions in the banking system, believing that removing deposits and such restrictions could solve the problem, while the extreme decision to reform the banking system was problematic for the country. It was a good ground for advancing American goals and creating bad social conditions, he noted. 

Selected Strategies

Among the suggested courses, Hemmati outlined the CBI’s strategy of countering the sanctions in four categories: boosting the control over the national currency (rial) and its transactions and preventing capital outflows, paying attention to the fundamental factors that shape the exchange rate in the market, and avoiding disregard for market forces, making exporters benefit from the profits from their foreign exchange earnings, and avoiding export rents to non-exporting economic agents, permanent and targeted presence of the CBI in the foreign exchange market as a market builder and ensuring currency supply to meet the needs of importers of raw materials.

He said the first principle in securing a calm situation is to prevent the outflow of capital, adding: “We used to be indifferent to capital outflow in the past and it didn’t matter at all, but now we are seriously stopping it. We started discussing capital outflows and regulating the rial turnover, which is not yet complete and part of our money laundering is happening in the rial sector.”

He pointed to the fundamental factors that shape the exchange rate and the disregard for market forces, saying, “We cannot consider the exchange rate without regard to market forces and fundamental factors. Of course, we do not set rates at the CBI, but we regulate supply and demand, because demand for the market needs to be at the level of supply.”

On remarks by some people to the effect that the CBI has suppressed demand, Hemmati said: “We have suppressed speculative demand and capital outflows, and real demand has been met so that in the first six months of the current Persian year, $19 billion in foreign currency was allocated to imports of intermediate goods, raw materials and basic commodities.”

In the view of the CBI chief, a fair judgment concludes that, given the monetary and exchange policy constraints, there was no better solution than has been adopted. He claims that the CBI has gained control of the exchange rate and stability of its market without losing foreign exchange reserves. “Under the circumstances, we were able to control the market and achieve relative stability, and the Islamic Republic remained firm and resolute,” he said. “Even Trump has told one of the foreign state leaders that we thought Iran would fall if oil and banking were sanctioned but I’ve come to the conclusion that the Islamic Republic would not be overthrown in this way and that you should help us get back to the Joint Comprehensive Plan of Action (JCPOA).”

Coming Out of Inflationary Recession

The CBI governor has described three goals of the bank under the current conditions: Strengthening the value of national currency; stability; and national production. Of course, it is not clear what Hemmati means by boosting the value of the national currency: pressure to reduce the exchange rate or cut inflation. “To achieve these three goals, there are four issues, including negative supply shocks, negative demand shocks, banking system imbalance, and credit crunch. The negative shock of supply and inflation means inflationary recession, he said.”

Hemmati believes that resolving the inflationary recession in developed countries also faces obstacles, and in our country with the sharp decline in oil revenues and the resulting budget deficit, in addition to bank imbalance and credit constraints, monetary and fiscal policies to overcome the complexities of inflationary recession has its own complexities. However, he considers the trend of macroeconomic indicators and the stability created in the Iranian economy as a promise to overcome the problems.

 

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