Given that Iran is the second-largest oil producer among the Organization of Petroleum Exporting Countries (OPEC), has 10 percent of the world's proven petroleum reserves and the second largest reserve of natural gas, the Islamic Republic should be a very wealthy country, but Iran’s per capita gross domestic product (GDP) ranks among other middle income countries in the Middle East. While Iran’s poverty rate is relatively low, inflation rates are at 23 percent (international estimates bring the rate closer to 30 percent), factories operate below capacity, major cities have rolling power blackouts and real estate prices have tripled. Seventy percent of the population is under 30 and unemployed, and many face increasing social welfare problems, including drug addiction.
International sanctions hamper foreign direct investment, and starting a domestic enterprise or maintaining a business in Iran is not easy. Iran ranks 135 out of 175 countries on the World Bank index of ease of doing business. State ownership of the economy has been estimated as high as 80 percent.
Entrants to the economic sector must compete with Agah-zadehs, or the sons of clergyman who own the major businesses and have ties to the government. They make lucrative deals with little transparency or accountability, based upon their ties to leaders who seized private assets during the revolution. Outside of the Agah-zadehs, private enterprise is limited to small-scale workshops, small businesses, services and farming. The informal market is flourishing as price controls and other rigidities that undermine private-sector-led growth are circumvented.
Since President Mahmoud Ahmadinejad’s election in 2005, Iran’s economic situation has deteriorated. While the president holds limited powers, subject to oversight from unelected regime leaders, economic policy is one of the few areas that do fall within his purview. In an attempt to implement his populist agenda, the president broke from the 4th five-year economic development plan (2005 – 2010) and the 20-year economic outlook, which were designed by his predecessor’s administration to reduce state ownership in the economy. Instead, he expanded the state’s central role and spent heavily.
Ahmadinejad has blamed budget constraints on various semi-independent institutions. In 2007, he dissolvedthe 60- year-old Management and Planning Organization, charged with allocating the budget, as well as the Credit and Money Council (CMC), responsible for supervising the Central Bank of Iran and monetary decisions. The CMC had previously rejected Ahmadinejad’s plan to reduce interest rates below the inflation rate. Since the dissolution of the CMC, Ahmadinejad has intervened in Central Bank decisions, pushing the bank to reduce lending rates.
Another criticism of Ahmadinejad’s economic management has been his granting of contracts worth billions of dollars to Iran’s Revolutionary Guard Corps (IRGC) and other paramilitary groups. Contracts have been issued without a bidding process and are funded by the Oil Stabilization Fund, Iran’s version of a sovereign wealth fund. In the implementation phase, many contract recipients have been forced to hire subcontractors to finish projects due to a lack of internal expertise. As the IRGC is only responsible to the Supreme Leader, controversy revolved around how subsequent profit from these business deals would be allocated and whether or not the profit would be added to the general budget revenue or be earmarked for military spending.
Perhaps the most debated policy of the current administration has been the expansion of subsidies, including oil, water, food and basic commodities, which have quadrupled under Ahmadinejad and are now equivalent to 25 percent of GDP. As oil prices dropped, Ahmadinejad borrowed heavily from the Central Bank and the Oil Stabilization Fund, adding to inflation and reducing purchasing power.
Lately, Ahmadinejad has attempted new programs to reform the economy. Last June, he announced a program to cut subsidies in his 2009-2010 budget, coupled with cash handouts. The conservative-led parliament was at first willing to negotiate the reform, but faced with an unwilling administration, finally rejected the entire plan. Ahmadinejad also clashed with the Central Bank of Iran, which warned that revenues could be cut by $54 billion due to falling oil prices. Ahmadinejad now faces the option of increasing the money supply or cutting the budget, but with high inflation and unemployment rates, neither option seems politically viable.
This brief was prepared by NDI’s Kristin Kooiman
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Published on April 10, 2009
