IMF's Rosy Outlook on Iran's Economy: Off the Mark?

'My cheeks look rosy because I slap them.'

[ dispatch ] Last month, as a flood of exuberant economic forecasts poured on Iran on the back of an unusually positive International Monetary Fund press release, one on-the-ground observer morosely invoked an old Iranian proverb: "My cheeks look rosy because I slap them" (Bah seeli sourat ra sorkh negah dashtan). To the members of Tehran's business and financial community, it appears the Iranian government has adhered to this saying, perking up its numbers to present the world with a peachy picture of its less-than-stellar economic performance.

On June 13, the IMF publicized the findings of a routine mission to the Islamic Republic. Aside from reporting a staggering increase in year-on-year GDP growth (from 1.5 percent to 3.5 percent), the IMF mission praised authorities for "early success in the implementation of their ambitious subsidy reform program." Unveiled last December by President Ahmadinejad, the reform program is estimated to have cut around $60 billion worth of government subsidies on fuel, wheat, and bread, replacing them with per capita cash handouts to a bulk of the population.

According to the IMF, the reforms have thus far been masterfully implemented. Runaway inflation has been curbed and social inequalities have been allayed. Together with commendable privatization efforts and a thriving financial sector, the reforms are increasing Iran's overall economic competency, the report suggests. But experts in Tehran have a far bleaker perception of Iran's economic prospects. They emphasize the reports' failure to take into account the subsidies' negative effect on non-oil growth, their longer-term financial viability, as well as the real state of inflation and unemployment. "It's contrary to the facts," said "Afshin," a source from the financial and diplomatic community. "When a delegation writes that they thank you for the hospitality, it means there is some problem.... You see, Iranians are very good at playing with numbers."

Local entrepreneurs' greatest fear is uncontrolled inflation. Slashes in energy subsidies have increased production costs for local factories, thus raising the fixed price of basic consumer items. In addition, there is fear of hyperinflation as recipients withdraw their subsidies from their bank accounts, flooding the market with cash rather than adhering to the government's advice to save the money. As a result, the inflation rate now stands at 27 percent according to the Central Bank, but some estimate that the real number is even higher. "You can see the genuine figure when you are walking in the street," said Afsheen. "A kilo of fruit goes from $3 to $5, a plot of land rises from $14,000 to $18,000. Petrol is $12 from $4. Just check the utility bills: That's the real state of inflation, as far as consumers are concerned."

Nevertheless, the IMF memo commended authorities for curbing consumer price inflation (CPI), which "only increased from 10.1 percent in December to 14.1 percent at the end of May." But observers like Omid A., an analyst at a major local investment firm, consider this indicator unreliable. Conventionally, the CPI lumps a basket of staple consumer items into categories like food and tobacco, then averages their overall price increase. In the case of Iran, the contents of those baskets have been prone to aberrant changes, he said. "CPI should monitor the inflation rate on basic items. In Iran, CPI has worked in a weird manner, because Iran decides what goes into that basket." Meanwhile, the price of some staple items has crawled up in price by nearly 100 percent, Omid noted. Kalleh, a major dairy producer, has increased prices of cheese, yogurt, and milk from $1.50 to $3 in some cases. "Businesses are on the verge of bankruptcy, and are passing the strain on their fixed income costs onto the consumer. The vision of income redistribution is false because people who cannot afford to pay for basic items will slip further into poverty," said Omid.

In addition to rising prices, there is fear of increased unemployment as factories struggle to cope with the hikes in energy costs. Originally, the government promised to allocate 30 percent of the revenues from subsidy slashes for businesses. This money was meant to pad the costs of necessary modernizations as industries buy new equipment to become more energy efficient. That percentage has since been changed to 20 percent, with 80 percent of the revenues going directly to consumers. However, there have been various reports that most businesses have not received any of these payments. Last month, the newspaper Khorasan publicized the contents of a letter sent to Ahmadinejad by the disgruntled owners of major factories. Although the government announced that it had paid out several billion tomans to help needy businesses cope with higher gas and electricity costs, the factory owners claimed that none of these subsidies had been paid to them and that they were facing closure.

The overarching view among the business community is that aside from the cash handouts to consumers, only select factories and government cronies have received compensation. The bulk of the country's factories are on their own, slowing production and laying off staff, without much hope of getting any help from the government in the future. Several Majles deputies, including Economic Restructuring Commission head Gholamreza Mesbahi Moghadam, have noted that given the current numbers, the revenues the government expects to receive from the subsidy slashes will only be enough to compensate consumers. "The other subsidies that the government is meant to pay to producers and farmers will not be possible from this source," Mesbahi Moghadam said.

In fact, despite the government's initial hopes of saving around $62 billion through the subsidy reform, the program's financial sustainability is now in question. Ex-finance minister Jahangir Amuzegar, a former IMF director, notes that of the $54 billion the government now hopes to save by slashing subsidies, at least $44 billion is needed to compensate the 72.5 million people who have registered for the $40 monthly cash payments. Several influential MPs believe that the government will only be able to collect about 60 percent of that $54 billion. Given the precarious state of the budget, Amuzegar concludes that it is too early to heap optimism on the subsidy reform program.

Other observers interpreted the IMF's positive tone regarding the reforms as an atonement for past criticisms. "The IMF report could have been more critical and cautionary, but I guess they were excited that the Iranian government has initiated this massive reform and did not want to sound discouraging," said Hadi Salehi Esfahani, a professor of economics at the University of Illinois.

But the IMF's cautious optimism has done little to allay the fears of local businesses. Aside from the inflationary effects of the subsidy reform, investors are concerned about Iran's banking and monetary policy. They say high interest margins dissuade small businesses from borrowing money. Simultaneously, newly introduced caps on the interest rates of savings accounts are cutting into the incomes of families accustomed to living off of them. Meanwhile, the devaluation of the rial discourages foreign investment, as any domestically generated revenue loses value when converted to foreign currency. And although the government has undertaken ambitious privatization projects in recent years, those efforts are being stymied by the subsidy reforms' negative impact on growth.

"Everyone agrees that the subsidies were long overdue to be cut, but in what manner?" says Omid A. "They should have been phased in, gently, which is what Ahmadinejad originally promised. Instead, the government has taken a sledgehammer to a walnut."

Homepage photo by kamshots.co.uk.

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