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Iran: Pinning hopes on economic reforms

Middle East Economic Digest
Weekly Special Report
June 9, 2000

The latest figures from Iran's Bank Markazi (central bank) show that the economy is starting to react to the recovery in oil prices since March 1999*. As OPEC's second largest oil producer, Iran's fortunes are closely tied to the price of oil. Ambitious reforms under the stewardship of President Khatami aim to reduce the economy's vulnerability to external shocks and also remove many of the distortions and inefficiencies that plague the country's finances.

* Growth Heavily dependent on oil export revenues, the economy was hit hard by the slump in petroleum prices during 1998 and early 1999. Figures for the Iranian fiscal year to 22 March 1999 show a slowing of real gross domestic product (GDP) growth to 1.6 per cent from 3.2 per cent in the previous year and 5 per cent in 1996/97. The economic expansion that did occur was due largely to higher agricultural output. Official figures for GDP growth in 1999/2000 have not been released, but estimates suggest the oil price recovery boosted the economy by about 2.5 per cent in real terms. Unemployment remains high, at about 14 per cent. Annualised consumer price inflation at the end of last December was 21 per cent compared with an average annual rate of 26.9 per cent in the three years to March 1999.

* The budget With oil income accounting for about 50 per cent of government revenues, public finances have improved significantly with the recovery in oil prices. In 1998/99, the budget deficit grew more than six-fold to IR 17.7 million million ( $ 10,136 million) as income from oil and gas tumbled 36 per cent, reducing total government revenue by 14 per cent.

Central bank figures for the first nine months of 1999/2000 show a sharply lower deficit of IR 2.2 million million ( $ 1,240 million), down from IR 7.2 million million ( $ 4,130 million) in the first three- quarters of 1998/99. Government revenues rebounded some 54 per cent on the back of higher oil prices to more than offset a 35 per cent hike in spending, caused by a sharp increase in development expenditure. According to revised government figures, the continued rise of oil prices in the last three months of the fiscal year resulted in a 1999/2000 budget surplus, equivalent to 1 per cent of GDP against a deficit of 7 per cent in the previous year.

* Balance of payments The trade balance and current account are heading for healthy surpluses, thanks to higher oil prices which account for about 80 per cent of the country's export earnings. Central bank figures show that oil and gas exports earned $ 11,410 million in the first three quarters of 1999/2000, up from $ 9,933 million received for the whole of 1998/99. With non-oil export revenue also rising, total hard currency income was $ 14,016 million.

Imports were limited to $ 9,484 million, helping to produce a nine-month trade surplus of $ 4,532 million against a deficit of $ 545 million in the first three quarters of 1998/99. The current account was in surplus by $ 3,579 million compared with a deficit of $ 1,884 million in the same period the previous year. With oil prices continuing to rise in the final quarter of the Iranian year, surpluses over the full year should be the biggest since 1997/98. There continues to be a steady reduction in the country's external obligations. Total external debt is estimated to have fallen to about $ 10,000 million today from $ 13,999 million in March 1999 and $ 21,928 million three years earlier.

* Outlook With oil prices remaining robust, the fiscal and external accounts should continue to improve this year. Economic growth is expected to quicken to about 4.5 per cent. The relaxation of trade sanctions by the US will help boost non-oil sector exports. The carpet industry should be one of the biggest beneficiaries; experts say the US market could be worth at least $ 1,000 million a year to Iran. Sanctions have also been lifted on caviar, pistachio nuts and dried fruits.

Nevertheless, the economy needs to grow by at least 6 per cent a year to make a dent on unemployment. The latest five-year plan, which began in March 2000, aims to deliver higher growth. The plan sets out ambitious goals centred around structural reform and removing distortions in the pricing system.

A partial float of the rial is being considered and there are also plans to harmonise the tariff structure and remove subsidies. The removal of energy subsides, which represent about 12-14 per cent of GDP, will provide the government with fiscal resources to finance other reforms such as social security and banking sector restructuring.

Other goals in the programme include privatising some 2,000 state enterprises across a range of sectors - a move aimed at reducing the government's ownership of banks and insurance companies and ending the state's monopoly on airlines, the railways and other transport systems as well as telecoms, water and power.

The country is also hoping to attract billions of dollars worth of foreign investment by creating a more favourable investment climate. This would involve a variety of measures, including possible constitutional amendments to reduce red tape, overhaul investment regulations, reduce restrictions and duties on imports, create more free-trade zones and increase security for foreign investments.

Various forums have been organised in London and elsewhere by the National Iranian Oil Company and its affiliates aimed at attracting investment by the oil majors. To boost foreign participation at the Tehran Stock Exchange, the central bank has eased regulations on overseas investors.

Observers say that economic reforms must be accompanied by political changes if public confidence is to improve significantly. Specifically, curbing the powers of the bonyads, the religious foundations that manage assets confiscated from the shah after the 1979 Islamic revolution, is seen as an essential step. The bonyads enjoy almost complete autonomy and receive generous government subsidies. Hopes are pinned on the pro-reform majority that will dominate the new majlis and which is expected to push for individual freedom and a more accountable government.


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