Some analysts argue that Iran’s fragile recovery makes it more vulnerable to further economic sanctions. Sanctions that would hinder direct investment, however, would actually help Iran in the short run to contract its economy and reduce the inflation rate. When a central bank increases interest rates to contain the inflation rate, the initial increase in the interest rates puts a damper on investment spending, which causes a drop in direct investment. With or without further economic sanctions, Iran’s economy is going to get worse before it gets better.
Once the inflation rate is contained, Iran can then initiate expansionary fiscal policies to stimulate the economy, create jobs, and reduce the unemployment rate. High unemployment–among other factors–feeds a rapid outflow of human capital. According to the IMF, over 150,000 of the best young minds leave Iran on a yearly basis. This massive “brain drain” has a huge impact on the country’s productivity and long run potential for growth. While the country maintains many support factors that enable increases in productivity, such as an advanced education system, infrastructure, and research and development, it lacks political stability and property rights, and foreign direct investment is limited in part because of international sanctions. Foreign direct investment in Iran at the end of 2009 was less than half of what it was in 2005. [1]
