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A Grim Economic Outlook

by CORRESPONDENT in Tehran

29 Apr 2011 19:39Comments
641714_orig.jpgHSBC, long a vocal proponent of Iran's investment potential, now holds dim view of its economic prospects.

[ dispatch ] The insalubrious state of Iran's economy is hardly a secret, but when even a heavyweight financier like HSBC -- not long ago a vocal proponent of the country's investment potential -- is seeing red, it may be an indicator that the year 1390 will indeed be a trying one for Iran.

Tehran Bureau has recently acquired an internal HSBC economic outlook report for Iran in 2011. In it, a Tehran-based HSBC analyst predicts that the Ahmadinejad government's "anti-liberalist" and "anti-capitalist" economic mismanagement will place "considerable stress on internal politics, leading to strikes, protests, and business bankruptcies, and encouraging further emigration and capital flight."

The HSBC Group has been doing business in Iran since 1880, and now maintains a small staff in Tehran. In December, the bank came under fire for a controversial advertisement propagating its ability to unearth "potential in unexpected places," followed by a statistic about Iranian women. HSBC has since avowed that it is not pursing business expansion in Iran and that its existing operations are in line with U.S. and international sanctions. However, the financier has expressed considerable enthusiasm about Iran's market potential in past years, making its current skepticism all the more noteworthy.

The report forecasts low growth, high inflation, and continued double-digit unemployment for the coming year, naming feckless economic policy and deep-seeded structural problems as the main culprits. Shackled by state ownership and weakened by low taxes and high subsidies, the oil-reliant economy continues to follow "a lopsided economic model reminiscent of the former Soviet Union," the report states. "While the Islamic Republic now ranks high among a handful of nations in some high-tech endeavors, its traditional economic activities continue to rely on nineteenth century technologies."

Iran's economic environment is unfavorable for domestic business not connected to the oil and gas sectors, the report continues. Oil profits constitute some 70 percent of the government's fiscal budget. As a result, the process of weaning the state's economy away from reliance on non-renewable energy exports is further stymied, the report claims. "The presence of oil resources raises the cost of labor, housing, and various services. Non-oil exports are stifled by their sector's competitive disadvantage and economic diversification becomes even more arduous."

Aside from an ineffective public sector, Iran's businesses are reportedly damaged by the government's monetary policy, which favors foreign products over locally produced goods: "The exchange rate for the rial has been kept relatively stable even as inflation has continued to register double digits every year. The overvalued currency has increased imports to unprecedented levels, bankrupting thousands of domestic producers." All of this contributes to a decline in total productivity and rising unemployment. As the report notes, real GDP growth has been slowing every year since Ahmadinejad first took office, spiraling to "less than 1.5 percent in 2009/2010."

The lethal combination of slow growth and high inflation places Iran at risk of stagflation, a harbinger of serious economic crisis. Inflation has been an endemic problem for post-revolutionary Iran. At an official rate of 13.5 percent, it is now the highest in the region. While this is caused by numerous factors, including a populist economic policy, the report names superfluous government spending as the biggest culprit. "In the last four years, total liquidity has more than doubled," the report states. In addition, the government's debt to the banking system has increased substantially, while non-performing assets held by state banks have "reached record levels," and "nearly 7,000 businesses have failed to service their debts."

The recently implemented cutbacks in government subsidies -- a long-overdue effort to raise revenue and lower energy consumption -- is expected to worsen inflation in the short term. The plan will inject some $30 billion into the market in the form of cash handouts this year, though the government has urged citizens to invest or save this money. While market watchers agree that this step is an essential step toward market liberalization, the HSBC analyst notes that other crucial reform efforts, such as the recently proposed restructuring of Iran's Central Bank oversight, have been quashed by Ahmadinejad.

Yet despite the grim indicators, the HSBC report stops short of predicting an utter meltdown, nor does it discourage foreign businesses from investing in Iran. As many global financiers have noted, Iran is simply too large a market to ignore: According to Iranian officials, the country had the sixth-highest increase around the world in attracting foreign direct investment (FDI) in 2010, and the Economist Intelligence Unit expects FDI to double in coming years. Though stifling to other parts of the economy, petrochemical exports have increased 15-fold since 2000, and the World Bank lists Iran as the 18th largest economy in the world.

"There is absolutely nothing inherently wrong with Iran in order not to have a very vibrant economy," says Kaveh Ehsani, assistant professor of international studies at DePaul University in Chicago and an editor of Middle East Report. With its wealth of resources and strategic East-West location, "there is no reason why Iran can not create industrial capacities such as high-techs and pharmaceuticals and be the financial hub of the Middle East," he adds. "Anything which is man-made can be created in Iran as nature has already given all it has, including solar and wind."

Nevertheless, economic inefficiency and growing public dissatisfaction, which Ehsani attributes to government corruption and ineptitude, indicate that the year ahead will be a turbulent one. "We are heading to a final collapse and breakdown," he says. "You can only remain silent up to a point and remain passive if you have something to lose or something to be afraid of. Continued hyper-inflation will make even the few remaining middle-class poor and the poor [even more] impoverished. This will cause a final snowball effect that no amount of violence can hold back."

Copyright © 2011 Tehran Bureau

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