Best facts, analysis, and research on Iran's economy
Overview of the Economy under Rouhani
Though Rouhani has successfully returned growth to the Iranian economy – reversing poverty and making room for a rising middle class – he has failed to make economic benefits reach ordinary Iranians. Indeed, while Rouhani’s administration adeptly handled the low prices of oil, reversed the decline in output, and brought inflation down to one-third – likely avoiding an economic catastrophe – the profits of the Oil & Gas sector have not materialized on “people’s dinner tables” (circa. Ahmadinejad 2005).
So, while the economy grows, why do Iranians not feel it?
- Austerity: Insufficient demand in the Iranian economy has produced factories with excess capacity and workers without jobs. Similarly, private sector bootstrapping in the construction sector, combined with insufficient demand, ultimately led to the sector’s collapse and the freezing of the Iranian economy.
- Unemployment: While around half a million jobs were added into the economy per year, unemployment has grown more rapidly in Iran. Ahmadinejad’s solution to the unemployment problem was to send Iranians to university in record numbers; now, these graduates are joining the labor force at a record rate, outpacing the speed at which the Rouhani administration is able to add jobs to the economy. As a result, university graduates suffer from the highest unemployment rate in Iran (30%).
- Public Sector Investments: The government relied solely on monetary policy (to reduce inflation), whereas it should have used fiscal policy as well. Public investments fell by 17% in FY15-16, and by another 9% in the first months of FY16-17. In a nutshell, public investments constitute today only 5% of Iran’s GDP, compared to 20% almost a decade ago. Many economic analysts have pointed to the lagging of public investments as a source of the unemployment problem, as well as the lack of private and foreign investments.
- Private & Foreign Investments: It is safe to say that the Rouhani administration’s expectations for foreign and private investments after the Iran deal was achieved were unrealistic. A quick look at history shows that Presidents Khatami and Rafsanjani underwent the same slow and pitiful process of seeking out private and foreign investments. The fact remains today that uncertainty regarding American policy on Iran, the existing sanctions in place, as well as the new ‘hangover’ from sanctions that were removed have taught firms (esp. banks) to be wary of business in Iran and to over-comply with legal regulations. Simply put, the risk for some investors remains too high.
In general, Rouhani’s economic success can be drawn back to his placement of equally well-known and polarizing figures to influential economic positions in his administration. These experts have had several opportunities to handle some of Iran’s most difficult economic challenges since its founding, but have also had some bad times, such as their mistakes in reconstructing the economy after the Iran-Iraq war. While they are experienced technocrats with knowledge of the weaknesses and strengths of the economy, their past mistakes and polarizing politics make them a double-edged sword – in the same way Rouhani’s economic track record will serve him in the 2017 Presidential election.
The country’s GDP is almost 40% reliant on Oil & Gas. Former President and Head of the Expediency Council Rafsanjani once said, “If, God forbid, oil drops to $60 or $50, no one can manage this economy” (circa. 2012). The Rouhani administration, however, was very adept at reversing the decline in oil production and raising revenue from O&G in the face of low oil prices. Production has in fact returned to pre-sanctions level.
Nonetheless, an ever-increasing technological gap plagues the O&G industry, contributing to the deflation of initial high hopes for post-JCPOA investments. Constraints and uncertainties due to remaining sanctions and the possibility of snapback have resulted in many MOUs but few concrete deals. However, further expansion of the oil sector is needed but not critical; Iran has is very experienced in managing low oil prices and levels of production. Meanwhile, many other sectors, such as transportation and water require more dire attention. Please see our Maps, Tables, & Figures section for further data on Iran’s energy sector.
Overview of Iran's Water Crisis
Iran’s water crisis is its most unreported yet most critical problem at both, national and local levels. It is a problem rooted in population growth, climate change, and general mismanagement and corruption prevalent throughout the Iranian economy. Iran’s per capita of fresh water has decreased to about half its level at the founding of the Islamic Republic. Meanwhile, Iran is the 7th country most reliant on ground water. Weak property right, common pool problems, electrification of underground basins, and mismanagement of water systems (such as the proliferation of too many bad dams along Iran’s rivers) has made ground water even more inaccessible and scarce.
This has resulted in desertification, the dying of profitable wetlands, and an increase in sandstorms. More dangerously, these environmental problems contributed to the further shrinking of Iran’s agricultural sector. Given agriculture is one of Iran’s largest labor industries, with around 10-15 million low skilled workers, the shrinking of the agricultural sector will likely raise its own set of problems of poverty and unemployment once the water crisis expands from the peripheries of Iran throughout its provinces and cities. While the Rouhani administration sought a series of policies to control water usage and reform water and property laws, intense partisanship in the Iranian Majles has not allowed any law to pass. Meanwhile, Iran has also lost most its knowledgeable land owners who can properly maintain their lands, either because they do not have the resources to develop their lands or because of the few financial incentives to do so compared to other sectors in Iran.
Key Policy Questions
Why have foreign investments not lived up to expectations since the JCPOA?
While it is true that the Rouhani administration sold the deal to its constituencies as a fast-track for Iran to rejoin the international economy, it is safe to say that those expectations were exaggerated at best and unrealistic at worst. On the one hand, confusion over the existing sanctions in place, as well as the new ‘hangover’ from sanctions that were removed, has taught firms (esp. banks) to be wary of business in Iran and to over-comply with legal regulations. A real reputational risk of dealing with Iran hurts the possibility of firms accessing the US’s bigger market. Instability in Iran-US political relations and the possibility of the snapback of sanctions deters investors and companies from the Iranian economy. On the other hand, lack of transparency and a notorious business culture has also made business with Iran all the less appealing. Investors are worried about stakeholders’ murky affiliations with political organizations and the true source of Iranian funds involved in their projects.
Furthermore, it is important to note that foreign investors, out of caution, tend to remain as close to government industries as possible; though they are inefficient, they are the safest in unstable countries. Therefore, while some big firms have in fact entered Iran (esp. Asian companies or those in the automotive and O&G sectors), most of their business deals have been with big Iranian companies or stakeholders – i.e. the elite. Most Iranian jobs, however, are in small- and medium-sized companies that have so far been beyond foreign investors’ interests. Thus, even the profits returned from the little foreign investments there are have been mostly inaccessible to ordinary Iranians, whether in terms of jobs or income level.
Who are Iran's most important economic partners?
After the JCPOA, the EU stood as the largest economic beneficiary from the deal. It has generally always been more understanding and realistic about Iran and is seeking the full restoration of diplomatic and economic relations. Meanwhile, the EU is Iran’s largest traditional industrial and trade partner: Germany for machinery, France in the automotive industry, and Italy in the trade of steel. However, though the EU is seeking to reestablish its position and relations, Iran is attempting to diversify away from European companies and into Asian firms based on its past experience with the West.
The Iran-China economic relationship is very strategic to both countries and will likely remain at full thrust regardless of politics over the Iran deal. China has always been deeply engaged in the Iranian economy, being its largest trade partner and capital investor. This relationship is only set to strengthen as Iran-China trade is expected to increase 10 folds over the next 10 years. Nonetheless, the true cost of business with China is in some cases higher than that with the West (sometimes 80% more costly). This is due to the lack of Tier 1 technologies (in energy, automotive, etc.) and the existence of the same banking sanctions on both countries. As a result, since the JCPOA, Iran has been seeking to diversify away from China, preferring Japanese, Korean, and Southeast-Asian firms.
Though the historical relationship between Iran and Russia has been marked with ups and downs, their current relationship is very strategic, both in terms of security in the region (e.g. Syria) and increasingly on economic issues. While Russia has hardly played a major role in Iran’s economy in the past, this is changing as Iran has become more valuable economically to Russia to offset Western sanctions, and as Iran has not had much luck finding foreign investments in the West or Asia. Trade has been mainly focused on arms and energy, but Russian investment has increased since the JCPOA in the transportation, infrastructure, and Telecom sectors.
Which sectors have the highest potential for growth if investments materialize?
- Steel: Iran is significantly increasing its production capacity of steel. It has now become the 3rd largest exporter to the EU after China and India, and will likely be expanding its market in the future.
- Oil & Gas: see our overview of Iran's energy sector above.
- Automotive: This is the 2nd largest and most developed industry in Iran after O&G. Most of the production factories are in the Southern regions, closer to the Persian Gulf. This sector also has numerous upcoming projects and foreign investments in the pipeline, with PSA, Renault, Hyundai, and many others seeking to return to Iran.
- Transportation: This sector likely has the most opportunities for development and expansion. On the one hand, due to past sanctions, Iran suffers from a technological gap with the modern world, which resulted in poor public transportation systems, massive traffic problems in Tehran, and a public safety hazard in domestic air travel. Therefore, while Iran’s aspiration to become the main hub in the region may be unrealizable in the short term, the transportation sector likely has the largest potential for investment and growth.