Iran Document and Analysis: A "Shockingly Bad" IMF Report --- "Subsidy Cuts Are A Unique Opportunity for Iran"

Last month we reported that a team from the International Monetary Fund had visited Iran and issued a statement declaring the "success" of Iran's economy, specifically praising the Government's subsidy cuts programme.

We noted doubts about the statement with the simple observation of a "sharp contrast to much of the economic news we have posted on the Iran LiveBlog", but left it at that. After all, this was only a statement and not a full report.

Well, an IMF "working paper" has emerged, albeit with little fanfare. In the expectation, however, that Iranian officials will be hoping that it gets headline attention, we will be blunt....

This supposed analysis is shockingly bad.

As a record of the process leading up to the implementation of the subsidy cuts in December 2010, there is some value in the report. It offers the Government's version of the political process and strategy to present the cuts to the public.

But note --- "the Government's version". This is clear from Page 1 of the document which --- in a footnote, not in the main text --- reveals that one of the authors, Dr. Mohammad Reza Farzin, is "Deputy Minister of Economy and Finance and Head of the Subsidy Reform Headquarters". The next footnote adds, "The authors would like to thank Iranian government and central bank officials for valuable factual clarifications and comments."

Further confirmation that the report is little more than a channel for the Iranian Government's presentation comes from the list of sources. A few of the official outlets, such as IRNA, are listed, as are a couple of the leading economic dailies such as Donya-e Eqtesad and Abrar News. But other sources --- not opposition media, but "semi-official" outlets --- are missing, such as Iranian Labor News Agency. There is no Aftab, no Khabar Online, no Alef, just to cite a few publications with a much different view of events since December. Nor is there any reference to an Iranian economist --- apart from Dr Farzin --- who might have provided information, let alone a critique.

Inevitably, then, this is a rose-coloured view of not only the subsidy cuts, but of the Iranian economy in general. The report gives the misleading picture of a smooth plan to December 2010 --- in fact, the implementation of the cuts was delayed on several occasions, and the introduction of the cuts has been haphazard and filled with further changes of direction. (The report offers the quite-wonderful Newspeak: "The authorities addressed many immediate problems with pragmatism.")

There are supposed "facts" here which fly in the face of reports from Iranian media --- for example, "only 0.5% of funds in the 'targeted subsidies' (support payment) accounts were withdrawn from banks on the first day of the reform" can be countered with the prevailing evidence that families have not only withdrawn the funds but spent them "inappropriately", leading the regime to consider vouchers in sectors such as energy."

But perhaps the most self-damning aspect of the reform is that a total of two-thirds of a page is devoted to consider what actually has happened with subsidy cuts (and then only in the "days following the start of the reform"). No need then to consider the sharp rise in prices across sectors, growing concern over imports, manufacturing shut-downs and slow-downs, currency fluctuations, and troubling rates of unemployment, especially among youth.

In short, as the Iranian official media highlights an "objective" IMF report which actually was crafted by Tehran's officials, the bottom economic and political line --- whether because the IMF wants a document to promote subsidy cuts or because it was led down the propaganda path by those whom it was supposedly questioning --- is that this "report" is a sham.

THE FINAL SECTIONS OF THE REPORT

VII. IMPLEMENTATION OF THE REFORM

A. Selecting the Day and Hour of the Reform

In contrast to the relatively uncoordinated implementation of the gasoline rationing scheme in June 2007, the decision about the exact timing of the implementation of the reform was delegated to the president from the beginning. At the time of the introduction of the gasoline rationing scheme, a number of officials made contradictory public statements about the timing and size of the fuel rationing, which contributed to social tension and limited riots at some gasoline stations. To avoid these problems, all public officials repeatedly stated throughout 2010 that the decision on the timing of the reform would be announced by the President in a televised speech, and would precede the price increases by only an hour or two. Iranian newspapers speculated that only four people in Iran—the President, the Vice President, the Minister of Economy and Finance, and the Deputy Minister of Economy and Finance in Charge of the Reform—were involved in planning the reform date, and that only the President was responsible for deciding on the exact timing of the implementation.

As the reform day approached, government officials made it clear that no Iranian would lose any of the unused gasoline remaining on their rationing cards, which gave the government a lot of flexibility in deciding the day of the reform. Hours before the President announced the price increase Iranians were allocated another monthly quota of gasoline at Rs 1,000 per liter for December 21, 2010-January 20, 2011. The availability of rationed gasoline at Rs 1,000 per liter one month late on household electronic cards effectively delayed and moderated the price increase for many smaller gasoline users.

B. December 13–21: The Week that Changed Iran

On December 13, Iranian media announced that the President would speak to the nation on Saturday December 18, starting at 9 p.m.. The announcement indicated the President would cover a number of issues, including international relations and the subsidy reform. Although the announcement indicated that the President may announce the price increase, the authorities clearly intended to leave the door open to allow the President to change his mind at the last moment. The authorities were also concerned that some elements of the reform may need more time to be ironed out, such as the readiness of the banking system to deal with a possible massive cash withdrawal from the targeted subsidies accounts, and the capacity of the fuel management system to handle efficiently the multiple fuel price system. Already in November, the authorities had had to delay the start of the reform to fix the fuel system management, ensure the distribution of compensation to families with more than six members, and provide additional time to allow residents to verify and correct possible errors.

On December 17 and 18, Iranian media carried reports of various agencies reporting their full readiness to implement the reform. In particular, Iran’s fuel management authority indicated its readiness to adjust prices in all gasoline stations. The authorities also reported that by midnight December 17, Iranians would receive another allocation of the monthly fuel ration 20 credited to their gasoline rationing cards. The Ministry of Commerce reported its readiness to step in and intervene in the market for many staple products in the event of a rush on products. On Friday December 17, prayers across Iran and television programs also made significant references to the reform and its benefits.

The most important meetings, however, may have taken place in the CBI in the night of December 17 to December 18. The CBI reported the following day that it had met with commercial banks to discuss the implementation of the reform, and had pledged to provide all the necessary liquidity to support banks, and would closely monitor the payment system. Commercial banks declared their readiness to satisfy every request for cash withdrawal from branches and ATMs. At the same time, the CBI leadership appealed to the population not to rush to withdraw their deposits. They also recommended that people transfer funds received into “targeted subsidies” accounts to higher yielding time and savings accounts to safeguard against inflation.

As announced, on December 18 at 9 p.m., the President went on television to discuss a number of current issues. He spoke about Iran’s international relations before moving to the topic of the reform. As in earlier speeches, he started by making numerous references to the appalling waste, economic and social costs, and social injustice resulting from cheap energy. He then made a formal announcement that the reform would start the following day, December 19. He also announced that bread prices would be increased within days, but only after all households received a supplementary “targeted subsidy” of approximately four dollars per person per month payable for two months in advance.

Just after midnight on December 19, the Iranian media published announcements detailing the reform. In the following few days, the media issued detailed schedules for electricity, natural gas, and water prices. On December 28, the media announced that all households received the supplementary Rials 80,000 (US$8) compensation related to increase in bread price.

C. The Days Following the Start of the Reform

To prevent public panic, government officials pledged to intervene in the market if necessary by drawing down the large stockpile of inventories of key consumer staples. [FOOTNOTE: Fourteen days after the start of the reform the Ministry of Commerce reported that no market interventions had been needed.] Price controls were also imposed on most products in the immediate days following the start of the reform, and Iranian companies were pressured to reduce some consumer and industrial goods prices. For example, prices for a number of petrochemical products used for packaging were reduced to partly offset the increase in production costs resulting from the energy price increase.

Similarly, Iran’s two largest car makers, Iran Khodro and Saipa, announced they were either freezing or reducing many prices. Manufacturers of household appliances were also encouraged to offer discounts and favorable terms on installment sales.

Senior government officials were visible and accessible to the media. Almost every minister, deputy ministers, and senior central bank officials discussed progress of the reform. Statements were typically followed by questions and answers session, all widely reported in the media.

Frequent reports on the banking sector indicated very few glitches in the operation of ATMs and the payment system. Only 0.5 percent of funds in the “targeted subsidies” accounts were withdrawn from banks on the first day of the reform. Officials called on the population to transfer their “targeted subsidy” benefits to higher yielding time and savings accounts to shield them from the expected jump in inflation. The central bank also prohibited commercial banks from using “targeted subsidies” funds to recover overdue loans.

The authorities addressed many immediate problems with pragmatism. Some energy prices were reduced and additional quotas or grants at low prices were allocated to the most vulnerable groups. For example, in the immediate days following the price increase, Iranian truckers’ profits were squeezed as retail price controls froze their revenues while fuel costs had increased. The government responded by allowing limited price increases and allocating to them a larger diesel ration at low-price. This pragmatic approach in dealing with the hardships caused by the reform ensured social stability.

VIII. CHALLENGES AHEAD: MACROECONOMIC STABILITY AND CORPORATE RESTRUCTURING

The successful implementation of the drastic price increases has created a unique opportunity for Iran to reform its economy and accelerate economic growth and development. The authorities are now faced with the challenging task of translating this opportunity into reality. Pre-reform preparations, for good reasons, centered on ensuring social support for the price increases. Without broad public support, the government would not have been able to increase the domestic prices of energy and other products. However, to ensure the long-term success of the reform, as measured by tangible improvements in economic efficiency and productivity, Iran’s corporate sector must adjust to the much higher energy prices and reduce its energy intensity. This will require changing the economy’s product mix and production technologies. Iranian companies will need to produce more energy efficient products and produce them more energy efficient technologies.

The main immediate challenge facing the authorities is, however, to allow a progressive pass-through of higher energy prices by eliminating administrative price controls and reducing excessive and arbitrarily set import or export tariffs, while controlling inflation by coordinated and tight credit, fiscal, and exchange rate policies. Maintaining macroeconomic stability is essential to avoid a rapid erosion of the benefits of the reform. At the same time, new product prices should reflect the adjustment in product mix from Iranian companies and changes in consumer demand away from products and services requiring a lot of energy towards more energy-efficient goods and services.

Reforming Iranian companies will not be an easy task. The experience of other countries that pursued similar reforms shows that corporate restructuring can be a very tricky process. Safeguarding the reforms often involves short-term compromises. At the same time, pragmatism in dealing with narrow, well-defined economic stress should not lead to reform drift and reversals. International evidence of economic reforms is littered with examples of seemingly small-scale compromises that hijacked the entire reforms by resulting in an accumulation of small or larger bailouts that eventually led to very high inflation.