Iran: Two Years After the Lifting of International Sanctions

On the 16^th of January 2016, the international sanctions against Iran were largely lifted. First introduced by the US after the Iranian Revolution in 1979, they were successively expanded by the U.S in 1995, the European Union and the international community in 2007 and reached a peak in 2012. These economic sanctions in response to the refusal of Iran to suspend its uranium enrichment program consisted of strong restrictions and embargoes on the trade, banking and oil sectors. Aiming to prevent any further investment in the Iranian nuclear program, these sanctions were “the toughest the world community has ever imposed on any country”[1] and have had a very serious impact on Iran’s economy.

The sanctions’ lifting process started in 2013 with the Geneva interim agreement shortly after the moderate M. Rouhani, succeeding M. Ahmadinejad, came into power as President of the Islamic Republic of Iran. This first interim agreement was followed in 2015 by the introduction of a deal framework in Lausanne. Later the same year, this deal framework was commonly agreed by Iran and the P5+1 representatives (China, France, Russia, UK, US and Germany).

Today, two years after the actual lifting of the sanctions, the economic benefits seem rather mixed for Iran. If more time is needed for the Iranian to perceive the benefits of a more open economy, the structural weaknesses of Iran’s economy and the uncertainty brought by a possible withdrawal of the agreement of the Trump administration will significantly hurt the expected economic revival of Iran.

After giving an outlook of the economic impact, the sanctions had on Iran, this post will focus on understanding what the current economic situation is and how bright the future is for Iran, two years after the lift of the economic sanctions by the international community.

Impact of Economic Sanctions

The tightening of the economic sanctions in 2012 by the international community deeply affected the Iranian economy. The increased economic pressure consisted of a stronger financial and banking isolation with a further freeze of Iranian foreign held assets, a wider restriction of economic and trade cooperation and most importantly a strengthened embargo on Iranian oil that represented 80% of Iranian public revenue in 2012.  And, as expected, the economic and social consequences of such sanctions rapidly proved their effectiveness.

In 2012, after a growth of 5.8% and 3.5% in 2010 and 2011, the GDP fell by 7.7% percent (IMF). This contraction was mostly due to the drastic diminution of Oil exports as a consequence of the embargo.

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The rising price of importing and exporting goods also led to a skyrocketing inflation which reached 30.8% and 34.7% in 2012 and 2013 compared to an already high average of 14.4% the three previous years (IMF). Of course, this high inflation rate has had a strong and direct impact on the purchasing power of households and standards of living at large.

The industry was also heavily affected. International flows of investment into Iran dried and numerous international companies had to leave Iran. The car production decreased from 1.6 million units produced in 2011 to 0,74 million in 2013 as large car producers such as General Motors, Renault or Peugeot withdrew from the Iranian market in 2012[2]. All the sectors of the Iranian industry were affected by this international industry outflow and logically, with stronger exports barriers and lower foreign investment, competitiveness and production in Iran sank.

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Numerous voices in the economic and political fields raise concerns about effectiveness of economic sanctions and their negative spillovers on both sanctioning and sanctioned countries (Hinz, 2017). Putting the latter aside, in the case of Iran, as hoped by the international community, the economic impact of the international embargo on Iran has strongly limited the ability of Iran to invest in its nuclear development. Furthermore, the socio-economic impact of the sanctions incentivised the Iranian government, headed by the President Rouhani, to comply with international demands regarding its enrichment program. Thus, sanctions were effectively relieved in January 2016 by the international community.

Economic expectations from sanction relief in early 2016

The relief of international sanctions in Iran where expected to have a significant economic impact through four major channels:

• Increased export for the oil sector and therefore rise of government revenues
• Increased foreign direct investment in different sectors (industry, oil, tourism,..)
• Easier access to financial services (cheaper money transfer, banking, trade transaction,..)
• Public and private domestic investment pushed by tens of billions of unfrozen assets

As the relief of economic sanctions were in sight, the expected benefits were high. Studies presented early 2016 by the IMF and the World Bank estimated high gains for Iran but also for the World at large. And it is mostly through the oil channel that the first visible effects were anticipated.

As sanctions would be relieved, a global decline of oil price by about 13%, pulled down by the return into the global market of Iranian oil suppliers was expected. This would contributed to an increase by about a quarter percent of world’s GDP and between 3 and 4% GDP rise in Iran. Furthermore, the liberalization of trade and financial services and steep decrease in trade costs was expected to strongly benefit the non-oil sector and revitalize the Iranian industry with rising competitiveness and increased investment inflows. (Ianchovichina, 2016) (Versailles, 2016)

The post-sanction path to economic recovery is however not without any pitfalls for Iran. Many observers have underlined the risk for the country to be struck by the so-called Dutch disease. The Dutch disease mechanism underlines the risk for a country with a booming natural resource sector to see its other industry suffer. As natural resource exports increase, the local currency appreciates and the nation’s other sectors’ competitiveness decreases. In that matter, in order to avoid falling into this trap and to promote sustainable economic development, the Iranian government must advocate sound macroeconomic policies and support industry diversification.

Actual economic situation two years after

For the years 2016 and 2017, Iran GDP growth figures were respectively of 12.5% and 3.7% which sharply contrasts with the negative growth figures of the previous years. For the first time in decades, the inflation rate dropped below the 10% ceiling and a 9.5% inflation rate was recorded in 2016. Exports have reached pre-2012-sanctions levels and slowly investments and industry come back in Iran.

On a social perspective, however, the improvements can scarcely be felt, if not at all, by the population. The unemployment rate went up from 11% in 2013 to 12.4 and 12.5% in 2016 and 2017. For a population, where 55% is under 30 years old, the expectations from Rouhani and the nuclear deal were high and the current stagnation of the economy and social conditions led to disillusionment. In April 2017, shortly before the re-election of the Rouhani, a large majority of Iranians (72%) believed that the Iranian nuclear deal had not improved their economic situation. (IranPoll, 2017) At that time, only 11% of Iranian said that their economic situation had not improved in the last 4 years. What hindrances are then still remaining in Iran that thwart further growth?

Three main causes can be identified explaining the low economic recovery in Iran. First, if largely lifted by the European Union, the sanctions remain quite heavy from an American perspective. They still widely prevent trade and transaction between American and Iranian banks and industries. Moreover, the reintegration to the global system with non-US counterparts takes time. The remaining sanctions and the post-sanction financial regulatory environment makes the re-connexion difficult and time intensive. (IMF, 2017)

Second, the Iranian domestic administrative and structural weaknesses impede the economic recovery. Weaknesses are substantial in the banking and financial sector. Reforms are notably expected both in the fiscal system which could then better support the non-oil sector development and in the monetary system that would further support government credit policies and insure a low and stable inflation. Among others, these reforms are already part of the Five-year Development Plan presented in 2016 by the Rouhani’s government. It is however the ability of the administration to implement such reforms that raises questions. The crawling corruption is in Iran an old-established barrier to efficient reform implementation. In 2016, Iran ranked 131 on 176 in the ranking of the most corrupted countries in the world by Transparency international. (Transparency International, 2017)

Last but not least, since D. Trump came to office, the relation between the U.S. and Iran significantly deteriorated. The regular defiant discourse from Donald Trump against Iran and the nuclear deal, referred as “the worst deal ever”, casts a shadow on Iran. The possibility that sanctions could be re-established discourages many foreign industries and banks from tying links with Iran that could at any time be broken again.

Conclusion

Thus, the strengthening of sanctions against Iran in 2012 have seriously hurt the economic and social development of the country. The large relief of these sanctions in early 2016 has fostered hope among Iranians. Economic indicators have rapidly responded with increasing exports, GDP and decreasing inflation. Despite this first economic upturn, the sanction relief is struggling to materialise in concrete social benefits for the population. The path to transform economic recovery into social improvements is still full of obstacles for the Rouhani government. Amongst them are the uncertainty brought by the unpredictable foreign politics of D. Trump that hinders higher global economic integration and the need of deep and sound structural reforms of the economic and financial system. Ultimately, if the Iranian government has a very limited impact on the American president, the key to sustainable growth, in Iranian case, lies, first and foremost, in the capacity of the government to actively promote and implement profound changes at a national level. Only the latter will enable the good propagation of economic benefits to all sectors of the industry and all the layers of the society.

[1] Mr Lew, American Treasury Secretary, June 2014

[2] http://www.oica.net/category/production-statistics/2011-statistics/

Bibliography:

Hinz, J. (2017). The Cost of Sanctions: Estimating Lost Trade with Gravity. Kiel: Kiel Working Paper.

Ianchovichina, E. D. (2016). Lifting economic sanctions on Iran: global effects and strategic responses. Research Working Paper No. 7549. World Bank Policy Research.

IMF. (2017). ISLAMIC REPUBLIC OF IRAN, SELECTED ISSUES. Washington, D.c: International Monetary Fund.

IranPoll. (2017). PRE-ELECTION NATIONAL OPINION POLL. Toronto: People Analytics.

Transparency International. (2017). Corruption Perceptions Index 2016. Berlin: Transparency International.

Versailles, B. (2016). The Economic Implications of Iran’s Economic Sanction Relief. IMFdirect. IMF.