Workers, bazaar merchants and artisans, farmers, salaried officials and professionals — all expected that the departure of the Shah would mean better economic conditions for themselves and the Iranian people. At the very least, funds that had been diverted into corruption or used to purchase expensive and extravagant weapons systems and showcase projects would be made available to meet real needs. As things now stand, the government of the Islamic Republic faces considerable popular dissatisfaction because these expectations have not been fulfilled, and the standard of living of many Iranians has, in fact, fallen since the revolution. What is now a lack of enthusiastic political support may turn into active opposition as a protracted financial crisis further reduces the goods and services available to masses of people.
In many Third World countries, financial crisis is often the consequence of insufficient foreign exchange to cover imports of goods and services from the international market (including oil and foodstuffs). Iran’s foreign exchange expenditures in 1977-1978, the last year before the revolution, were $25.3 billion: $6 billion for services, mostly for overseas students, freight, and shipping; and $14.1 billion for the import of non-military capital, industrial and consumer goods. The imports of goods dropped to less than $10.5 billion in 1979, but climbed to $11.5 billion in 1980. They are likely to be higher still in 1981, with food imports comprising a considerable part of the increase. In spite of government propaganda about helping the agricultural sector, production has dropped since the revolution. Wheat imports have grown from 426,000 tons in 1978/9 to 2 million in 1980-1981. [1] This is despite higher prices for domestic crops, a 250 percent boost in the case of wheat. [2] But Iran’s foreign exchange earnings, mostly from oil exports, are likely to be over $19 billion, more than enough to cover these imports of goods plus freight, insurance and other service categories.
Iran’s crisis is the result of a shortfall in government revenues, in a society where the economic activities of the state accounted for a substantial portion of Iran’s gross domestic product. Much of the government’s revenues came, in turn, from oil exports which have declined significantly after adjusting for inflation since the revolution. The gap between the financial resources of the Islamic Republic and its revenue needs is impossible to close merely by the elimination of the corruption and waste of the Pahlavi regime. The authorities in the new regime have up to this point coped with the crisis by massive deficit financing of government spending. The 1980-1981 deficit, according to Ali Reza Nobari, the director of the Central Bank, was $11.4 billion. [3] This is roughly one third of the government budget, and one fourth of the gross national product. (By contrast, the US budget deficit has never reached 5 percent of the GNP since World War II. It should be noted at this point that the Iranian year runs from March 21 to March 20. All dollar sums are calculated on the basis of the official exchange rate of 75 Iranian rials to the dollar.) The ability of the regime to finance yet another monster deficit is extremely problematical.
The Inflation Factor
Iran’s economic crisis is due primarily to a drop in oil revenue, although Iran will earn about as much from oil exports this year as the $20.4 billion it received in 1977/8, the year before the revolution. The problem is that $20 billion today is worth only a fraction of what it was four years ago. An assessment of the impact of inflation on Iran’s economy must consider the decreased value of the US dollar, the currency used to pay for Iranian oil exports. In the US, a basket of goods which cost $100 in December 1977 will cost at least $150 in December 1981. But most of Iran’s oil revenues go to pay for goods and services, especially labor, bought inside Iran. President Bani-Sadr, evidently using Iranian Central Bank figures, estimated the increase in Iranian prices to be 10 percent for 1978/9, 12 percent for 1979-1980, and 27 percent for 1980-1981, [4] or 56 percent over three years. This seems low. The US Embassy estimated the 1978-1979 rate to be 15 percent. [5] For the following year, the Economist Society of Iran said the consumer price increase was 50 percent, while Fereidun Fesharki, an oil economist now living outside Iran, has cited a Central Bank estimate of 25 percent. [6] Inflation, in any case, continues unabated; we can reasonably assume that prices in Iran in 1981-1982 will average at least double what they were in 1977-1978.
The international and domestic inflation rates combined are future affected by the exchange rate between the US dollar and the Iranian rial. The higher the prices in Iran and the lower the exchange rate (the fewer rials per dollar), the less the rial will buy inside Iran. The rial has about the same government-set exchange rate as it had in 1977-1978: 70 to 75 rials per dollar. In a free market, inflation in Iran would make the rial worth much less. There has been talk of a devaluation to the more realistic rate of 100 rials = $1; some transactions are now carried out at about this rate. The government, as the largest exporter, would seem to have some incentive to devalue the rial, as this would make Iranian goods cheaper and more attractive to foreign buyers, and imported goods more expensive for Iranians. I can only speculate that the government has not devalued because it does not want to acknowledge the extent of inflation, and/or it is catering to the bazaaris who import goods for resale and benefit directly from the overvalued rial. In any event, so long as the old rate is maintained, the government must take in at least $200 to be able to purchase inside Iran what $100 would buy in 1977-1978, or $180 for combined foreign and domestic purchases. Oil revenues would have to rise to $36 billion in 1981-1982 in order to match the pre-revolution level. A reasonable high estimate for actual oil revenues in 1981-1982 is just about half that figure.
Oil Revenues and the Economic Crisis
My estimate of oil income assumes the export of 1.5 million barrels per day at $34 per barrel. Income of $32 billion would assume, for instance, sales of 2.6 million barrels. This would be an extremely optimistic scenario.
Physical and technical problems would impede any return to the pre-revolution production levels of 5-6 million barrels a day. This has been ruled out in any case by the regime for political and conservation reasons. Additionally, the technical staff in the oil fields has been reduced by purges of supporters of the old regime and by the dismissal of foreign advisers. Oil workers have struck periodically over wage and working conditions, as the new regime has tried to rescind improvements won during the fall 1978 strikes. Arab Iranian insurgents in Khuzestan have harassed facilities with bombings and other forms of sabotage, and Iraqi airstrikes have caused some, but evidently not much, damage.
But problems in the oilfields have not impaired the technical capacity of the National Iranian Oil Company to produce at least 3 million barrels a day, which would leave some 2.5 million barrels available for export. Shortages of foreign parts have been largely overcome through increased domestic manufacture. Oil industry observers have been impressed by the ingenuity of Iranian producers. [7] The export facilities at Kharg Island have reportedly not been damaged much in the war with Iraq.
The 1981-1982 budget envisions oil exports of 2.6 million barrels. The main difficulty lies in finding markets. Saudi Arabia is producing a record 10 million barrels per day, 1.5 million more than its already high “normal” ceiling. The Saudi regime has claimed that its goal is to depress the oil market sufficiently to unify OPEC prices toward the lower end of the present spectrum ($32 to $41 per barrel). One cannot help but suspect that an equally important objective of the Saudis is to cut deeply into Iranian sales and revenues. They have fostered a glut on the world market estimated between 1 and 2 million barrels per day. At a time when oil firms are refusing deliveries under long-term contracts with pro-Western states like Kuwait and Nigeria, few firms or governments are courting US and Saudi displeasure by purchasing Iranian crude. Iran’s price, once among OPEC’s highest, is now average or even below average, before taking into account further discounts reported for oil loaded in the war zone near Kharg Island. [8] Iranian government officials and oil industry sources report that production in April 1981 ranged between 1 and 1.5 million barrels a day. Assuming $33 in government revenue per barrel, each 100,000 barrels per day is worth $1.2 billion per year.
The Corruption Gap
It has been popularly assumed in Iran and among circles sympathetic to the revolution that any shortfall in oil revenues could be matched by eliminating the waste and corruption that prevailed under the Pahlavis. If we look at government expenditures for 1977-1978, the last year before the revolution, we can deduct, at the most, some $13.4 billion as attributable to waste and corruption. This calculation would eliminate all funds for internal security, government construction (mostly military bases), purchases of foreign arms, nuclear power projects, foreign aid, loan repayments (interest and principle). We would further attribute fully half the funds for capital accumulation in industry, mines, transportation and communication to corruption and social waste. This is no doubt an overestimate, but there were numerous instances of corruption and waste beyond government-sponsored projects — speculation on land for urban housing and shops, for instance. In addition, the $3 billion gap between oil exports and government revenues seems to be a full $1 billion higher than what would be justified by production costs, which suggests a confirmation of reports that the Shah’s family skimmed off oil revenues for their personal accounts.
This leaves us with a high estimate of $15 billion as the amount that can be attributed to waste and fraud in the last pre-revolutionary year of the Pahlavis. Had the Shah continued to rule, this figure would have risen quickly after 1978. Many projects were just moving off the drawing boards into construction, the stage at which they would require vast sums. Between 1973 and 1978, for instance, Iran ordered more than $19 billion in US arms, but took delivery on only $8 billion. [9]
Subtracting my $15 billion estimate from the 1977-1978 budget, we are left with expenditures of $20 billion. The same goods and services in 1981-1982 will cost over $35 billion. This does not include funds for major new items — aid for small firms, investments in minority areas, housing for the poor, and other programs favored by the new regime. Furthermore, there are the almost $1 billion per month expenditures for the war with Iraq (including refugee care) and the heavy, protracted fighting in Kurdistan, not to mention the costs of reconstruction that must follow. The economic crisis has also forced higher spending on subsidies to keep urban food prices relatively low (especially in the face of mounting unemployment) while increasing income to agricultural producers.
Deficit Finance
In the face of these intractable expenditures, government revenues are not likely to exceed $25 billion, a gap of at least $10 billion. In the current year, only deficit spending of $11.4 billion prevented Iran’s crisis from turning into a collapse. The planned deficit had been only $7 billion, but oil revenues were $11.4 billion less than expected. This was only partly due to the war with Iraq; exports actually picked up after a drop in the first month or so. Public sector industries lost $2.1 billion. Tax collections were $1.33 billion, or 25 percent, short of plan, despite a substantial midyear increase in real estate and inheritance taxes.
The deficit would have exceeded $24 billion if the regime had not drastically cut spending in the autumn. The development budget was sliced by 40 percent, or $5.3 billion. This meant finishing only projects already near completion, such as the Lars dam near Tehran and the petrochemical plant at Bandar Khomeini. Major projects were canceled. The operating budget was cut $6 billion, mostly through reductions in government workers’ wages. In the past, government employees received large sums over their nominal salaries in the form of travel and housing allowances, New Year’s bonuses (up to two months’ salary) and overtime pay for hours not worked. The government wage bill was reported in July 1980 by the Financial Times to be $17.8 billion. There are 1.4 million government workers (out of a non-agricultural labor force of 7.5 million), implying an average weekly salary of $245 per week. This seems to be an overestimate, but even this sum would require average cuts of 20 percent, or $55 per week, to effect a budget saving of $4 billion.
In mid-May, the government of Prime Minister Raja’i proposed a $44 billion 1981/2 budget which envisioned completing nearly all the projects of the ex-Shah’s Fifth Plan. The budget is balanced thanks to several unreal assumptions: 1) oil exports will average twice the current 1.3 million barrels per day; 2) military spending will drop to an average $610 million per month from the $1.1 billion per month of the interim budget announced just this past March; and 3) government non-oil revenue from taxes and state-owned firms will rise to $11.1 billion. If we make the more realistic assumptions that oil exports will stay at the current level and non-oil revenue will be $9 billion, we get revenue of $25 billion. Even if the government slices in half the $15 billion capital development budget, the deficit will be $12 billion, matching last year’s.
There is no simple way for the regime to finance another deficit of this size. The usual recourse of third world governments, loans from the large Western banks, does not appear to be a possibility for Iran. The $11.4 billion deficit of 1980/1 was financed largely by reducing foreign exchange reserves by some $8 billion. In early 1981, those assets stood at only $4 billion, including the $2 billion transferred after the hostages’ release. [10]
Last year’s deficit was partially covered by expanding the money supply some $5.4 billion (over 25 percent) between September 1980 and March 1981. [11] The Central Bank lent public sector banks and firms over $1 billion, with much the same effect. [12] The government talked about a sale of bonds to the public, but this was dropped due to the government’s lack of credibility (as opposed to any ideological objections to paying interest. [13] President Bani-Sadr acknowledged in September 1980 that some $2.8 billion had been withdrawn from Iranian banks over the previous three months. [14] A devaluation of the rial, discussed earlier, would raise government oil revenues in rials, from 1,400 billion to 1,860 billion. But this would have no effect on the dollar cost of goods purchased abroad — at least one third of government purchases even under an austerity budget. Domestically it would add to inflation and raise the cost of domestic purchases to the government. Thus devaluation would contribute only marginally and temporarily to solving the budget crisis.
Effects of the Crisis on Different Classes
The most likely prospect in Iran is for an intensification of the current crisis: increased inflation, lower wages, further cuts in government services. The few construction projects still being planned or underway are likely to be postponed, including an Italian-contracted steel plant at Isfahan, a natural gas treatment plant at Kagan, and road and harbor construction in the Gulf area. [15]
Farmers, as opposed to agricultural laborers who make up the bulk of the rural population, have not been hurt by the financial crisis. Government services were never considerable in the countryside, so recent cuts have not had great impact.
Bazaar merchants and producers, on the other hand, have seen sales drop. This was initially offset by less government pressure, but now price controls are squeezing the bazaaris in much the same ways as before the revolution. The bazaaris are blamed for inflation and are forced to pay bribes or sell at artificially low prices. The difference is that now mullahs collect the fines. Current talk of nationalizing foreign trade, if implemented, would further reduce bazaari income.
The working class and salaried officials and professionals have borne the brunt of the financial crisis. Cutbacks in government salaries and layoffs have hit this group hard. Reduced government spending has also undermined the influence of government officials in the larger society and made them more vulnerable to purges led by the clerics. Workers have been the main victims of spending cuts, and now experience reduced incomes after years of rising salaries. (Wages in large factories rose 28 percent in 1977-1978, compared to price rises of 17 percent, according to a post-revolution Central Bank report.) Rationing of foods and fuels forces workers to spend hours in lines. Any cuts in food subsidies, or hikes in taxes, will drop workers’ living standards even further.
Unemployment is already considerable — an estimated 2 to 3 million out of the non-agricultural labor force of 7.5 million is entirely credible considering the one-third drop in gross national product since the revolution. [16] According to the Ministry of Industry and Mines, only 59 percent of the industrial units operating before the revolution were still operating in the spring of 1980, and these were functioning at an average 80 percent of capacity. [17] After the revolution, workers in many factories and stores organized to demand that employment be maintained despite the fall in production. Private capitalists no longer have the funds to pay workers indefinitely, and the government does not have the means to pick up the tab. Construction workers have faced a particularly difficult situation. A falloff in large-scale construction in the last year of the Shah had been one of many factors leading to the revolutionary situation that developed.
Construction workers, usually migrants from rural areas with the least skills and lowest incomes of any workers, were generally hired on a daily basis and thus particularly unable to organize on the job for continued employment. The 100,000 commercial licenses issued to street peddlers in Tehran in the first year after the revolution is one small reflection of the situation facing unemployed workers, trying to survive any way they can.
The intensifying economic crisis and increased opposition to the regime will not necessarily lead to a change in government. Those in power have benefited from a strong patriotic reaction to the war with Iraq. It will, however, affect their relationship to the people, from that of a popularly supported revolutionary government to that of a clerical dictatorship. Already it appears that the increase in military and organizational strength of the Islamic Republican Party and the Revolutionary Guards has been proportional to the ruling clergy’s declining popularity.
Endnotes
[1] Prime Minister Raja’i, in Iran Times, May 22, 1981.
[2] Middle East Economic Digest, March 6, 1981.
[3] Financial Times, April 4, 1981; Middle East Economic Digest, April 10, 1981; Iran Times, April 17, 1981.
[4] New York Times, April 3, 1981.
[5] Foreign Economic Trends: Iran (Washington, August 1979).
[6] In Revolution and Energy Policy in Iran, published by the Economist Intelligence Unit (London).
[7] Eight Days, February 14, 1981.
[8] The Christian Science Monitor (January 20, 1981) reported that discounts of $7 per barrel were offered — an unlikely figure. The insurance premium for pickup at Kharg is about 50 cents per barrel.
[9] Foreign Military Sales and Assistance Facts, cited in Bernard Reich, “The United States and Iran: An Overview,” Economic Consequences of the Revolution in Iran (Washington: Joint Economic Committee of the US Congress, November 19, 1979). See the stimulating and useful article by Theodore Moran, “Budgetary Austerity in Iran,” in the same volume.
[10] Iran Times, February 20, 1981; Middle East Economic Digest, April 3, 1981.
[11] Financial Times, March 30, 1981; Middle East Economic Digest, April 3, 1981.
[12] Middle East Economic Digest, March 6, 1981.
[13] Iran Times, December 5, 1980 and January 23, 1981.
[14] New York Times, April 3, 1981.
[15] Financial Times, February 16, 1981; Middle East Economic Digest, February 13 and 27, 1981.
[16] According to President Bani-Sadr. New York Times, April 3, 1981.
[17] Iran Times, May 23, 1980.
