Iran’s Resistance Economy Is Kicking In

Farzaneh Sharafbafi, the first-ever female CEO of Iran Air, has just lost her job, a victim of U.S. sanctions on the Islamic Republic. Appointed in July 2017, Sharafbafi’s tenure was dogged by failures beyond her control. Of the 200 aircraft Iran ordered from Boeing, Airbus, and ATR, only 21 were delivered before the U.S. Treasury revoked the relevant licenses as part of the Trump administration’s “maximum pressure” campaign on Iran.

Sharafbafi’s replacement is Touraj Dehghani Zanganeh, a former air force commander and CEO of Meraj Air, a small airline which at one point operated the aircraft used by Iran’s president and foreign minister for diplomatic travel. Zanganeh was placed on the sanctions list by the U.S. last May.

The appointment of an individual sanctioned by the Trump administration is freighted with political symbolism: the Iranian government is signaling that sanctions designations will not influence decisions over the leadership of key industries.

More important, Zanganeh’s appointment exemplifies Iran’s renewed reliance on what its Supreme Leader, Ayatollah Ali Khamenei, has called a “resistance economy.” In order to overcome the restrictions imposed by sanctions, Iran will turn increasingly to a cadre of “resistance managers,” elevating individuals and empowering networks with unique capacities to keep Iran’s trade flowing under duress.

Given its long experience of economic sanctions, Iran has plenty of experienced “resistance managers” like Zanganeh. But their skills will be tested like never before as the U.S. ratchets up its sanctions regime—the latest round targets Iran’s metals sectors—and the economy sinks deeper into recession.

Government officials have vowed to adopt better monetary and fiscal policies in order to protect the public from the recession. But with trade with major partners like Europe and China collapsing, Iran needs to continue buying and selling goods, and earning hard currency, in sufficient quantities to keep the economy turning, even at a slower speed.

In the case of Iran Air, sanctions don’t just end the acquisition of new aircraft, but also significantly restrict the ability to secure spare parts for its existing fleet, to receive ground handling services at airports, and to sell tickets to passengers around the world. Iran Air no longer needs a CEO who represents the renewal of Iran’s aviation industry.

The government is betting that Zanganeh is a manager who can procure—by any means necessary—what the airline requires to keep its planes aloft. It is telling that he was designated by the U.S. Treasury as part of a procurement network. With his military background, Zanganeh also has the authority necessary to cut Iran’s national carrier to size as its commercial prospects darken. The airline has a workforce of over 11,000 and a fleet of just 53 aircraft. Competitor Mahan Air, which has 64 aircraft, has a third of the employees.

Not all companies will change their CEOs, but across Iran’s industrial sectors, many will increasingly outsource their procurement needs to intermediaries and front companies that use both legitimate and illegitimate channels. Such measures can already be seen in the embattled oil sector, reeling from the Trump administration’s recent decision to revoke waivers that allowed Iran to export its crude oil to major customers such as China and India. Speaking on the sidelines of a major oil and gas conference in Tehran, where the presence of foreign exhibitors had fallen from around 600 companies in 2017 to just 60 companies this year, deputy oil minister Hossein Zamaninia told journalists Iran could sustain exports, adding: “We have mobilized all of the country’s resources and are selling oil in the ‘gray market.’”

Analysts expect Iran can sustain exports of around 500,000 thousand barrels per day by leveraging gray-market channels. Zamaninia argued this would not constitute “smuggling,” because Iran doesn’t regard the sanctions “as just or legitimate.” Zamaninia has a point, considering that the U.S. is the only country seeking to enforce a global embargo on Iran’s oil exports.

But definitions aside, it was long expected that Iran would respond to attempts to limit its oil exports by resorting to smuggling, with the Islamic Revolutionary Guard Corps (IRGC) and other quasi-state intermediaries resuming the lucrative roles they had played in the previous sanctions period. Every day, hundreds of motorbikes strapped with jerrycans cross the border between Iran and Pakistan, taking Iran’s cheap gasoline to markets where it can be sold for a hefty profit. Some estimates suggest that 22 million liters of gasoline are smuggled out of Iran daily.

By choking off key exports and limiting access to banking channels, U.S. sanctions seek to limit Iran’s ability to earn and repatriate enough foreign currency to keep its market supplied. But the cash economies of Iraq and Afghanistan, flush with dollars due to the U.S.-led invasions, offer an important lifeline. Reports suggest as much as USD 2-3 million dollars in hard currency are daily being transported from Afghanistan to Iran. A similar trade exists with Iraq.

Central to these methods of “resistance management” is a selectively porous border. Iran needs to allow goods and money to cross into the country away from the scrutiny of the usual trade routes. But at the same time, the state cannot allow uncontrolled export smuggling, instances of which have already exacerbated shortages of basic foods and consumer goods at home. In March, officials from Iran’s agricultural ministry announced that due to a failure to “monitor and control the movement of livestock,” which saw whole herds smuggled to neighboring countries, and which drove the price of meat to historic highs, the responsibility for counter-smuggling activity had been handed over to the IRGC.

Iran needs to keep the economy turning with the bandaid solutions of resistance management, even if it means undoing the hard-fought reforms that had helped make Iran’s economy a little more globalized, more transparent, and less state-controlled over the past few years. As one senior Iranian official told me at a recent meeting: “If we are going to be treated like bandits, we might as well behave like bandits.”

Photo: ISNA

Iran's Currency Crisis is a Supply-Side Story

On Monday, the Iranian rial sank to a historic low. But those Iranians who scrambled to convert their rials into dollars found it difficult to do so—as they have for months. Since April, reports on the accelerating crisis have consistently noted a lack of hard currency available at Iran’s exchange bureaus.

This important detail of the current crisis has gone largely unexamined in foreign reportage. While the determinants for demand for foreign exchange—widespread anxiety about the state of the economy and the return of sanctions—are well understood, the second determinant of market prices—foreign exchange supply—remains subject to mere passing mention. This is a mistake. Iran’s currency crisis is a supply-side story.

In the absence of data, it is hard to show quantitatively that the currency crisis is primarily a supply-side phenomenon, but there are numerous factors that make this likely. Iran has been prevented from repatriating its foreign exchange reserves held in Europe. Its regional neighbors have vowed to cease using the US dollar to conduct bilateral trade. Illicit networks that have long funneled US currency to the black market have been interrupted. Most tellingly, the Trump administration is being urged by its close advisors to “quickly exacerbate the regime’s currency crisis” by interfering with Iran’s foreign exchange supply.

While the government has no doubt failed to inspire confidence in its economic leadership, contributing to the ouster of both the central bank governor and economy minister, it is unlikely that expectations of rising inflation and economic recession alone would create so dramatic a rush to the safe-haven of the dollar.

In an interview with Euronews, economist Saeed Laylaz, offers more detail on how the historic exchange rate principally reflects a shortage phenomenon. “You might imagine that the dollar price of 12,000 or 13,000 toman accounts for 100 percent of the currency market, when in actuality we have various companies completing imports with a dollar at a price less than 8,000 toman in the secondary market,” Laylaz explains. In his assessment, while the 8,000 toman rate accounts for 80 percent of transactions on the secondary market, “the dollar bill is 12,000 toman.” Greenbacks are physically scarce and this accounts for the historic prices making headlines worldwide. 

For companies with access to dollars at 8,000 toman and especially for those enterprises with access to dollars at the government rate of 4,200 toman, the price of the physical dollar bill offers an immense opportunity for arbitrage. The temptation for companies to divert a portion of their foreign exchange into the most lucrative and speculative parts of the free market has proven hard to ignore. One example can be seen in the petrochemical sector, where major companies, including state-owned enterprises, have been slow to make their foreign exchange available for sale on the secondary market through NIMA, the country’s centralized marketplace, despite instructions from the central bank and oil ministry.

Economist Hossein Raghfar described these companies as “accountable to no one” when it became apparent that they may have sought to sell their currency at the free market rate, rather than at the lower official exchange rate, despite the government instruction. Nonetheless, in the assessment of Masoud Nili, the government's chief economic advisor, this kind of arbitrage activity is a symptom of the rising premium and not its root cause. Nili comes close to acknowledging that the government's focus on profiteering in the early months of the crisis was an attempt to deflect from more consequential interruptions in foreign exchange supply. 

It is likely that the primary cause of the currency crisis is a severe shortage in foreign exchange. This places the Rouhani administration in an especially difficult bind. It might seem straightforward that increasing the foreign exchange supply would help stabilize the rial and prevent the speculation enabled by the extreme scarcity of the dollar and euro. Mohammad Reza Farzanegan looks at some of these issues in his study of illegal trade in Iran from 1970 to 2002. He confirms that easing the ability of actors to “acquire more subsidized exchange” will lead to some part of the currency to be “sold in the black market of foreign exchange.” The actions of the petrochemical companies offer a perfect case study. 

This is especially important at a time when the incentives for illegal import activity are increasing. Farzanegan writes that “whenever state intervention drives a wedge between international and domestic prices… there is an incentive for underground activities.” In subsequent research he has shown convincingly that the “wedge between international and domestic prices” can be applied externally—sanctions spur “underground activities.” In this way, making foreign exchange more readily available may stabilize the exchange rate, but it can serve to accelerate rent-seeking and smuggling, the agents of which have historically used their trading networks to take their profits offshore.

The specter of capital flight looms large over the administration. In a recent address, newly appointed central bank governor Ehsan Hemmati announced that the country would not use oil revenues in order to prop-up the currency. In a likely related move, Iran has decided not to seek to transfer EUR 300 million in cash from its funds in Germany to Iran to increase foreign exchange supply. A report in Shargh, a leading newspaper, suggests that the government had decided not to intervene to support the rial in order to prevent capital flight by allowing the dollar to become a scarce and expensive "luxury item." 

A recent report by Iran’s Parliamentary Research Center estimated that capital flight in the year leading up to March 20 amounted to USD 13 billion dollars. By comparison, during the Ahmadinejad administration, that figure was possibly ten times higher, with reports suggesting that between USD 100-200 billion was taken out of the economy as sanctions tightened. Between 2005-2012 Iran generated USD 639 billion in oil revenues, with falling exports offset to a degree by historic oil prices. Yet Ahmadinejad left office with Iran’s foreign exchange reserves at only around USD 50 billion higher than when he entered.

To prevent capital flight on that order, the Rouhani administration can prioritize rate convergence and stabilization over interventions that would significantly lower the price of the dollar. The Central Bank of Iran has sought to "bridge" the two sides of the market that Laylaz describes, announcing that "authorized exchanges can sell foreign currency bought from exporters and other sources registered through the SANA system, in the form of banknotes in the open market." The banknotes would be purchasable upon request from the central bank. In this way, any increase in the supply of banknotes at the upper end of the market will be associated with reduced supply at the lower end, helping push the rate to convergence, even if the rate remains historically high. A high exchange rate may be a necessary evil in order to protect fragile economic growth.

In a study of the Iran’s economy from 1981-2012, Hoda Zobeiri, Narges Roshan and Milad Shahrazi of the University of Mazandaran identify a strong negative relationship between capital flight and economic growth in Iran. By trapping capital at home, even devaluing rials, the Rouhani administration might hope that wealth is committed domestically towards investments and capital formation that can sustain growth. Some evidence that this may be taking place can be seen in the fact that the Tehran Stock Exchange is on a historic bull run.

Laylaz and others have criticized the administration for “adding fuel to the fire of the market” by failing to curb the demand for foreign currency. But by focusing on demand, critics will miss important supply-side phenomena, such as how the currency shortage may slow the capital flight that has historically preceded the reimposition of sanctions. Whether or not this is an intentional outcome of the Rouhani administration’s policy, that the inability or unwillingness to increase foreign exchange supply may be consistent with attempts to limit illicit trade and capital flight is a surprising outcome and one that deserves to be formalized as part of wider efforts to manage and minimize rent-seeking in Iran.

Photo Credit: Depositphotos

Closure of Tehran Bazaar Reflects Fierce Elite Competition, Not Popular Politics

The closure of Tehran’s Grand Bazaar yesterday, and the closure of the consumer electronics bazaar the day before, seemed to be part of the regular and widespread protests that have roiled Iran over the last few months, spurred by economic volatility. Many saw the bazaar’s closure and subsequent protests as a meaningful escalation, a sign that perhaps popular discontent was spreading to key institutions and that coalitions were forming that could challenge the government more directly. After all, the bazaar has historically been seen as the heart of Iranian civil society, an institution where people of all walks of life could cross paths. As a physical institution, it was long a rare incubator for solidarity: “the rooted nature of the market… establish[es] the necessary foundation for communal allegiance, with its confined nature fostering long-term and face-to-face interactions among bazaaris.”

But this conception of the bazaar is an artifact of an earlier time. The bazaar in Iran today can no longer claim to be what historian Roy Mottahedeh eloquently described as “the assessor that sets the valuations politicians must use when they trade.” Over the last few decades, the bazaar has been cleaved from Iran’s civil society, no longer standing at its heart, but rather in isolation, losing its former role as a cite for broad civil society politics, and acting instead in its economic self-interest as the recent protests so transparently expose. Understanding this transformation is fundamental to an assessment of the recent protests. 

The networks of the bazaar that linked the merchants to civil society were deliberately disrupted and broken following the 1979 Islamic revolution. As detailed by Arang Keshavarzian in his seminal Bazaar and State in Iran, the new revolutionary government, concerned about the continued role of the bazaar as a site of contentious politics, sought to constrain the role of the bazaar in civil society via two processes.

First, those bazaar merchants loyal to the revolution and the new Islamic Republic were co-opted into the state, offered positions as the heads of ministries and bonyads. The regime rewarded namely the members of the group of the Islamic Coalition Association (ICA), a small segment of bazaar merchants, who had “financed and organized many political rallies and events… became part of the new ruling elite.” Incorporating these bazaaris into the regime gave them new incentives and power, changing their relations with the bazaar—indeed, they are no longer referred to as bazaaris by other merchants but instead called dawlati, meaning “of the government.” Personal gain motivated the separation from the bazaar. With the economy under state control, officials were in the position to take advantage of power for personal gain, with, “direct access to rents via exclusive importing licenses, tax exemptions, subsidized hard currency, and control over procurement boards and industrial establishments. The bazaaris who have established patronage channels have used them for personal and exclusive ends, and not as a tool for the benefit of the entire bazaar.”

Second, a new kind of profiteering was introduced to the bazaar. During the Iran-Iraq war, the government of the Islamic Republic saw its coffers emptying rapidly. Iran’s economy was increasingly cut-off from global markets for goods and services as a result of economic sanctions.  Some goods were unavailable, others became more expensive. Turning a crisis into an opportunity, elements in the bazaar began to engage in smuggling both in order to gain access to goods that would be sold for high prices in the market, but also to engage in profiteering and to secure rents that could be funneled to quasi-state institutions. Dawlatis in the bazaar enjoyed state-sanctioned access to black market goods that they could sell at market for large profits. They could also benefit from preferential access to foreign currency.

To be clear, these changes did not make the bazaar apolitical. On the contrary, the merchants continued to mobilize in a coordinated fashion, but with a new and more self-serving outlook. Bazaar closures like those seen this week are relatively rare, but did occur numerous times during the the Ahmadinejad years, with notable closures in 2008, 2010, and 2012. It would be easy to assume that these closures were due to the general economic malaise and popular dissatisfaction that marked Ahmadinejad’s tenure, but the fact that the bazaar did not engage in any significant mobilization in 2009, when sustained mass-protests emerged in response to Ahmadinejad's disputed reelection, demonstrates that civil society solidarity was not the motivating factor. The merchants of the contemporary bazaar do not mobilize for the people. They only mobilize for their own interests.

These is a clear line that can be drawn from the bazaar mobilizations of a decade ago to those of today. The Ahmadinejad years saw the rise of a new kind of rentierism in the Iranian economy, where quasi-state entities extended their role in Iranian enterprise. Iran’s Islamic Revolutionary Guard Corps (IRGC) ambitiously expanded their industrial operations, taking advantage of free-flowing contracts and financing made available by the Ahmadinejad government. A new kind of corporatist rentierism was emerging. Rather than rely on smuggling and arbitrage, quasi-state groups leveraged political connections to provide more valuable products and services to the economy than mere market commerce, sensing an opportunity as the Iranian private sector was squeezed by international sanctions and international companies reduced their presence in the market.

The nascent rivalry between the bazaari class and the IRGC would have been unthinkable in at the outset of the bazaar’s post-revolution transformation, but as IRGC generals saw opportunities develop in the boardroom, new fault lines have emerged, particularly in light of Rouhani’s pursuit of economic reform.

President Rouhani was elected in 2013 on a mandate to liberalize the economy through two interrelated processes: improve monetary policy and overall transparency in the economy and boost foreign trade and investment. He has been a vocal critic of the IRGC and its role in the economy. But it should be noted that corporatist rentierism is not entirely incompatible with liberalization. Rouhani has always positioned himself as giving the IRGC leaders a choice—they can either engage in business or serve proudly in the military, but they cannot do both. Faced with this choice in a liberalizing environment, an entity with links to the IRGC that is a beneficial owner of a company can either profit by offloading its shares in that company to a non-IRGC linked firm (phenomenon which has been observed in several cases) or it can clean itself of its IRGC links in order to position itself to benefit from expected foreign trade and investment. The availability of these options also help explain why liberalization has received a relatively robust endorsement from the supreme leader, Ayatollah Ali Khamenei, including a recent statement that parliament must “must independently make legislation on issues such as terrorism or combating money laundering.” Khamenei’s concern is mostly about the pace of liberalization and the provisioning of its fruits, not its intended structural effects.

Importantly these structural effects threaten the bazaar as it operates today. The fundamental source of rents in the bazaar is arbitrage. Access to goods is secured at a low price, either through smuggling or manipulation of the foreign exchange markets, and then goods are sold at a high price. The disproportionate economic muscle of the bazaar network, stems from rents generated by high-value items such as gold and jewelry and electronics.

As the consumer electronics bazaar shut in protest over the currency fluctuations, Mohammad-Javad Azari Jahromi, the Iran’s Minister of Information and Communication Technology, sought to expose the predatory arbitrage. He disclosed that while consumer electronics sellers in the bazaar were sold a total of EUR 220 million of foreign currency at the official exchange rate in order to purchase stock, only approximately EUR 75 million of mobile phones were imported. So two-thirds of the foreign currency provided cannot be accounted for.

The implication is that approximately EUR 145 million in foreign currency was siphoned-off to be sold at the black market rate, likely allowing the traders to nearly double their investment in the foreign exchange. As demonstrated by Jahromi’s resolve to expose such fraud, these types of activities would become impossible if the Rouhani administration can successfully implement the liberalization measures currently being pursued. Whether it is improving tax collection mechanisms, bettering customs controls, raising accounting standards, introducing stronger financial crime laws, or instituting tighter controls on foreign exchange, including a unified rate, such reforms would spell the end of the bazaar’s cash generation, now seen as a drag on the economy at large. 

Meanwhile, IRGC-linked development companies are among those building a plethora of malls across Iran, slowly eroding the bazaar’s long-standing role as the a pillar of Iran’s consumer-driven economy. Ironically, in undermining the bazaar in this way, the Islamic Republic is achieving something the Shah had always sought to accomplish. In 1979, the bazaar mobilized against the Shah largely due to his declared dislike for their “worm-ridden shops” and his attempt to curtail their economic influence. In his own words, the Shah “could not stop building supermarkets. [He] wanted a modern country.” But he never got the chance to render the bazaar obsolete.

Four decades later, economic liberalization and modernization is finally chipping away at the bazaar’s customer base as consumers habits see hours spent in malls and supermarkets rather than in the labyrinthine bazaar. The benefactors of this shift in consumer habits are both Rouhani and his private sector supporters and the opportunistic elements of the IRGC. The losers are the elite traders of the bazaar.

To be clear, not all merchants are part of the predatory elite. There remain plenty of humble grocers and shoe-sellers and spice merchants who can count themselves among those under relentless economic pressure. For these merchants, participating in a closure is not always a matter of choice. Journalist Reihaneh Yasini, in her reporting from the bazaar on Monday, spoke to merchants who described being ordered to shut their shops unwillingly. One young bazaari said, “It was about 11 o’clock when some people came by and said everyone must close their shops. We got scared and also closed.” Another added, “They were angry. They said they would use bricks to smash the windows. They appeared to me to be people complaining about rising costs. It was right for us to close the shop after this happened, though in reality closing the shop has little cost for us. Our sales are so low that closing the bazaar for one day will make little difference to us.”

It is unlikely that the closures were spontaneous. This has not been the historical norm for mobilizations at the bazaar and accounting for historical trajectories and the intense competition of Iran’s present-day economy, the bazaar’s mobilization is best understood as a manifestation of elite competition. Bazaar elites sought to co-opt the voices and slogans of a frustrated and economically insecure population in order to undermine their political opponents and put the brakes on threatening reform processes.

In this sense, the bazaar closures may follow the same playbook as some of the initial mobilizations in Mashhad at the end of last year. These tactics must be called out. There is a very real risk that genuine civil society frustrations are becoming instrumentalized by elites in an effort to preserve the kind of predatory economic activity that has led to so much economic suffering among the Iranian people. Outside observers must remember than the success of civil society protests in Iran depends principally on the independent collective action and claims-making of those mobilizations, not merely on the spectacle of the protests themselves.

Photo Credit: Thomas Cristofoletti