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Dollar in doldrums

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Iranians have been dealing with an ever-increasing devaluation of the rial since the beginning of the present Iranian calendar (March 21, 2017) but the major and unexpected depreciation occurred almost a month ago, in mid-February, when is supposed to be the biggest crackdown on foreign exchanges in six years.

At the time, U.S. dollar broke all records and jumped to almost 50,000 rials in Tehran’s currency exchange shops, while it used to be bought almost 37,500 rials earlier in past April, 38,000 rials in past September, 41,000 rials in past December and 43,000 rials in early January, 2018.

What has contributed to recent events? 
Some critics discuss that since taking office in August 2013, Rouhani administration has tried to artificially keep the foreign exchange market at a level of stability in a bid to cover the inflationary impacts of rial devaluation, adding that the currency disturbances are due to a lack of clear monetary policy and mismanagement. The recent rial depreciation, as they further discuss, can be the result of government’s decision to benefit from the difference between the official and free market rates as a temporary solution to compensate for the wide budget deficit.

Some, in addition, blame Central Bank of Iran (CBI) for the volatility, since the state-run body has a full control over the free currency market and interferes with balance supply and demand as well as the prices by pumping dollar whenever it decides. The issue, in their view, is also justifiable via CBI’s short of funds to inject the needed hard currency to the market.

Besides, the recent decrease in banking interest rates made by CBI and the dominant stagnation in housing sector can also account for the forex market predicament. The two factors have increased Iranians’ demand for purchasing Bahar Azadi gold coins and hard currency as new investment options, for they believe via changing their cash money into dollar or gold, they can prevent devaluation of their assets.

Moreover, the impact of Iran’s current political tensions should not be neglected, they say. Trump is tightening its grip on Iran again, threatening it to re-impose sanctions lifted in 2015 and withdrawing from JCPOA (the Joint Comprehensive Plan of Action). There has been some news of a coordinated move by the U.S. and its Persian Gulf allies to up pressure on Iran by restricting its access to hard currencies. Iranians often obtain dollars via the United Arab Emirates, but implementation of new value added tax law in this country since the beginning of 2018 has practically locked the gateway of trade transactions between Iranian businessmen and their Emirati counterparts, which used to let the flow of dollar into Iranian market.

Major measures taken

To tackle one of the unprecedented slides in the value of the rial, which, if not curbed, would have a negative effect on attracting foreign investment and would end in inflationary consequences, the government took some major steps.

On February 14, Iranian police force and CBI initiated a joint operation to control the foreign exchange market when they detained almost 100 currency middlemen and frozen bank accounts reportedly worth 200 trillion rials ($5.3bn). The act could immediately pull down the dollar rate by 1,000 rials.

In late February, CBI issued permission for banks to issue rial bonds with an annual 20 percent interest rate and preselling of Bahar Azadi coin in the hope for absorbing some of the market liquidity. Furthermore, the central bank introduced hard currency bonds with a four percent to 4.5 percent return. In its other attempt to bolster rial, on February 28, CBI, who has always sought to switch to non-dollar based trade, clamped down on dollar trading and introduced new restrictions on it by blocking imports priced in the currency. Purchase orders by merchants which are based on U.S. currency are no longer allowed to go through import procedures in Iran’s customs offices since then. The decision, according to Iranian officials, is not expected to create major trouble for traders because the share of the greenback in Iran’s trade activities, as they say, is not high. The state-run body, moreover, has prepared a set of 19-sections policies as a blueprint to regulate the unsettlements of domestic monetary and foreign exchange markets, which is to be applied in near future.

Followingly, when currency prices cooled down a bit, CBI, which has always been seeking unification of the present dual forex regime in the market, issued permit for a limited number of currency exchange shops to sell foreign currency at official rate, less that the free market rate about 7,000 rials to 10,000 rials. The introduced exchange bureaus are allowed to sell up to $5,000 to customers who present their ID cards or passports and travel tickets.

Addressing the 57th annual general assembly of the Central Bank of Iran (CBI) on March 4, the central bank’s Governor Valiolah Seif announced that implementation of the described policies since mid-February has successfully curbed the fluctuations of Iran’s foreign exchange market and has restored confidence back.

Blaming the forex market fluctuations on currency traders, speculations in the market and the U.S. which was trying to destabilize Iran’s economy, Seif vowed that CBI will be able to manage the market not only by the current yearend but also by the end of the next Iranian calendar year (ending March 20, 2019).

However, some do not agree with him.

Controversy aroused

Referring back to the applied expanding policies and reduction of banking interest rates in September 2017, CBI critics explain that via doing proper analysis of domestic monetary system and foreign exchange market, the government could have managed to control foreign currency rate, but mismanagement has left the harvest ruined.

As they underline, the inappropriate policies of CBI, mainly injecting dollar to the market at official rates, has pulled out dollar from the economic wheel of Iran to Iranians’ piggy banks and in the pockets of the dealers. They explain that the issued rial bonds or the preselling of Bahar Azadi Coin are temporary remedies, effect of which will be removed in the short-run. Consequently, the future of forex market will not be brighter than its present.

Addressing the prohibition of dollar-based purchase order, which seems to be a win for the Euro, some express worry that the extra layer of currency swapping involved may add to the cost of imports into Iran and push the prices higher in the country.

Offering dollar and other currencies at official rates in some specific currency exchange shops is another tranquilizer which has caused major problems. Long queues are formed at the door of official foreign exchange bureaus and people are asked to stay in them since the sunrise. Some quarrels happen in the queues, which make the police interfere. A lot of non-official currency exchange shops are semi-closed; they do not sell dollar at all but buy if there is any.  An amalgamation of customers has been created; some are fake ones i.e. the middlemen who sell the purchased dollar at the official rate in the free market for making benefit, some customers are those who do not need foreign currency but just prefer to save them at home, and some are the Iranian travelers to foreign countries who face difficulties with finding hard currency. Foreign currency prices still experience fluctuations and even an increasing trend. Dealers and middlemen are still active although worried about the interference of the policemen. More importantly, the foreign currency price increase has already had its impact on inflation and the situation will predictably get aggravated.

Speaking on a televised program on Tuesday night, Seif admitted that dollar price should be matched with the reality of Iran’s economy. He criticized the opinion which accuses the government of controlling liquidity in an effort to reduce inflation, saying that despite the increase in liquidity, inflation is controlled and even decreased.

The central bank governor also discussed that the CBI act to reduce interest rates was an effort to convert short-term accounts into the long-term ones and to control inflation.

He underlined that the government’s monetary policies are not longstanding but flexible ones which can be changed in different conditions.

In fact, what is happening at the market does not entirely match with what is expected by the government to occur. Foreign currency rates are experiencing unsteadiness and the future seems murky but officials believe they have a good handle on the market.

Some economists suggest the CBI permit the rial to be devalued so that the economy can find a new balance, although the decision will be at the worth of another round of rampant inflation.

First published in our partner Tehran Times

Economy

Reforms Key to Romania’s Resilient Recovery

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Over the past decade, Romania has achieved a remarkable track record of high economic growth, sustained poverty reduction, and rising household incomes. An EU member since 2007, the country’s economic growth was one of the highest in the EU during the period 2010-2020.

Like the rest of the world, however, Romania has been profoundly impacted by the COVID-19 pandemic. In 2020, the economy contracted by 3.9 percent and the unemployment rate reached 5.5 percent in July before dropping slightly to 5.3 percent in December. Trade and services decreased by 4.7 percent, while sectors such as tourism and hospitality were severely affected. Hard won gains in poverty reduction were temporarily reversed and social and economic inequality increased.

The Romanian government acted swiftly in response to the crisis, providing a fiscal stimulus of 4.4 percent of GDP in 2020 to help keep the economy moving. Economic activity was also supported by a resilient private sector. Today, Romania’s economy is showing good signs of recovery and is projected to grow at around 7 percent in 2021, making it one of the few EU economies expected to reach pre-pandemic growth levels this year. This is very promising.

Yet the road ahead remains highly uncertain, and Romania faces several important challenges.

The pandemic has exposed the vulnerability of Romania’s institutions to adverse shocks, exacerbated existing fiscal pressures, and widened gaps in healthcare, education, employment, and social protection.

Poverty increased significantly among the population in 2020, especially among vulnerable communities such as the Roma, and remains elevated in 2021 due to the triple-hit of the ongoing pandemic, poor agricultural yields, and declining remittance incomes.

Frontline workers, low-skilled and temporary workers, the self-employed, women, youth, and small businesses have all been disproportionately impacted by the crisis, including through lost salaries, jobs, and opportunities.

The pandemic has also highlighted deep-rooted inequalities. Jobs in the informal sector and critical income via remittances from abroad have been severely limited for communities that depend on them most, especially the Roma, the country’s most vulnerable group.

How can Romania address these challenges and ensure a green, resilient, and inclusive recovery for all?

Reforms in several key areas can pave the way forward.

First, tax policy and administration require further progress. If Romania is to spend more on pensions, education, or health, it must boost revenue collection. Currently, Romania collects less than 27 percent of GDP in budget revenue, which is the second lowest share in the EU. Measures to increase revenues and efficiency could include improving tax revenue collection, including through digitalization of tax administration and removal of tax exemptions, for example.

Second, public expenditure priorities require adjustment. With the third lowest public spending per GDP among EU countries, Romania already has limited space to cut expenditures, but could focus on making them more efficient, while addressing pressures stemming from its large public sector wage bill. Public employment and wages, for instance, would benefit from a review of wage structures and linking pay with performance.

Third, ensuring sustainability of the country’s pension fund is a high priority. The deficit of the pension fund is currently around 2 percent of GDP, which is subsidized from the state budget. The fund would therefore benefit from closer examination of the pension indexation formula, the number of years of contribution, and the role of special pensions.

Fourth is reform and restructuring of State-Owned Enterprises, which play a significant role in Romania’s economy. SOEs account for about 4.5 percent of employment and are dominant in vital sectors such as transport and energy. Immediate steps could include improving corporate governance of SOEs and careful analysis of the selection and reward of SOE executives and non-executive bodies, which must be done objectively to ensure that management acts in the best interest of companies.

Finally, enhancing social protection must be central to the government’s efforts to boost effectiveness of the public sector and deliver better services for citizens. Better targeted social assistance will be more effective in reaching and supporting vulnerable households and individuals. Strategic investments in infrastructure, people’s skills development, and public services can also help close the large gaps that exist across regions.

None of this will be possible without sustained commitment and dedicated resources. Fortunately, Romania will be able to access significant EU funds through its National Recovery and Resilience Plan, which will enable greater investment in large and important sectors such as transportation, infrastructure to support greater deployment of renewable energy, education, and healthcare.

Achieving a resilient post-pandemic recovery will also mean advancing in critical areas like green transition and digital transformation – major new opportunities to generate substantial returns on investment for Romania’s economy.

I recently returned from my first official trip to Romania where I met with country and government leaders, civil society representatives, academia, and members of the local community. We discussed a wide range of topics including reforms, fiscal consolidation, social inclusion, renewably energy, and disaster risk management. I was highly impressed by their determination to see Romania emerge even stronger from the pandemic. I believe it is possible. To this end, I reiterated the World Bank’s continued support to all Romanians for a safe, bright, and prosperous future.

First appeared in Romanian language in Digi24.ro, via World Bank

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US Economic Turmoil: The Paradox of Recovery and Inflation

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The US economy has been a rollercoaster since the pandemic cinched the world last year. As lockdowns turned into routine and the buzz of a bustling life came to a sudden halt, a problem manifested itself to the US regime. The problem of sustaining economic activity while simultaneously fighting the virus. It was the intent of ‘The American Rescue Plan’ to provide aid to the US citizens, expand healthcare, and help buoy the population as the recession was all but imminent. Now as the global economy starts to rebound in apparent post-pandemic reality, the US regime faces a dilemma. Either tighten the screws on the overheating economy and risk putting an early break on recovery or let the economy expand and face a prospect of unrelenting inflation for years to follow.

The Consumer Price Index, the core measure of inflation, has been off the radar over the past few months. The CPI remained largely over the 4% mark in the second quarter, clocking a colossal figure of 5.4% last month. While the inflation is deemed transitionary, heated by supply bottlenecks coinciding with swelling demand, the pandemic-related causes only explain a partial reality of the blooming clout of prices. Bloomberg data shows that transitory factors pushing the prices haywire account for hotel fares, airline costs, and rentals. Industries facing an offshoot surge in prices include the automobile industry and the Real estate market. However, the main factors driving the prices are shortages of core raw materials like computer chips and timber (essential to the efficient supply functions of the respective industries). Despite accounting for the temporal effect of certain factors, however, the inflation seems hardly controlled; perverse to the position opined by Fed Chair Jerome Powell.

The Fed already insinuated earlier that the economy recovered sooner than originally expected, making it worthwhile to ponder over pulling the plug on the doveish leverage that allowed the economy to persevere through the pandemic. The main cause was the rampant inflation – way off the 2% targetted inflation level. However, the alluded remarks were deftly handled to avoid a panic in an already fragile road to recovery. The economic figures shed some light on the true nature of the US economy which baffled the Fed. The consumer expectations, as per Bloomberg’s data, show that prices are to inflate further by 4.8% over the course of the following 12 months. Moreover, the data shows that the investor sentiment gauged from the bond market rally is also up to 2.5% expected inflation over the corresponding period. Furthermore, a survey from the National Federation of Independent Business (NFIB) suggested that net 47 companies have raised their average prices since May by seven percentage points; the largest surge in four decades. It is all too much to overwhelm any reader that the data shows the economy is reeling with inflation – and the Fed is not clear whether it is transitionary or would outlast the pandemic itself.

Economists, however, have shown faith in the tools and nerves of the Federal Reserve. Even the IMF commended the Fed’s response and tactical strategies implemented to trestle the battered economy. However, much averse to the celebration of a win over the pandemic, the fight is still not through the trough. As the Delta variant continues to amass cases in the United States, the championed vaccinations are being questioned. While it is explicable that the surge is almost distinctly in the unvaccinated or low-vaccinated states, the threat is all that is enough to drive fear and speculation throughout the country. The effects are showing as, despite a lucrative economic rebound, over 9 million positions lay vacant for employment. The prices are billowing yet the growth is stagnating as supply is still lukewarm and people are still wary of returning to work. The job market casts a recession-like scenario while the demand is strong which in turn is driving the wages into the competitive territory. This wage-price spiral would fuel inflation, presumably for years as embedded expectations of employees would be hard to nudge lower. Remember prices and wages are always sticky downwards!

Now the paradox stands. As Congress is allegedly embarking on signing a $4 trillion economic plan, presented by president Joe Bidden, the matters are to turn all the more complex and difficult to follow. While the infrastructure bill would not be a hard press on short-term inflation, the iteration of tax credits and social spending programs would most likely fuel the inflation further. It is true that if the virus resurges, there won’t be any other option to keep the economy afloat. However, a bustling inflationary environment would eventually push the Fed to put the brakes on by either raising the interest rates or by gradually ceasing its Asset Purchase Program. Both the tools, however, would risk a premature contraction which could pull the United States into an economic spiral quite similar to that of the deflating Japanese economy. It is, therefore, a tough stance to take whether a whiff of stagflation today is merely provisional or are these some insidious early signs to be heeded in a deliberate fashion and rectified immediately.

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Carbon Market Could Drive Climate Action

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Authors: Martin Raiser, Sebastian Eckardt, Giovanni Ruta*

Trading commenced on China’s national emissions trading system (ETS) on Friday. With a trading volume of about 4 billion tons of carbon dioxide or roughly 12 percent of the total global CO2 emissions, the ETS is now the world’s largest carbon market.

While the traded emission volume is large, the first trading day opened, as expected, with a relatively modest price of 48 yuan ($7.4) per ton of CO2. Though this is higher than the global average, which is about $2 per ton, it is much lower than carbon prices in the European Union market where the cost per ton of CO2 recently exceeded $50.

Large volume but low price

The ETS has the potential to play an important role in achieving, and accelerating China’s long-term climate goals — of peaking emissions before 2030 and achieving carbon neutrality before 2060. Under the plan, about 2,200 of China’s largest coal and gas-fired power plants have been allocated free emission rights based on their historical emissions, power output and carbon intensity.

Facilities that cut emissions quickly will be able to sell excess allowances for a profit, while those that exceed their initial allowance will have to pay to purchase additional emission rights or pay a fine. Putting a price tag on CO2 emissions will promote investment in low-carbon technologies and equipment, while carbon trading will ensure emissions are first cut where it is least costly, minimizing abatement costs. This sounds plain and simple, but it will take time for the market to develop and meaningfully contribute to emission reductions.
The initial phase of market development is focused on building credible emissions disclosure and verification systems — the basic infrastructure of any functioning carbon market — encouraging facilities to accurately monitor and report their emissions rather than constraining them. Consequently, allocations given to power companies have been relatively generous, and are tied to power output rather than being set at absolute levels.

Also, the requirements of each individual facility to obtain additional emission rights are capped at 20 percent above the initial allowance and fines for non-compliance are relatively low. This means carbon prices initially are likely to remain relatively low, mitigating the immediate financial impact on power producers and giving them time to adjust.

For carbon trading to develop into a significant policy tool, total emissions and individual allowances will need to tighten over time. Estimates by Tsinghua University suggest that carbon prices will need to be raised to $300-$350 per ton by 2060 to achieve carbon neutrality. And our research at the World Bank suggest a broadly applied carbon price of $50 could help reduce China’s CO2 emissions by almost 25 percent compared with business as usual over the coming decade, while also significantly contributing to reduced air pollution.

Communicating a predictable path for annual emission cap reductions will allow power producers to factor future carbon price increases into their investment decisions today. In addition, experience from the longest-established EU market shows that there are benefits to smoothing out cyclical fluctuations in demand.

For example, carbon emissions naturally decline during periods of lower economic activity. In order to prevent this from affecting carbon prices, the EU introduced a stability reserve mechanism in 2019 to reduce the surplus of allowances and stabilize prices in the market.

Besides, to facilitate the energy transition away from coal, allowances would eventually need to be set at an absolute, mass-based level, which is applied uniformly to all types of power plants — as is done in the EU and other carbon markets.

The current carbon-intensity based allocation mechanism encourages improving efficiency in existing coal power plants and is intended to safeguard reliable energy supply, but it creates few incentives for power producers to divest away from coal.

The effectiveness of the ETS in creating appropriate price incentives would be further enhanced if combined with deeper structural reforms in power markets to allow competitive renewable energy to gain market share.

As the market develops, carbon pricing should become an economy-wide instrument. The power sector accounts for about 30 percent of carbon emissions, but to meet China’s climate goals, mitigation actions are needed in all sectors of the economy. Indeed, the authorities plan to expand the ETS to petro-chemicals, steel and other heavy industries over time.

In other carbon intensive sectors, such as transport, agriculture and construction, emissions trading will be technically challenging because monitoring and verification of emissions is difficult. Faced with similar challenges, several EU member states have introduced complementary carbon taxes applied to sectors not covered by an ETS. Such carbon excise taxes are a relatively simple and efficient instrument, charged in proportion to the carbon content of fuel and a set carbon price.

Finally, while free allowances are still given to some sectors in the EU and other more mature national carbon markets, the majority of initial annual emission rights are auctioned off. This not only ensures consistent market-based price signals, but generates public revenue that can be recycled back into the economy to subsidize abatement costs, offset negative social impacts or rebalance the tax mix by cutting taxes on labor, general consumption or profits.

So far, China’s carbon reduction efforts have relied largely on regulations and administrative targets. Friday’s launch of the national ETS has laid the foundation for a more market-based policy approach. If deployed effectively, China’s carbon market will create powerful incentives to stimulate investment and innovation, accelerate the retirement of less-efficient coal-fired plants, drive down the cost of emission reduction, while generating resources to finance the transition to a low-carbon economy.

(Martin Raiser is the World Bank country director for China, Sebastian Eckardt is the World Bank’s lead economist for China, and Giovanni Ruta is a lead environmental economist of the World Bank.)

(first published on China Daily via World Bank)

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