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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

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Economy

Transitioning from least developed country status: Are countries better off?

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The Least Developed Countries (LDCs) are an internationally defined group of highly vulnerable and structurally constrained economies with extreme levels of poverty. Since the category was created in 1971, on the basis of selected vulnerability indicators, only five countries have graduated and the number of LDCs has doubled.  One would intuitively have thought that graduation from LDC status would be something that all LDCs would want to achieve since it seems to suggest that transitioning countries are likely to benefit from increased economic growth, improved human development and reduced susceptibility to natural disasters and trade shocks.

However, when countries graduate they lose international support measures (ISMs) provided by the international community. There is no established institutional mechanism for the phasing out of LDC country-specific benefits. As a result, entities such as the World Bank and the International Monetary Fund may not always be able to support a country’s smooth transition process.

Currently, 14 out of 53 members of the Commonwealth are classified as LDCs and the number is likely to reduce as Bangladesh, Solomon Islands and Vanuatu transition from LDC status by 2021. The three criteria used to assess LDC transition are: Economic Vulnerability Index (EVI), Human Assets Index (HAI) and Gross National Income per capita (GNI).  Many of the forthcoming LDC graduates will transition based only on their GNI.  This GNI level is normally set at US $ 1,230 but if the GNI reaches twice this level at US $ 2,460 a country can graduate.

So what’s the issue?  A recent Commonwealth – Trade Hot Topic publication confirms that most countries graduate only on the basis of their GNI, some of which have not attained significant improvements in human development (HAI) and even more of which fall below the graduation threshold for economic development due to persistent vulnerabilities (EVI).  This latter aspect raises the question as to whether transitioning countries will, actually, be better off after they graduate.

Given the loss of ISMs and the persistent economic vulnerabilities of many LDCs, it is no surprise that some countries are actually seeking to delay graduation, Kiribati and Tuvalu being two such Commonwealth countries despite easily surpassing twice the GNI threshold for graduation.

How is it possible that a country can achieve economic growth but not have appreciable improvements in resilience to economic vulnerability?  Based on a statistical analysis discussed in the Trade Hot Topic paper, a regression model, based on all forty-seven LDCs, was produced.  The model revealed that there was no statistically significant relationship between economic vulnerability and gross national income per capita.  The analysis was repeated just for Commonwealth countries and similar results were obtained.

Most importantly, analysis revealed that there was a positive relationship between GNI and EVI. In other words, increases in wealth (using GNI as a proxy) is likely to result in an increase in economic vulnerability.  This latter result is counterintuitive since one would expect more wealth to result in less economic vulnerability.

So what’s the take away?

The statistical results do not necessarily imply that improving the factors affecting economic vulnerability cannot result in improvements to economic prosperity.  It does suggest, however, that either insufficient efforts have gone into effecting such improvements or that there are natural limits to the extent to which such improvements can be effected.

One thing is clear, the multilateral lending agencies should revisit the removal of measures supporting climate change or other vulnerabilities for LDCs on graduation, since the empirical evidence suggests that countries could fall back into LDC status or stagnate and be unable to achieve sustainable development. Whilst transitioning from LDC status should be desirable, it should not be an end in itself. Rather than to transition and remain extremely vulnerable, countries should be resistant to such change or continue to receive more targeted support until vulnerabilities are reduced to more acceptable levels.

What are your thoughts?

Commonwealth

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U.S. policy and the Turkish Economic Crisis: Lessons for Pakistan

M Waqas Jan

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Over the last week, the Turkish Lira has been dominating headlines the world over as the currency continues to plunge against the US dollar. Currently at the dead center of a series of verbal ripostes between Presidents Donald Trump and Recep Tayyip Erdogan, the rapidly depreciating Lira has taken center stage amidst deteriorating US-Turkey relations that are wreaking havoc across international financial markets. Considering Pakistan’s current economic predicament, the events unfolding in Turkey offer important lessons to the dangers of unsustainable and unrealistic economic policies, within a dramatically changing international scenario. This holds particular importance for Pak-US relations within the context of the impending IMF bailout.

In his most recent statements, Mr. Erdogan has attributed his economy’s dire state of affairs as an ‘Economic War’ being waged against it by the United States. President Trump too has made it evident that the latest rounds of US sanctions that have been placed on Turkey are directly linked to its dissatisfaction with Ankara for detaining American Pastor Andrew Brunson. Mr Bruson along with dozens of others has been charged with terrorism and espionage for his purported links to the 2016 attempted coup against President Erdogan and his government.  There is thus a modicum of truth to Mr. Erdogan’s claims that the US sanctions are in fact, being used as leverage against the weakening Lira and the Turkish economy as part of a broader US policy.

However, to say that the latest US sanctions alone are the sole cause of Turkey’s economic woes is a gross understatement. The Lira has for some time remained the worst performing currency in the world; losing half of its value in a year, and dropping by another 20% in just the last week. Just to put the scale of this loss in to perspective, the embattled currency was trading at about 2 Liras to the dollar in mid-2014. The day before yesterday, it was trading at about 7 Liras to the dollar.

While the Pakistani Rupee has also depreciated quite considerably over the last few months, its recent drop (-17% against the dollar over the past 12 months) pales in comparison to the sustained and exponential downfall of the Lira. Yet, both the Turkish and Pakistani economies are at a point where they are experiencing an alarming dearth of foreign exchange reserves that have in turn dramatically increased their international debt obligations.

The ongoing financial crises in both Turkey and Pakistan are similar to the extent that both countries have pursued unsustainable economic policies for the last few years. These have been centered on increased borrowing on the back of overvalued currencies. While this approach had allowed both governments to finance a series of government investments in various projects, the long term implications of this accumulating debt has now caught up with them dramatically. As a result, both countries may soon desperately require IMF assistance; assistance, that in recent times, has become even more overtly conditional on meeting certain US foreign policy requirements.

In the case of Pakistan, these objectives may coincide with recent US pressures to ‘do more’ regarding the Haqqani network; or a deeper examination of the scale and viability of the China- Pakistan Economic Corridor. With regards to the latter, US Secretary of State Mike Pompeo has clearly stated that American Dollars, in the form of IMF funds, to Pakistan should not be used to bailout Chinese investors. The rationale being that a cash-strapped Pakistan is more likely to adversely affect Chinese interests as opposed to US interests in the region at the present. The politics behind the ongoing US-China trade war add even further relevance to this argument.

In the case of Turkey however, which is a major NATO ally, an important emerging market, and a deeply integrated part of the European financial system, there is a lot more at stake in terms of US interests. Turkey’s main lenders comprise largely of Spanish, French and Italian banks whose exposure to the Lira has caused a drastic knock on effect on the Euro. The ensuing uncertainty and volatility that has arisen is likely to prove detrimental to the US’s allies in the EU as well as in key emerging markets across South America, Africa and Asia. This marks the latest example of the US’s departure from maintaining and ensuring the health of the global financial system, as a leading economic power.

Yet, what’s even more unsettling is the fact that while the US is wholly cognizant of these wide-ranging impacts, it remains unfazed in pursuing its unilateral objectives. This is perhaps most evident in the diminishing sanctity of the NATO alliance as a direct outcome of these actions.  After the US, Turkey is the second biggest contributor of troops within the NATO framework. As relations between both members continue to deteriorate, Turkey has been more inclined to gravitate towards expanding Russian influence. In effect, contributing to the very anti-thesis of the NATO alliance. The recent dialogues between Presidents Erdogan and Putin, in the wake of US sanctions point markedly towards this dramatic shift.

Based on the above, it has become increasingly evident that US actions have come to stand in direct contrast to the Post-Cold War status quo, which it had itself help set up and maintain over the last three decades. It is rather, the US’s unilateral interests that have now taken increasing precedence over its commitments and leadership of major multilateral frameworks such as the NATO, and the Bretton Woods institutions. This approach while allowing greater flexibility to the US has however come at the cost of ceding space to a fast rising China and an increasingly assertive Russia. The acceleration of both Pak-China and Russo-Turkish cooperation present poignant examples of these developments.

However, while it remains unclear as to how much international influence US policy-makers are willing to cede to the likes of China and Russia over the long-term, their actions have made it clear that US policy and the pursuit of its unilateral objectives would no longer be made hostage to the Geo-Politics of key regions. These include key states at the cross-roads of the world’s potential flash-points such as Turkey and Pakistan.

Therefore, both Turkey and Pakistan would be well advised to factor in these reasons behind the US’s disinterest in their economic and financial predicaments. Especially since both Russia and China are still quite a way from being able to completely supplant the US’s financial and military influence across the world; perhaps a greater modicum of self-sufficiency and sustainability is in order to weather through these shifting dynamics.

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Social Mobility and Stronger Private Sector Role are Keys to Growth in the Arab World

MD Staff

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In spite of unprecedented improvements in technological readiness, the Arab World continues to struggle to innovate and create broad-based opportunities for its youth. Government-led investment alone will not suffice to channel the energies of society toward more private sector initiative, better education and ultimately more productive jobs and increased social mobility. The Arab World Competitiveness Report 2018 published by the World Economic Forum and the World Bank Group outlines recommendations for the Arab countries to prepare for a new economic context.

The gap between the competitiveness of the Gulf Cooperation Council (GCC) and of the other economies of the region, especially the ones affected by conflict and violence, has further increased over the last decade. However, similarities exist as the drop in oil prices of the past few years has forced even the most affluent countries in the region to question their existing social and economic models. Across the entire region, education is currently not rewarded with better opportunities to the point where the more educated the Arab youth is, the more likely they are to remain unemployed. Financial resources, while available through banks, are rarely distributed out of a small circle of large and established companies; and a complex legal system limits access to resources locked in place and distorts private initiative.

At the same time, a number of countries in the region are trying out new solutions to previously existing barriers to competitiveness.

  • In ten years, Morocco has nearly halved its average import tariff from 18.9 to 10.5 percent, facilitated trade and investment and benefited from sustained growth.
  • The United Arab Emirates has increased equity investment in technology firms from 100 million to 1.7 billion USD in just two years.
  • Bahrain is piloting a new flexi-permit for foreign workers to go beyond the usual sponsorship system that has segmented and created inefficiencies in the labour market of most GCC countries.
  • Saudi Arabia has committed to significant changes to its economy and society as part of its Vision 2030 reform plan, and Algeria has tripled internet access among its population in just five years.

“We hope that the 2018 Arab World Competitiveness Report will stimulate discussions resulting in government reforms that could unlock the entrepreneurial potential of the region and its youth,” said Philippe Le Houérou, IFC’s CEO. “We must accelerate progress toward an innovation-driven economic model that creates productive jobs and widespread opportunities.”

“The world is adapting to unprecedented technological changes, shifts in income distribution and the need for more sustainable pathways to economic growth, “added Mirek Dusek, Deputy Head of Geopolitical and Regional Affairs at the World Economic Forum. “Diversification and entrepreneurship are important in generating opportunities for the Arab youth and preparing their countries for the Fourth Industrial Revolution.”

With a few exceptions, such as Jordan, Tunisia and Lebanon, most Arab countries have much less diversified economies than countries in other regions with a similar level of income. For all of them, the way toward less oil-dependent economies is through robust macroeconomic policies that facilitate investment and trade, promotion of exports, improvements in education and initiatives to increase innovation and technological adoption among firms.

Entrepreneurship and broad-based private sector initiative must be a key ingredient to any diversification recipe.

The Arab Competitiveness Report 2018 also features country profiles, available here: Algeria, Bahrain, Egypt, Jordan, Kuwait, Lebanon, Morocco, Oman, Qatar, Saudi Arabia, Tunisia, United Arab Emirates.

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