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IRAN


 

 
Key Economic Data 
 
  2002 2001 2000 Ranking(2002)
GDP
Millions of US $ 107,522 114,100 101,600 34
         
GNI per capita
 US $ 1,710 1,680 1,650 115
Ranking is given out of 208 nations - (data from the World Bank)

REPUBLICAN REFERENCE

Area (sq.km)
1.648 million

Population
66,128,965

Capital
Teheran

Currency
Iranian rials

President
Mohammad Khatami-Ardakani

 

Background:
Known as Persia until 1935, Iran became an Islamic republic in 1979 after the ruling shah was forced into exile. Conservative clerical forces subsequently crushed the westernising liberal element. During 1980-88, Iran fought a bloody, indecisive war with Iraq over disputed territory, which caused large-scale damage to its economy. The key current issue is how rapidly the country should open up to the modernising influences of the outside world, with a conservative faction in control of some key institutions, such as the Council of Guardians, and a reformist faction centred on elected President Khatami. 

Summary for 2002

US and Iran 
Despite the apparent improvement in the relations between the US and Iran, which had followed the 11 September terrorist attacks, by January 2002 the tension between the two countries had reached new peaks. President Bush accused Iran of being part of an "axis of evil" together with Iraq and North Korea and asked Iran to stop meddling in the internal affairs of Afghanistan and developing weapons of mass destruction. While the Iranian leadership had good reason to be worried about the intensification of American hostility, the Bush administration was clearly not planning any direct action yet. By July, however, with his call for "reform from below", President Bush appeared increasingly interested in fomenting a revolt against the Islamist regime. There are clear signs that the ruling elite felt seriously threatened and feared at least a tightening of the embargo. It seems that at least part of the several billion US$ that returned to the country during 2002 was made up of the gold reserves of the government, previously held by European central banks. By mid-May even the reformist President Khatami felt that he had to take a strong stance and warned the US administration against "threatening, insulting and humiliating" Iran. As a reaction to growing American pressure, Teheran strengthened its efforts to improve its relations with its Muslim neighbours, such as the Central Asian countries, Azerbaijan and even Saudi Arabia. The reformist government of Iran remained in reality keen on improving relations with the US. During 2002 it gave out plenty of signals pointing in this direction. Among them, not only it stated that it was ready to accept a new, tougher resolution on Iraq and collaborated to enforce a stricter embargo, but also took the unprecedented step of declaring that a two-states solution is acceptable for Palestine, so long as the Palestinians accept it. Even the conservatives, who dominate a number of key institutions, first and foremost the Council of Guardians, and count among their members the Supreme Spiritual Leader, Ayatollah Khamenei, were not uniformly hostile to improving Iran's relations with the US, at least not at all times. Some of them argued that such an improvement would make it easier to maintain the status quo internally. Supporting a US war against Iraq could be a suitable way to buy American acquiescence for the lack of internal reforms. The majority of the conservatives, in any case, maintained at least on the surface a strong opposition to reconciliation with the US. Even if the reformists were willing to acquiesce to US war plans in neighbouring Iraq, they feared that in the event of a war its economy would suffer severely, not least because of a likely massive influx of refugees. The possibility of Kurdish nationalism being strengthened by a war in Iraq was also seen with apprehension in Teheran. On the whole, the Bush administration did not openly respond to hints coming from conservatives that a deal might be possible, but the press suggested that it might actually be considering to enlist some help from Iran. For sure, as the international attention turned to Iraq, from October Iran was spared the war of words that had afflicted it during the previous months. In any case, as the end of 2002 approached, the Bush administration maintained that it would welcome an internal overthrow of the Iranian regime. Iran and the rest of the world. The main tool in the hand of the US administration for exerting pressure on Iran is increasing its isolation from the rest of the world, in particular Iran's neighbours and trading partners. During 2002, it appeared clear that the largest economies were the least likely to bow to the pressure. The European Union in particular decided to actually expand its ties to Iran. After some initial anxiety, the EU announced in July its readiness to develop closer commercial ties with Teheran, although conditionally on Iranian willingness to discuss such issues as nuclear proliferation, terrorism and human rights. There have been delays in the negotiation of deals with Russia and Japan in the oil, nuclear and defence industries, but in the end both countries looked intent on continuing their flourishing trade with Iran. The main danger to Iran could have been that Russia could soon be lured towards a more pro-American stance in exchange for economic concessions, which might include forgiving Russia's Soviet era debt in exchange for the termination of nuclear cooperation with Iran. The fact that Russia and Iran developed diverging ideas about how to deal with the resources of the Caspian Sea might have contributed to push Russia away from Iran. President Putin, however, opted instead to strike a delicate balance between continuing Russia's lucrative trade with Iran, while at the same time doing his best to appease American fears of Iranian interest in weapons of mass destruction. By December, Iran responded by showing some more willingness to tackle the issue of the Caspian Sea resources.

Economic performance
Apart from the international tensions, the economic and political situation of Iran remained highly uncertain throughout 2002. The development of oil extraction in Iran was negatively affected by project delays and by some flaws in the buy-back deals negotiated with the international investors and it increasingly looked doubtful whether Iran could succeed in increasing its production to the levels planned. A failure would have very negative consequences for the economic stability of the country, due to the rapid growth of internal consumption of oil, which was expected by some analysts to match the volume of exports as early as in 2002 itself. Petrol is sold within Iran at heavily subsidised prices, with a litre costing to the Iranian motorist just $0.063, which encourages therefore high consumption levels and waste, only makes the matter more urgent. The non-oil sector of the economy showed little sign of development in 2002. After having expanded rapidly in the early 1990s, following the adoption of an export-led growth strategy by the government, Iranian non-oil exports have stabilised at around US$5 billion. The economy, dominated by an inefficient public sector and by the notorious foundations, simply demonstrated that it lacked the dynamism to exploit the opportunities offered by the new policy. The free trade zones, set up in the past, have so far failed to generate productive economic activities and are mostly being utilised for import/export activities.

Economics and demographics of a latent crisis 
If the debate about the chances of success of Iran's plan to expand its oil production was still undecided at the end of 2002, there has never been any doubt that the Islamic Republic cannot afford a failure. Although the birth rate has been brought down to manageable levels in recent years, the baby boom generation is beginning to join the workforce, causing a terrible headache to the government. With 5.5 million high school certificate holders expected to join the job market in 2002-2005, the government needs to create more than 1,300,000 new jobs every year to prevent an increase in the unemployment rate and keep the population happy, but in 2000/2001 it succeeded in creating just 400,000. To generate the required amount of jobs, Iran's economy should grow at the yearly rate of 12%. Economic growth reached 4.5% in 2000/2001, short of the 6% target but still not a bad achievement when judged by the standards of Iran's performance over the last decade. In 2001/2002, which according to the Iranian calendar ended on 21 March, low oil prices and a cut in production ensured that growth was lower, around 3.5%. In 2002-2003 very favourable circumstances, including most of all an increase in oil prices, contributed decisively to strengthen economic growth, now expected to reach 6.4%. Many Iranian businessmen, faced with poor performances in the American and European markets, moved their assets back to Iran, which on the other hand has reduced taxes and has approved a more friendly foreign investment law. It is estimated that private funds account for a large part of at least US$7 billion which have gone back to Iran in 2002, underpinning among other things a very good performance of the Teheran stock exchange, which became one of the world's best performing, up by 30%. However, even such as performance will not be enough to cure Iran's economic ills. Moreover, during the early months of 2002 the negotiations with potential investors in Iran's oil and gas industry took a negative turn, although there were signs of improvement towards the end of the summer. In 2002 a wave of financial scandals hit executives of some Iranian oil companies involved in partnerships with foreign investors and Iranian officials showed a marked tendency to delay negotiations, fearful of attracting the attention of a judiciary which is closely aligned with the conservative faction. International investors, on the other hand, became increasingly wary of investing in the Iranian market, in particular as they began to feel that it might be possible to extract better conditions. Only state-owned companies, such as Norwegian Statoil, continued to sign contracts with the Iranian government. Starting from May there were indeed some signs of a growing willingness to offer more appealing conditions to foreign investors, as the chairman of the parliamentary energy committee, Hossein Aferideh, proposed to lengthen the buy-back contracts which represent Iran's approach to reaching agreements with international investors. At present, buy-back contracts last five to seven years, which is considered too short by many players in the oil industry. In 2002, the situation of the oil industry was compounded by an extensive program of well maintenance and by a series of strikes in the industry, which resulted in an estimated 8-9% decline in exports of crude Iranian oil. It is significant, however, that one of Iran's newest gas clients, Turkey, successfully bargained for lower prices after being offered a substantial discount by Russia. Russia's increasingly aggressive marketing practices might cause more problems to Iran in the future, as it continues its efforts to penetrate the European market.

Foreign investments and internal politics 
Investment in the oil industry is less controversial, because it tends to be easier to isolate from the mainstream of society and because the rewards are so obvious. But that will likely not be enough to inject enough dynamism in the Iranian economy. The opportunity to attract funds towards other sectors certainly exists. An important sign was the successful launch in July of the new euro bonds, the first denominated in a foreign currency since the Islamic revolution. Soon the government was planning new issues of euro bonds, while the Iranian parliament was asked to examine a proposal to receive oil payments in euros. The attempts to reform the Iranian economy and political system were slowed by the opposition of the conservative faction. The Council of Guardians blocked the introduction of several laws, including the new foreign investment law, despite its approval by the parliament, forcing its amendment. Other such laws were still blocked by the Council of Guardians at the end of 2002, including a project to end the unaccountability of the foundations, which control a large part of the Iranian economy, a large-scale privatisation program, a new labour code and several others. There are however some signs that during 2002 a split began to emerge within the conservative camp, with some taking a more moderate stance. On the other hand, there were divisions within the ranks of the reformists too. At the beginning of 2002, the main item of contention among the reformists was the liberalisation of the economy, with some groups favourable to the liberalisation of the economy and others, such as the Islamic left, who were cold towards it. By the end of the year, however, the picture had been redrawn and the main fault line was now running between moderates, willing to accept Khatami's slow pace, and more radical reformers, who were clamouring for a final confrontation with the conservatives and were beginning to voice criticism of Khatami himself. The renewed pressure of the units of the "moral" police on an increasingly impatient youth, together with the ongoing repression against the reformist press, only contributes to the radicalisation of a part of the opposition. The death sentence against a reformist intellectual, Hashem Aghajari, guilty of having attacked the power of the conservative clerics during a lecture, unleashed in November a new wave of student unrest across the country, the largest after that of 1999. The resurgent student movement took most observers by surprise, as many had diagnosed its demise. On the internal political front, the main development in February was the apparent confirmation that the reformist front is slowly disintegrating. Three separate reformist lists will contest the 28 February municipal elections in Teheran, ranging from the pragmatic right to radicals who criticise Khatami for his lack of action. The electorate appears rather disillusioned and apathetic and in 2,000 municipalities there will be no elections at all because of the lack of candidates. Occasional arrests of dissidents continued in February, although the reformist front could claim at least a partial victory when a re-trial was ordered of outspoken reformist Aghajari, who had been sentenced to death because of his public statements against the regime. However, Aghajari will be re-tried by the same court which had sentenced him to death earlier and it might well be too early to say that his case is closed. Even the 2002-2003 Iranian budget, approved during the spring, reflected the political constraints under which Khatami and his government had to operate. Spending went up massively on the previous year, with tax cuts and massive pay rises to civil servants, whose real income would increase by 17% in real terms. The government expected to pay for a large part of such increases in expenditures through the privatisation program, which however had been stagnating for a while and might well continue to do so in the near future. Most observers therefore believe that Teheran will soon be running a massive deficit, the more so since the 2003/2004 draft budget, presented to the parliament in December, shows a 21% increase in spending on the previous year. While promising to public employees salary increases to match inflation, the draft budget counts on privatisation to reduce spending and getting some extra revenue. Reflecting the compromise character of the budget, military expenditures are also going to increase. Observers estimate that the fiscal surplus of 2001/2002 will turn to a 2.1% budget deficit this year and might still double in 2003/2004. It should be considered, however, that Iran's government debt is comparatively low, at just 19% of GDP. By the end of 2002, on the other hand, there were signs the Iran's financial situation might be improving, with a buoyant stock exchange, growing interest among international investors for the domestic car industry and a more general consolidation of Iran's image on the financial markets. Fearful of losing his own base of support, during September President Khatami finally decided for an all-out assault on the main conservative stronghold, the Council of Guardians. During September the reformist government presented a draft law, which would greatly reduce the powers of the Council, especially as far as its ability to disqualify election candidates is concerned. The government also presented other constitutional and administrative reforms, including greater powers for the president. President Khatami warned that he might resign if his projects were not approved, leaving the country in a state of chaos. By the end of the year there was talk of a conservative coup d'état against the reformists, while the security forces were stepping up indoctrination and "ideological training" of the rank and file, possibly preparing for taking part in a violent repression. Some conservative circles were increasingly promoting former President Rafsanjani as the right man to lead a coalition of moderates, aimed at addressing the economic difficulties of the country, without touching the institutional framework. 

Summary for 2003

Impact of war in Iraq
Neither the reformers nor the conservatives were unanimous about the war in neighbouring Iraq. Hard-liners are too hostile to the US to consider anything but complete opposition to whatever the Americans might do. Khamenei, a relatively moderate conservative, appeared to be ready to cooperate with the US, but only in exchange for substantial concessions, such as Iran's removal from the "axis of evil" and for the recognition of Iran's interests in Iraq. Former President Rafsanjani, a more pragmatic conservative, seemed to be ready to content himself with much less, such as a promise that the US will not attack Iran next. The reformist government, on the other hand, continued to focus on an alternative foreign policy, aimed at reminding the Americans and the world how friendly Islamic Iran can be instead. In the end, the real issue turned out to be Iran's attitude after the toppling of Saddam Hussein's regime, when Iraq faced chaos and anarchy. Privately, US diplomats were ready to admit that Iran had been behaving rather well up to mid-may. Nonetheless, the Bush administration kept up the pressure and Rumsfeld warned explicitly Iran not to interfere in Iraq. At the beginning of May Iran was once again being branded the most-active state sponsor of terrorism by the Americans. Secretary of State Powell stated explicitly at the beginning of May that the policy of the Bush administration is to isolate Iran as much as possible, but without closing all channels of communication. It is in fact known that the US and Iran are holding talks about Iraq and Afghanistan. However, there is a strong faction at the Pentagon which is in favour of a strike against Iran's nuclear facilities, if Iran does not accept to stop its nuclear program. The Iranians are divided on how to react to American pressure. There is a general agreement that Iran should maintain its nuclear program. The majority of Iranians, including leading reformists, reacted negatively to former president Rafsanjani's proposal to reopen a dialogue with the US, claiming that such a public statement would just be interpreted as an admission of weakness. Russia's decision not to abandon its ties (and profitable trade) with Iran appeared in all its importance in January, when the Bush administration dropped its objection to the building of a nuclear power station in Iran, with the clear aim of softening Russia's opposition to the war against Iraq. However, by March the tension was up again, as US claims were for the first time substantiated at least in part by inspectors of the International Atomic Energy Agency (IAEA). If US fears about the nuclear reactor being completed in Bushehr continue to appear unjustified, the uranium processing plant in Isfahan, which is about to start operations, and the enrichment plant construction site found in Natanz look definitely more suitable for the development of nuclear weapons. There were unconfirmed reports that the organisation is worried about what it has found and that some violation of the non-proliferation treaty might have occurred. In February President Khatami had admitted for the first time that Iran is mining uranium. Some sources now estimate on the basis of the new discoveries that Iran might be just a couple of years away from producing an atomic bomb. It is possible that the climax of admissions and discoveries of the last two months is part of a plan to trade Iran's stricter adherence of the non-proliferation treaty against the lifting of the sanctions imposed by the US. In fact, Iranian officials have clearly hinted at the possibility of such a deal. In the meanwhile, the Iranians have been quite successful in forcing their interlocutors to drop their political demands. In September the Japanese dropped the attempt to link progress towards an agreement and Iran's good behaviour on the nuclear issue. The three leading European powers (Germany, France, UK) also appear to have offered a bargain in August, against the advice of the Bush administration, offering to share technology in exchange for the end of the controversial fuel enrichment program. The Russians too, despite being increasingly puzzled by Iran's attitude, are trying to salvage the program, for obvious economic reasons, since they build Iran's nuclear stations. As the end of October approached, the Iranian government finally showed a greater willingness to cooperate with IAEA. The pressure was such that Iran had to do something, although nobody wants Iran to lose its face or the nuclear enrichment program to be completely halted. The Iranians look set to use their influence among Iraq's Shiites as a bargaining chip in their secret negotiations with the US, which have been going on for some time, although with several interruptions.
While the hard bargaining with the EU on the issue of human rights will continue for a some time, the Iranian government could in January show at least an initial success in this regard, with the abolition of death penalty by stoning. By the summer, however, the negotiations for a trade agreement were getting stuck because the conservatives within the Iranian establishment refuse to concede enough on the human rights front. The harsh repression of the demonstrations in June was a further blow to those in favour of engaging Iran. As the end of the summer approached, the relations with Europe and other Western countries were strained further by the cases of Iranian-Canadian journalist, Zahra Kazemi, beaten to death in custody, and of former ambassador Soleimanpur, arrested in Great Britain (and denied bail) for complicity in the bombing of a Jewish centre in Argentine. In January important trade agreements were signed with India and Afghanistan, which are likely to greatly increase Iran's influence in the East. On the other hand, Teheran's position in the Caucasus and central Asia is likely to remain weak, as shown in March by the failure of the visit of Turkmen President Niyazov to Teheran to produce the expected consolidation of the alliance between the two countries. 

Decline of the reformist coalition
Even when a war is over, an Iraq occupied by the Americans will inevitably affect Iranian internal politics. The more radical reformers and the extra-parliamentary opposition are likely to become emboldened, as shown already by the street protests of June 2003, while it is much more difficult to predict how the conservatives might react. The trend which emerged during 2002, of a split between moderate and hard-line conservatives, might well strengthen in 2003, and there are signs that something like that might be taking place within the ranks of the reformists too. In March the defeat of the reformists in the administrative elections, especially in Teheran, highlighted the growing rift between the Islamic left factions and the right-wing reformists of the Executives of the Reconstruction group, which all support Khatami in the national parliament. Division exists also within the Islamic left between clerics, who tend to be more moderate and more supportive of Khatami, and secular members, who are increasingly becoming radicalised. Then, the two moderate factions might ally and form a centrist government, which would try to reform the economy and certain institutions, without challenging however the clerical nature of the Iranian state. Towards the end of 2002, Supreme Leader Khamenei's intervention against the judiciary, which had passed the death sentence against Hashem Aghajari, appeared a sign that Khamenei himself could be willing to support the leadership of the moderate conservatives. However, the leadership of the moderate conservative camp is increasingly being taken by former President Rafsanjani, who in April took a bold step and proposed a referendum on Iran's relations with the USA. Among the leading reformers there seem to be little appetite for a compromise, mainly because their support base opposes it. As the end of 2003 was in sight, there appears to be left little room for a compromise anyway, as the conservatives appeared to be aiming for an all-out victory. During August there were however signs that despite tensions at least two of the three reformist factions will maintain their unity until the future elections. The pragmatist party close to Rafsanjani will likely abandon the alliance, given the projects of its mentor to form a new coalition, but the Society of the Combatant Clergy and the lay reformist parties appear to be trying to maintain their unity. Between May and June 2003 the Guardian Council rejected both reform bills, which would have given president Mohammad Khatami greater authority over a judiciary dominated by the conservatives and limited their ability to screen candidates in parliamentary elections. At this point, political developments within Iran might take three different turns. By mid-June some talks seemed to be going on between Khatami and Supreme Leader Khamenei to find a behind-the-scene solution to the deadlock, such as modifying the bills to some extent and re-presenting them. This is the first option. Should the talks fail, the reformist camp is divided among those advocating a referendum on the issue, those arguing that the MPs should resign in protest and those favourable to accepting a compromise brokered by the Expediency Council. Only about 20 MPs are reported to be serious about resigning, with another 30 or so also considering it, while the other two options obtaining much greater support. The conservatives might still refuse to concede any ground and, if faced with an increasingly militant opposition in the streets, stage a coup d'état. Some prominent conservative leaders, such as Khamenei himself and former president Rafsanjani, threatened openly the recourse to force already during the course of 2002. The conservatives, in the meanwhile, are also getting ready for the next elections by hinting at a social agenda that they might include in their electoral "manifesto". In reaction, the government is increasingly devoting its attention to initiatives in favour of the poorer social strata. At the beginning of 2003 it also appeared possible that the conservatives might succeed in attracting moderate reformers such as Khatami towards a compromise which would still increase his powers, although without weakening the capability of the conservatives to resist the reforms as much as most reformists desire. By the summer, however, the most likely outcome appeared to be a new government headed by moderate conservatives and right-wing reformers, maybe strengthened through recourse to rigged elections. In September Khatami took the unusually bold step to refuse a compromise with the conservatives on the reform bills that he introduced last year and that were blocked by the Council of Guardians. The head of the Council, Mohammed Ali Abtahi, offered to let through the bill which enhances the powers of the President, if Khatami accepted to withdraw the other bill, which reduces the Council's power to pre-select election candidates. At present, there are only scant signs that the politically active minority of the radical opposition is succeeding in establishing links with other sectors of the population. In some factories there have been walkouts in support of the democratic movement, while teachers have been on strike and even in the bazaars, normally a stronghold of the conservatives, there have been shutdowns in support of the demonstrations. So far only the intelligentsia and a part of the clergy show clear signs of drifting towards a more radical opposition, but the potential for a larger movement is there. The Nobel Peace Prize to Shirin Ebadi offered the radical reformers the opportunity to relaunch their campaign, although moderate reformers like Khatami were only embarrassed by the news. The conservatives, however, are not waiting hand in hand and look increasingly set to steal part of the reformist agenda. They promise some social reforms in favour of the poorer strata of the population, while claiming that they too are reformists, although of a different type. 

A mixed economic picture
The government remains committed to market reforms, as showed in may 2003 by the appointment of a pro-reform new head of central bank, who was welcomed by analysts. The government also appears to be becoming increasingly conscious of the damage that inflationary pressures could cause to the economy. There is also a growing awareness in government circles that the government does not spend its money in a balanced way. On the one hand there are a lot of subsidies, on the other Iran spends little in crucial sectors like health, where its expenditure reaches just 5.7% of GDP and lags behind that of other oil states. The announcement at the beginning of May of a US$21 billion 4-year plan to greatly expand the telephone and cellphone networks also represents an answer to the recognised need for increased investment in infrastructures. Unfortunately, from the point of view of the man in the street, the government has little to show. At the beginning of may president Khatami had to acknowledge that his plan to create 765,000 jobs a year is lagging well behind, with just over 530,000 created on average in the last three years. Whether the reforms accelerate or not, political and social tensions are not going to die down in 2003. Faster reforms will in any case mean more hardship for some sectors of the population. The latest estimate of the inflation rate in 2002/2003 was 15.3%, up four percentage points on the previous year due at least in part to the abolition of privileged currency exchange rates for some Iranian institutions, which was one of the reforms of the Khatami government. By some estimates, inflation could exceed 20% in 2003/2004, due to the growing budget deficit and price hikes in a number of commodities. A compromise between moderates on both sides, however, would at least be likely to unblock the development of the oil industry. Iran will need to invest $30 billion over the next 8-9 years to maintain its share of world oil exports. The ageing Iranian fields have lost production capacity at the rate of 250,000 barrels per day, 6.4% of annual production. At least $1 billion are needed every year to maintain production at the current levels. To maintain the level of exports in the face of rising internal consumption and to increase them to satisfy the needs of a growing population, much more than that amount will be needed. However, the Iranian oil industry continues to be starved out of investments and progress has been recorded recently only in the development of the manufacturing of liquid natural gas. Several large Western multinationals, such as Royal Dutch/Shell and Total, are reported to have lost faith and to be already scaling back their presence in Iran. Japanese companies like Japex and Inpex maintain some optimism, although the Azadegan project too, for which the two have bidden, had not yet been signed by its stated deadline of end June and appears likely to be delayed further. As always, the source of the delays is the political sensitivity of foreign investments in Iranian oil industry. A recent Deutsche Bank study estimated that the profit margin in Iran is about 15%, compared to a world average for the oil industry of 20%. Moreover, the deals tend to last only about half of what they last elsewhere. This difference would not be enough to discourage investors, but the long queues imply extra costs and uncertainty. The awareness that the availability on the market of the Iraqi oil fields over the next few years could represent a major blow for Iran's chances to impose its own terms has not succeeded in accelerating the pace of the oil ministry. Some industry experts say that unless Iran speeds up investments in the oil fields, its production could fall to 3 million barrels per day over the next few days, from the current 3.6 million. At this rate, the goal of attracting US$16 billion in foreign investment in the oil and gas industries by 2010 does not seem to have many chances to succeed. In the strategy of the Khatami government, gas is supposed to make up for the shortcomings of the oil industry. Since Iran has huge reserves of gas, which at present are largely under-exploited, it would make good sense to move the focus of the investments in that direction. After the blow of the re-negotiation of the deal with Turkey, which could have cost Iran as much as 20% in discounts on the previously agreed price, Iran will be looking east, having identified China and most of all India as potential major markets of the future. Despite the improved economic performance of 2002/2003, it appears obvious that it will be difficult to achieve significantly higher growth rates without attracting massive foreign investment. The forecast of the Economist Intelligence Unit for 2003/2004 is 5.3%, lower than in the current year, although still comparatively good. Even in this regard, a successful compromise among moderates could play an important role in reducing the opposition among conservatives against foreigners playing a much larger role in Iran's economy. The Iranian government is quite optimistic, as shown by its 2003/2004 budget. The assumption that oil revenues will maintain the level reached in 2002/2003 (around US$15 billion), when the Iraqi and the Venezuelan crises combined to push oil prices upwards, appears doubtful indeed. By April, the Iranian state oil company itself was expecting oil prices to fall soon to US$18/19 a barrel. The government, however, has the option of drawing resources from its stabilisation fund, which is expected to stand at US$7 billion by the end of the current fiscal year (20 March) and which is meant to compensate the fluctuations of oil prices. As a result, the government confidently predicts GDP growth at 6% next year, which would confirm the performance of 2002/2003. The Economy and Finance Minister Mahazeri also predicts that Iran will finally be able to attract significant foreign direct investment next year, in the range of US$4 or 5 billion, as opposed to the less than US$500 million invested in 2002/2003. Iran also plans to expand its oil production to 5 million barrels a day by 2004, up from the 3.6 million of 2002. The government is making natural gas available to most of the urban areas, in order to reduce internal consumption of oil and have more available for export. Moreover, the Khatami administration is going to borrow money to fund its many projects. It is authorising the issuing of bonds over the 2003/2004 financial year for a value of 5,400 billion rials (US$676 million), a 125% increase over the current year. The good news for the economic prospects of Iran is that the government also authorised the private sector to issue its own bonds as a way of making up for the inability of the banking sector to provide adequate funding. The level of foreign debt is at a relatively modest US$23.4 billion and the country's hard currency reserves are higher than ever. During March the first signs emerged that the Khatami administration is trying to tackle the issue of the excessive subsidies to consumption, that are undermining the Iranian economy. After an official of the oil industry admitted that Iran will have to import 5.8 billion litres of gasoline this year to meet internal demand, up 2 billion on 2002/2003, the government increased in April the price of gasoline by 30%, from US$0.06 to US$0.08 per litre. While the latter would still be a very low price by any standard, there is opposition even among reformist parliamentarians, who fear a backlash among the population and an upsurge in inflation. On the other hand, the uncontrollable increase in internal gasoline consumption represents a growing burden for Iran's economy and contributes to erode the country's oil exports, which fell by 7.6% in 2002, to just over 2 million barrels a day. Efforts to put some order in Iran's chaotic economic system continued in September. The government announced at the end of August that there are plans to introduce value added tax, which is widely seen as a positive step since it will be easier to implement than any overhaul of the direct-taxation system. The Teheran stock exchange was reformed in September, to bring its regulations more in line with those of developed countries and to introduce control mechanisms that limit the danger of a crash.
Foreign businesses express a strong interest in the Iranian internal market, which at present is underdeveloped, due to restrictions to imports, which the government tries to maintain at around $15 billion, and to the inability of the domestic industries to meet demand. After achieving the first modest successes in attracting foreign investments in 2002, the Khatami administration hopes that 2003 will finally see the beginning of a massive inflow of foreign investment into Iran's industry and services. This might be rather optimistic, but there were some signs of growing interest in January and February. After FIAT and Peugeot had showed up in earlier months, in February it was the turn of DaimlerChrysler and Chinese manufacturer Chery to announce their plans for the Iranian car industry, whose annual sales of 300,000 are estimated to cover only half of potential demand. It is expected that in the foreseeable future most investments in the non-oil sector will come from Arab countries, but already some European companies are beginning to invest small sums. The government expects its privatisation program to finally take off in 2003. Before the end of the current fiscal year (20 March), several state companies are expected to be floated on the stock exchange, as a prelude to privatisation. Banks in particular figure prominently in the list of state firms to be privatised. At present, there is just a single genuinely private bank in Iran and its network of branches is still very limited. There are, however, a number of obstacles towards a successful privatisation campaign. State banks are largely overstaffed, often have been operating at a loss for some time and are burdened by bad debts granted to state firms, the foundations and privileged individuals. The overall approach to economic reform remains cautious. This caution is sometimes dictated by genuine political concerns, as in the case for example of the planned reduction of tariffs on imports. At the beginning of February the deputy minister of commerce stated that the elimination of tariffs on imported goods would be eliminated gradually, in order to safeguard the interests of consumers and producers. However, in other cases this "caution" is the consequence of divisions within the government and the state administration. The complex web of interests which grew over the Iranian economy over the past quarter of a century makes reforms objectively difficult. The laws and regulations of the Central Bank of Iran, for example, encourage investment in unproductive activities, such as import businesses, which benefit from tax holidays, while production goods are subjected to high tariffs and taxes. The economic impact of 'regime change' in Iraq would be mainly negative, also because the US might veto a participation of Iranian firms in the reconstruction. The opening of the Iraqi oil market might draw away potential investors in Iran's oil fields, especially if, as it is likely, conditions offered were better. In this case, Iran could at least count on US determination to favour US companies, which cannot invest in Iran anyway due to the embargo. But Iraq's more economical oil fields are shared with Iran, so that improved production there would affect Iran's production negatively in any case. Oil minister Zanganeh showed his awareness of the situation when he called for Iran to act quickly to attract foreign capital to develop its oil fields. Indeed, the national Iranian oil company claimed in May to be planning to sign contracts worth between US$5 and US$7 billion during the current year, with the aim to expand production by one million barrels. However, in the past the optimism of Iranian officials with regard to signing contracts with foreign investors has often proved unjustified. There is on the other hand capital looking for some employment in Iran, especially after at least US$7 billion returned to Iran mainly from the US, to which a growing tide of Saudi investments have to be added. The Teheran stock exchange has been growing so quickly this year that in August the government had to intervene and impose a two-week block on stock prices, fearing an imminent crash and the subsequent repercussions on the wider economy. Investors will however likely continue to prefer the stock market, given the lack of transparent investment opportunities in industry and the low returns of the agricultural sector. The government appears intent to capitalise on the trend towards the return of capital from abroad and a bill is being discussed in the parliament, which will reinstate the nationality of those Iranians who have left the country. The law that requires the sale of property belonging to people stripped of Iranian nationality is also being abolished. 
Some signs have been emerging in recent months that Iran might be willing to offer better terms to foreign investors in its oil industry. These developments continued in September, as a deputy minister hinted that new types of contract are under consideration to attract investors to the Caspian Sea, possibly including production sharing agreements.
The IMF recently reported that non-oil GDP has been growing at the average rate of 7.9% in 2000-2003, that is faster than GDP as a whole, confirming that the economic reforms are stimulating the economy to some extent. However the IMF pointed out that price subsidies and controls and limitations to free enterprise remain a major problem. For example, the very low price of gasoline is leading to a boom in consumption, which increased by over 26% in the March-August 2003 period alone. Production of gasoline, on the other hand, increased by just 2%, forcing Iran to import massive quantities of it, a paradox for such a big producer of oil. It is beginning to emerge that the recent discovery of three new oil fields in July has had an impact on Iran's development strategies. After having focused on its gas sector until the summer, the Iranians are now showing a renewed interest in oil. There have been signs towards the end of 2003 that the Iranians are keen to accelerate the signing of some oil deals, like the Bangestan and Azadegan fields. Iran's wariness of OPEC cutting oil production can also be seen as a sign of a renewed desire to attract more investment and expand its production. Investors too seem to be finding some new optimism about doing business in Iran. Total and Petronas, for example, seem set to finally make a profit this year in Iran, a fact that might encourage others to sign, despite the strict conditions. It is known that Petrobras, never previously active in Iran, is considering to enter this market.
Another source of worries is the fiscal balance, which is now negative, with a deficit of 2.3% of GDP. The government is aware of the problem and is considering measures to contain the fiscal deficit, hoping to contain the inflation rate at no more than 18%. The government is also aware of the increasing social tensions and is carrying out a number of schemes aimed at reducing unemployment. One of them foresees the replacement of "foreign workers" with Iranian ones and according to the minister of labor and social affairs it will be enforced firmly. The government is also spending money on job creation schemes and it claimed in September that the official unemployment rate fell by two percentage points over the last 12 months, to 11.2%. It is not clear, however, how sustainable these job creation efforts are in the medium and long term, while replacing foreign workers will only create unskilled and low-pay jobs, which will make few Iranians happy. Besides, official unemployment figures are not considered very reliable by economists and the actual impact of these schemes is uncertain. 

Forecast for 2004

Short of a radical regime change, Iran's foreign policy in 2004 is expected to continue threading on the edge as it did in 2003. Depending on the outcome of the February 2004 elections and more in general of the power struggle within the Islamic regime, Iran's foreign policy will still reflect a substantial degree of factional infighting within the regime. At the same time, the attempt to find an accommodation with the US in its own terms will also continue, as reformists and conservatives mainly differ on what precise type of settlement they want, rather than on the idea itself of dealing with the "Great Satan". Although the relations of Iran with the surrounding countries are in general expected to continue to improve, it is difficult to forecast what type of relationship will be established with the new Iraq. There is little doubt that the Iranian regime will try to develop a stake in the future governments and given the difficulties experienced by the occupation forces led by the US it might well succeed in imposing a settlement quite favorable to its own interests, at least in the short-medium term. 
The internal political developments of Iran continue to present the dilemma that had appeared at the end of 2002: will the reforms succeed or will they decisively defeated. One is tempted to say that likely the confrontation will continue throughout the year, without a resolution in one direction or the other. At the same time, the cautious reformism of the recent years does seem to be running out of steam. The reformers will have to become more radical if they want to survive politically. All in all, the odds seem to be in favor of the conservatives taking over the reins of government, although probably without succeeding in defeating the reformist aspirations in the medium term. A moderate conservative government would probably bet on the success of a new phase of economic reforms to steal the ground from the reformers, but really successful economic reform would imply attacking the privileges and interests of many core supporters of the conservative coalition. In sum, a conservative government would probably try to appear as the real guarantor of stability to the international community, hoping to attract massive investment in the oil and gas industry and then be able to buy the consensus of the population.
Inevitably, the economic performance of Iran will depend in 2004 as in the past from the trend of oil and gas prices. The growing awareness of the need to attract more foreign investment might finally begin to translate into the signature of more contracts, but not necessarily, especially if the factional conflict remains obviously undecided. In any case, the benefits of new oil contracts will not directly affect the economy during 2004. The efforts to develop the non-oil sectors of the economy are likely to produce some results in 2004, in part due to the growing number of joint ventures with foreign companies. On the whole, however, the impact of these initiatives will remain limited, except for some specific sectors, like communications. Significant benefits might derive from a partial return of capitals from abroad, which already began in 2003, but there are few signs at the moment that these capitals are going to be invested in productive activities. Creating employment for the mass of young Iranians who every year join the job market will remain a daunting task.

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Update 024 - (01/12/03)

A precarious success
The release of the IAEA draft report in early November had appeared at first as a major victory for Iran, as the Agency accepted that Iran, despite some violations of the Non-proliferation Treaty, could not be proved to be developing nuclear weapons. For a few days, it seemed as if the US were going to remain isolated, as even the British government seemed to be supporting the IAEA statement, not to speak of other European governments. However, the Bush administration engaged in a major lobbying effort to turn the situation around and by 20 November it appeared as if was succeeding to a large extent. The Americans appeared about to convince the Europeans to adopt a harsher language in the IAEA resolution, condemning Iran's behavior. If one adds the fact that on 22 November the General Assembly of the UN expressed "serious concern" about the violation of human rights in Iran, it appears clear that during the second half of November the Bush Administration scored some points in its struggle to weaken Iran diplomatically, to the extent that the Russian atomic energy minister felt that he had to state the unacceptability of sanctions against Iran. 
At the same time it is more and more obvious that the Iranian government is trying to appease the Bush administration by providing some cooperation in Iraq. Apart from its apparent role in restraining the Iraqi Shiite population since the fall of Saddam Hussein, Iran recognized the Iraqi Governing Council in November and declared its readiness to arrange swap oil deals with Iraq, which would facilitate the recovery of the oil industry in that country. In compensation, Iran obtains a rejection of regime change as a US policy towards Iran by the Department of State and its stated willingness to discuss "some issues", but no overall truce.

Nuclear fall-out
The row over Iran's nuclear program is having a significant impact on Iran's internal political landscape too. The key role played by moderate conservatives like Ayatollah Janati and Hojatoleslam Rowhani in engineering the deal with IAEA at the end of October is a confirmation that this group is trying to emerge as a protagonist of Iran's relations with the rest of the world. The offer of a deal and the admission of Iran's faults is already causing a split between them and the hardliners. If the deal should fail, of course, the fall out would not be too positive for the moderate conservatives and it would strengthen the hardliners within the conservative faction.
In the meanwhile during November the reformists fought back as hard as they could against the ongoing attempt of the conservatives to marginalise them. On 12 November the two hard-line candidates to a seat in the Guardian Council were both voted down by parliament. The actual impact of the event is limited, as the conservatives maintain an overwhelming majority within the Council, but it does represent an attempt to challenge the status quo.

Oil manoeuvres
A new wave of activism is affecting the Iranian oil industry. The National Iranian oil Company is inviting bids for 16 new exploratory oil blocks, with a new and more attractive type of contract, which covers both exploration, description and development of the fields. Despite US pressures, which apparently played a role in keeping Italy's ENI and Royal Dutch/Shell from accepting the invitation to bid, the negotiations on the Azadegan oil fields seem finally to have reached an advanced stage, which French company Total is in a favourable position to win. Finally, Iran revised its oil and condensate reserves upwards in November, to 130.8 billion barrels, up from 96.4 billion in 1999. Of the extra billions, only 5.1 are new discoveries, the rest being due to revisions of existing reserves. Production was 4.3 billion barrels in 2000-2002, which means that discoveries just slightly exceeded production. The revision of existing reserves is probably a move to improve Iran's position in the forthcoming OPEC debate about production quotas. 

Addressing the economic quagmire
The Iranian government continued to signal its willingness to discuss economic reforms in November, without however taking many concrete steps. The oil ministry came out in public for the first time with plans to ration the distribution of gasoline, which the country imports at the rate of 13 million litres per day. Fuel subsidies are a major problem for Iran and cost each year 10% of GDP, but the motorists are used to them and any move against them would meet a fierce opposition. It therefore unlikely that any decision will be taken before February's elections. The government is also trying to attract as many Iranian expatriates as possible back to Iran, especially if they can bring skills and cash along. Despite a recent inflow of financial resources, every year US$2.5 billion continue to leave Iran. In November a new committee was established with the aim to establish better contacts with Iranians living outside the country.

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AUTOMOBILES

Iranian auto maker hunting for Japanese partner


In any other country, auto maker Iran Khodro would be envied: it controls three-fifths of its fast-growing and heavily-protected home market where supply falls chronically short of demand, Reuters has reported. 
Instead, Amir Albadvi, an executive at the top Iranian auto maker, is desperate for a foreign partner - preferably Japanese - and foreign competitors. His aim? To become big enough to supply cars not just for Iran, but to its neighbours as well. 
"We want to be the Detroit of the Middle East," Albadvi, Iran Khodro's executive vice president in charge of strategy, told Reuters in an interview recently. "It's a market with a population of 400 million people, with no major auto manufacturer." 
Iran Khodro is the biggest auto maker in the Middle East with annual output capacity of 800,000 cars, trucks and buses, and $3.8 billion of sales forecast for this year. 
While the company is profitable - its eight per cent net profit margin is comparable to Toyota Motor's (7203.T) - it wants to dominate a region with so much unmet demand. 
But Albadvi knows Iran Khodro can't go it alone without the technological expertise and global reach of a partner. 
"We know we can't continue to have 60 per cent of the (domestic) market forever," he said on the sidelines of an industry conference in Bangkok. 
"But to maintain our current rate of growth, we need to be part of the global car market, with outside partners whose distribution and platforms we can share." 
Iran's car demand of one million units makes it a bigger market than India, which along with China has stolen the limelight in recent years as the world's most promising markets. 
Iran's passenger car sales have grown an average 32 per cent annually since 1996, but with supply expected to reach 700,000 units this year, 30 per cent of demand is unmet and Iranians must wait four to six months for their cars. 
A few European auto makers are starting to take notice, but to Albadvi's dismay, several Japanese auto makers have rejected Iran Khodro's approaches, he said. 
"We want Japanese partners rather than European ones because the demand structure in Iran is more similar to Japan's and we want to learn about productivity and technical skills."
"Our dream is to partner Toyota. But I think the political issues in Iran are a concern for them. Those who know the market better - like France, for example - they try to keep it quiet." 
Other Japanese investors eyeing Iran have struggled to surmount political pressure over concerns about the Islamic republic's nuclear ambitions. Japanese firms wanting to develop Iran's Azadegan oil field have been unable to strike a deal. A Toyota spokesman said the group was busy until 2006 with expansion plans in Eastern Europe, Asia and the Americas. 
Nissan Motor (7201.T), meanwhile, is increasing its presence, but doing so cautiously only with high-end, low-volume vehicles. 
"There's no reason why Iran shouldn't be a profitable market for any global auto maker," said Graeme Maxton, managing director at Autopolis, an auto consultancy. "But politically I think it's more difficult for the Japanese to enter." 
The French, however, are more eager. While PSA Peugeot Citroen (PEUP.PA) has no capital exposure in the country, Iran has become its third-biggest market after France and England, grossing sales of $1 billion. 
Rival Renault (RENA.PA) agreed in October to invest 750 million euros ($872 million) in a joint venture with an Iranian consortium that includes Iran Khodro, to build and sell its cut-price L90 car in Iran, which it once pulled out of in 1992. 
Until Renault's L90 hits the market, Iran Khodro's box-shaped, gas-guzzling Paykan car will continue to dominate Iran's market. Little changed since Iran bought the licence to assemble the Hillman Hunter look-alike from the British automaker in the 1960s, the car is blamed for the pollution that enshrouds Tehran. 
The government, aiming to improve fuel efficiency, wants to replace 2.5 million cars built more than 17 years ago with new ones over the next five years. "Up to 2010, there should be a new-car market of 10 million units," he said. "We need at least another two foreign companies in Iran." ($1=.8600 euro). 

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ENERGY

Iran revises recoverable oil reserves up by more than one third

Iran has revised its oil and condensate reserves up by 36 percent to 130.81 billion barrels, AFP has reported quoting the Middle East Economic Survey (MEES) reported. 
The minister of petroleum has submitted the revised estimates for total recoverable liquids at the end of 2002 to the OPEC oil cartel, the industry specialist says. 
The new estimates compares with a previous 99.08 billion barrels published by OPEC last year and 96.4 billion barrels at the end of 1999. 
Revisions to existing reserves account for 34.4 billion barrels and discoveries since 1999 another 5.1 billion barrels. 
"The new discoveries contrast with total production during the 2000-2002 period at 4.29 billion barrels of oil and condensate, demonstrating that new discoveries are only just exceeding the reservoir depletion rate over that period," the Cyprus-based weekly says. 
"Given Iran's increases in production this year, the submission of a new higher reserves estimate can be viewed as the latest move in positioning by OPEC member states in readiness for a widely-anticipated debate on production quotas," MEES notes. 
Saudi Arabia is credited with the world's largest reserves estimated at 261 billion barrels. 

Iran to increase gas exports to Turkey: 

Iran has agreed to a recent request by Turkey to increase gas exports to the country despite a dispute last month between the two countries over gas prices, Asia Pulse has reported. 
The Persian-language newspaper "Tosse eh" quoted Asghar Soheilipour, an advisor to the managing director of the National Iranian Gas Company (NIGC), as saying that Turkey had announced that it would need more gas from the Islamic Republic with the start of winter. 
The increase, Soheilipour added, would bring Iran's annual exports of gas in the current Iranian calendar year of 1382 (ending March 19, 2004) to over three billion cubic meters. 
He said Iran's gas exports to Turkey over a period of six months starting March 21 stood at 1.3 billion cubic meters, stressing that Turkey had used Iran's gas "as much as it had requested" over the period. 
"There has been no problem in Iran's gas exports to Turkey," Soheilipour stressed. 
The remarks by the NIGC advisor follow the last month press reports that Ankara is considering to review the agreement over gas purchases from Iran on the grounds that Iran's natural gas is not cheap. 
Ankara's announcement drew contradictory reactions by Iranian gas officials. 
While NIGC chief, Mohammad Mallaki, had vowed that Tehran would not renegotiate its gas deal with Turkey, Managing Director of the National Iranian Gas Exports Company, Roknoddin Javadi, said that his company is considering Ankara's call on Tehran to renegotiate the gas prices. 
The Islamic Republic has already been exporting natural gas to Turkey under a US$30 billion deal, according to which Iran is committed to supply 10 billion cubic meters (350 billion cubic feet) of gas per year. 
The two countries launched in December 2001 a 2,577-kilometer pipeline, running through the northwestern city of Tabriz to Ankara, which supplies gas from southern Iran near the Persian Gulf. 
The gas flow, however, hit a snag after Turkish Energy Minister Zeki Cakan announced last September that his country had halted imports because of its poor quality. 
Tehran and Ankara ironed out the differences later. 

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TELECOMMUNICATIONS

Iran positioning itself to become a telecoms hub between Asia and Europe

Iran plans to become a telecoms hub with exponential growth forecast in domestic wireless and Internet markets.
A new report published on 10th November by BroadGroup, the London based broadband and mobility consultancy, suggests that Iran is positioning to become a telecoms hub between Asia and Europe. As it does so, the domestic market in wireless and Internet is poised for substantial growth, yielding opportunities for overseas equipment and services providers. 
The report, The Telecommunications Market in Iran, is the first available survey of the current state of play in communications in the country, covering fixed, mobile, Internet and datacomms. With a population of some 68 million, similar to that of France, the report sizes the Iranian market opportunity across all sectors and provides forecasts for growth over the next five years and value projections for the fixed and mobile infrastructure markets. 
"Internet in Iran has a current CAGR of 96%," commented Dr Qmars Safikhani, the report author and an associate director of BroadGroup, "but mobile too is experiencing huge growth, and we are forecasting more than treble the current subscriber base of 3.5m by mid-2005". 
The report details advances in infrastructure being made including the installation of a new wireless mesh network nationwide, and a 10,000 km fibre optic network with SDH technology as part of the hub strategy. 
Major areas of future growth are identified in the report, and include the expansion of public switching systems to increase the number of telephone lines, satellite communications, mobile cellular networks, rural telecommunications and data communications systems. 
Transition from an analogue to a digital system and wider introduction of satellite networks are the major aims of the country's telecommunication strategy. Fibre optic systems will increasingly be used as junctions or for long-distance connections. 
Identifying potential barriers to market entry, the report also provides an outline of the progress of deregulation, and the recognition of the need for inward investment with joint venture partners. 
The report includes contact details for service providers, domestic supplier organisations and government bodies. 
"As the first report to assess Iran, we believe that market growth across all sectors is significant" added Dr Safikhani, "and given the plans currently in place, will afford a series of opportunities for participation by overseas companies." 

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