Recently, the Iranian Riyal’s (equals 10 Iranian Tomans) exchange rate has significantly decreased against the U.S. dollar – whereas in Jul. 2016, according to the Iranian central bank, the official declared exchange rate of the USD to the Toman was 3050, it has since reached in Dec. 2016 a rate of 3230 Tomans. In the free market, where the difference between that of the government can reach up to 20% and more in some cases, the US dollar is worth 4000 Iranian Tomans. So, what could have caused this crisis? And what are the economic and social repercussions regarding this change in the Iranian Toman exchange rate against foreign currencies?
» The Evolution of the Iranian Toman exchange rate against the US dollar
Before we explain the reasons for this steep decline in the Iranian currency now, we need to quickly review the origins of the real crisis, its evolution, and causes of aggravation that brought it to its current state. Since the 1990’s, Iran had passed mutations and numerous changes in its national currency’s exchange. This was largely because of its tense political relationships with the major powers, in addition to the economic blockade enforced by the United States of America since the nineties. In the beginning of the second millennium, the sanctions were followed by an international blockade. Since 2012, as a direct result of the development of its nuclear program, harsher sanctions were imposed by the West. The harshest sanctions to impact Iran was the ban imposed on oil exports, the backbone of the Iranian economy and the almost sole source of its foreign currency. All this resulted in a series of crisis which significantly affected the Iranian currency exchange rate against the US dollar and other foreign currencies.
As the previous graph shows, after 2001, the official exchange rate experienced significant increases which lasted long periods of time. In 2003, this increase amounted to 430%. Therefore in 2003, the recorded exchange rate was that of 758 Tomans per dollar, compared to the relative stable exchange rate of 143 Tomans which lasted throughout the period of 1992 to 2001, the dollar’s high rise and the Toman’s decrease continued gradually until the dollar reached 1200 Tomans in 2012. Since then, the dollar has increased in a very fast pace against the Iranian Toman. In 2013, in just one year after the enforcement oil sanctions and an international embargo, the dollar had increased at a rate of 108% and reached about 2,500 Tomans. This trend continued and in 2015, the dollar recorded an exchange rate of 2800 Tomans.
Since the beginning of 2016, despite the lifting of the international embargo and the resumption of oil exports abroad, the Toman’s situation did not improve. According to the government’s exchange rate at the beginning of the year, one dollar was about 3020 Tomans. This decline continued to at almost constant rates until October, when it recorded 3170 Tomans. Then a bigger decline was recorded in a shorter period of time, during the month of November, reaching 3220 Tomans per dollar. While the rate of the dollar in the free market was close to 4000 Tomans in November, it has already reached 4,000 during December. This, after it was revolving around 3,500 Tomans in the free market during the past six months.
» Reasons of exchange rate crisis in Iran
The recent decline of the Toman exchange rate against the dollar and other foreign currencies can largely be attributed to Donald Trump’s win in the US presidential elections, and his known hostility toward Iran. Moreover, following Trump’s repeated threats to cancel the nuclear deal signed with Iran in mid-2015, has increased pessimistic predictions about the future of the Iranian economy. Such a threat has a very negative impact on the foreign investment in Iran since foreign investors fear the threat of US financial penalties.
On the other hand, Trump’s victory and his ambitions to strengthen the American domestic economy, optimistic forecasts in regards to the US economy increased. This was reflected directly on the US dollar’s strength globally against other currencies, including the Iranian one. The matter that boosted hopes of increasing the strength of the US economy was Trump’s indications as to his tendency of economic protectionism policy of the American industry and domestic product; and his wish to eliminate some trade agreements, which deprive the US Treasury of, tariffs and increase the foreign product competition with the American one, and other similar economic trends.
However, the roots of the exchange rate crisis in Iran are older and deeper than just the influence of external factors. The evolution of the exchange rate during the previous years -as explained- confirms the continued deterioration of the Iranian currency with every policy or economic crisis that Iran has with the world.
Therefore, it is necessary to analyze the causes of the crisis according to the following points:
1. State reserves of foreign currency have declined because of the decade-long effects of the tense political relations with the West which has led to a commercial blockade that lasted for a long period. The crisis hit hard in 2012, with oil exports blocked, as the main source of foreign currency in Iran, and the continuation of freezing the Iranian assets abroad. There is no official data that confirms the actual evolution of the reserve rate over the past years, but international sources indicate that they were recorded at 115-125 billion dollars in 2015. While according to the statements of Secretary of Iran’s economy in December 2016 that the volume of foreign reserves to Iran reached $100 billion, this means foreign reserves declined at a rate ranging between 15 and 20 percent in 2016 – a significant drop in one year.
2. There was always more than one exchange rate in Iran throughout history – a governmental exchange rate, the free market’s exchange rate, the reference exchange rate, and the one the government has been dealing with its own economic institutions. The latter was abolished in March 2013 as the first stage in a series of actions taken by the government to control the deterioration of the exchange rate and the parallel market elimination. The government also is planning to activate the second stage in March 2017 of unifying the exchange rate by banks and to deal only with the free exchange rate. It is worth mentioning that Iran followed exchange rate unification policy during the nineties, but this policy did not last, thus the parallel market was opened again.
3. Parallel market’s growing role in Iran and the government’s inability to tighten control. The difference between the two rates has risen because of the government’s inability to meet the demand for foreign currency. Thus, the parallel market meet this demand for currency, but at a higher rate than the government, which reached about 20% or more in some cases.
4. The government budget’s deficit and Iran’s reliance on obtaining foreign currency rely almost solely on a fickle and unstable source – oil export revenues. With the decline in oil prices in the last two years, the government budget deficit will continue to increase as long as the reliance on oil export revenues does.
5. Economic recession which lasted for long periods of time. During this time, thousands of factories stopped working and fell with the –low- non-oil exports next to the economic growth rate, which continued to be negative in 2012 and 2013, and then recovered in 2014 but in low rates.
6. So far, restrictions and obstacles imposed on bank transfers that still exist in practice. These affect to some degree the exchange rates and raise the cost of obtaining foreign currency.
7. Liquidity increased in recent years toppled the financial stability of the state and raised the levels of inflation. Where the value of currency declined over time, in the month of June 2016, for example, cash flow rose to 29% compared to the same period last year.
8. Imports increase after the international embargo was lifted since the beginning of this year, and put pressure on the foreign reserves to make up the deprivation years, whether at the level of individuals and their needs of different goods, or on the level of production institutions with outdated production technologies that were unable to develop adequate means of production as well as provide new machines or improve the old ones.
» Repercussions of the crisis
The most prominent economic consequences of the Toman exchange rate decline are the constant rising of inflation rates, because the rising cost of the imported goods as well as that of raw materials, will reflect on the final products in the end.
Investors escape from economies with fickle exchange markets. This causes a state of significant financial loss because production requirements are imported and profits are transferred abroad. Therefore, the Iranian government plans to unify the exchange rate and rely on the free market exchange rate in the near future. In 2014, Iran’s economy attracted direct foreign investments reached almost $2 billion and 105 million, while the amount decreased in 2015 with $2billion and 50 million.
On the other hand, there are some positive aspects for the Toman’s low exchange rate, as it gives an opportunity for the domestic-made products to compete with foreign imported products, which have become costly for the local consumer. This could also contribute to the reopening of closed factories if other problems are solved. In addition, this could help to increase the competitiveness of non-oil exports abroad, as well as increase foreign currency reserves and attract the stored and non-banking dollars.
Serious social repercussions on citizens’ living standards cannot be excluded, with high inflation the real value of income declines and what money can buy, especially with the modest growth rates and the halt of many production factories. In other words, high unemployment coincides with the rising of inflation and reliance on importer to meet the domestic requirement, thus the suffering of families increases whenever it is linked to the commodities such as imported medicines that are indispensable for any citizen. However, with prices rising and lack of domestic alternative, health care will decline and morbidity and mortality increase in such difficult living conditions.