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By Albrecht Frischenschlager

By Guy Denimore (Financial Times)

By Yazdan Karbasi

By Albrecht Frischenschlager

By Albrecht Frischenschlager

By Yazdan Karbasi

By Albrecht Frischenschlager

How Iran Finances Itself


Iran has plenty of oil exports and thus plenty of income in hard currency. But Iran has also a large population of 65 million, huge subsidies and a highly inefficient economic management system with approximately 80% of the economy controlled directly or indirectly by the government. Thus, making ends meet is a difficult task for the Iranian government.


As a starting point let us take next year’s budget draft, which has recently been presented by President Khatami to the Parliament. Before delving further, it should be noted that for transferring the Rial figures into US$ the Tehran Stock Exchange rate of 7,900/US$ has been utilized, unless stated otherwise. The same rate has also been assumed by the Management and Planning Organisation (MPO) for their planning purposes.


The Five-Year Economic Development Plans set the framework for every government budget. Currently the Third Five-Year Plan (March 20, 2000 to March 20, 2005, here on referred to as “Third Plan”) is in force. The Third Plan gives basic guidelines for the budget and sets priorities for the development of the country


Structure of the 1380 Budget


The proposed budget for 1380 (March 20, 2001 – March 20, 2002) amounts to Rials 449 trillion (US$ 57 billion). Out of this Rials 136 trillion (US$ 17 billion) is allocated to the government’s general budget, Rials 290 trillion (US$ 37 billion) are allocated to state-owned companies, non-profit making institutions affiliated to the government and banks and Rials 23 trillion (US$ 2.9 billion) are allocated to special expenditures.


The government’s general budget for 1380 shows a nominal 23% increase compared to this year’s budget. Based on an estimated inflation of 13% in 1380, next year’s budget shows a real growth of approximately 12%.


The revenue side of the government’s general budget totals Rials 135 trillion (US$ 17 billion) and is divided into (a) revenues from the sale of oil and gas (Rials 68 trillion or US$ 8.6 billion), (b) tax revenues (Rials 44 trillion or US$ 5.6 billion) and other revenues (Rials 23 trillion or US$ 3 billion).


The expenditure side of the government’s general budget totals Rials 136 trillion (US$ 17 billion) and is divided into (a) current expenditures of Rials 102 trillion (US$ 13 billion), and (b) development expenditures of Rials 34 trillion (US$ 4 billion).


As the government has put main emphasis on increasing tax revenues let us take a closer look at this figure. Tax revenues can be split up into (a) Rials 28 trillion (US$ 3.5 billion) in direct taxes and (b) Rials 16 trillion (US$ 2.1 billion) in indirect taxes. Direct taxes can be subdivided into Rials 16 trillion (US$ 2 billion) in corporate taxes, Rials 10 trillion (US$ 1.2 billion) in income tax and Rials 2 trillion (US$ 0.3 billion) in wealth tax. Indirect taxes can be subdivided into Rials 9 trillion (US$ 1.1 billion) in import tax and Rials 7 trillion (US$ 1 billion) in sales tax.


‘Other revenues’ consist mainly of various duties, fees and profit from government companies.


The budget deficit amounts to Rials 1.2 trillion (US$ 150 million) down from Rials 3.6 trillion (US$ 450 million).


Cash Flow & Complex Accounting


After understanding the main structure and figures of the budget let us next take a look at the government’s cash flow in US$ and Rials.


Iran earns hard currency mainly from the export of crude oil. Iran plans to produce next year an average of 3.8 million bbl/day (up from 3.7 million bbl/day this year) of which an average 2.2 million bbl/day or 820 million bbl/year will be exported. The Ministry of Oil predicts an average price of US$ 20/bbl (currently Iran earns US$ 29/bbl). This results in US$ 16.2 billion in revenues from the sale of crude. However, how does this US$ 16.2 billion fit to the budgeted US$ 8.6 billion in terms of “oil & gas revenues” for the next year?


The answer lies in the complicating internal accounting method adopted by the Iranian government. Essentially, the government receives revenues from oil sales in two phases.


For example, next year’s oil revenues are budgeted at US$ 16 per barrel.  (As a reminder, the Khatami administration has developed a “Stabilisation Fund” whereby the government only benefits from an internally set price of oil – in this case $16. The difference between this price, and the actual market price, which is considerably higher right now, is put into the said Fund in order to shield the country from fluctuations in world oil prices). The budgeted oil revenues are exchanged into Rials at a rate of 1,752/US$ (the so-called ‘Notional Rate’). This means that the export of 820 million bbl/year results in revenues of 23 trillion Rials (US$ 2.9 billion). This amount is credited at the day when the crude is lifted to the government account (Phase One). The exchange rate difference between the notional rate and the Tehran Stock Exchange (TSE) Rate is partly offset by importing essential goods at a subsidized rate of 1,752/US$. The remaining foreign currency is sold by the Central Bank in regular intervals over the year via the Tehran Stock Exchange and the proceeds in Rials (difference between the TSE Rate and the Notional Rate in Rials) is transferred to the government account at the actual time of sale (Phase Two).


The budget already specifies what amount of dollar revenues will be spent to import essential goods at a subsidized rate. For next year, this sum is tantamount to US$ 5.8 billion. Thus out of total budgeted oil revenues of US$ 13.1 billion (820million bbl multiplied with the price of US$ 16/bbl) the Central Bank will exchange on behalf of the government the remaining US$ 7.3 billion at the TSE Rate and transfer the difference to the Notional Rate in the amount of Rials 45 trillion (US$ 5.7 billion) to the government account. Together these two figures amount to Rials 68 trillion (US$ 8.6 billion).


The US$ 5.8 billion mentioned above do not cover all subsidies granted by the Iranian government. Due to the low prices of gasoline (4 cents/litre) and the increasing number of cars gasoline consumption in Iran is constantly increasing and Iran has turned into a net importer (!) of that commodity. Experts estimate that Iran will import 1.5 billion litres of gasoline next year. This additional subsidy is hidden in the oil product trade balance. Iran is expected to export next year approximately US$ 2.4 billion in refined products. However only US$ 2 billion will be shown in the official statistics. Oil products in the amount of US$ 400 million will be exchanged against other oil products (mainly gasoline). Thus total subsidies next year will amount to US$ 6.2 billion.


Now let us turn to the government’s Rial cash flow. Like many oil-rich countries in the Middle East, Iran has largely neglected tax collection and has mainly relied on income from the export of oil. However, contrary to countries on the other side of the Persian Gulf, Iran has a large population and the low oil price in 1998 has reminded the government that it cannot rely entirely on income derived from the sale of oil.


Therefore, in 1998 Iran started putting more emphasis on applying its tax laws (which existed before 1998, but have not been properly enforced). This has resulted in an over-proportional increase of tax revenues in the budget, which is easily detected in the 1380 Budget: While budget revenues increase by 25 percent, tax revenues show an over proportional increase of 29%, whereas oil revenues only show an increase of 19%. Oil revenues constitute 50% of total revenues in the 1380 Budget.


Deficits & Surpluses


Finally, after analysing the different sources of revenues and expenditures, let us take a look at what happens to the budget deficit/surplus.

The increase in global oil price certainly provided Iran with a boost in income. However, as mentioned earlier, despite the surge in oil prices, only US$ 13.85/bbl go into the budget, with the remainder going into the oil Stabilization Fund. Some 50% of this Fund is put aside for offsetting low oil prices and securing a future stable income from oil. The other 50% are used by the government for long-term investment.


Thus, taking the high oil price into account the Iranian budget would show next year a big surplus, but due to the price cap it will show a small deficit of 1.2 trillion Rials (US$ 150 million). This deficit will be financed out of the sale of participation certificates (Islamic bonds, with a tenor of 5 years, bearing approximately 20% interest).


In the past (especially in 1998), due to a combination of low oil price and low tax revenues, Iran faced budget deficits of up to 22 trillion Rials (3.4 billion US$ calculated at the average free market rate of 1998). Only a small portion of such deficit could be financed through participation certificates, with the large remainder being financed by the Central Bank of Iran and through the banking system.


As a result the government debt amounted in June 2000 to 62 trillion Rials (US$ 7.8 billion) toward the Central Bank and 7 trillion Rials (US$ 890 million) towards governmental commercial banks.


In addition, public corporations and institutions had in June 2000 another 14 trillion Rials (US$ 1.7 billion) of debt with the Central Bank and 34 trillion Rials (US$ 4.3 billion) debt with Commercial banks. This shows that of the total of 255 trillion Rials (US$ 32 billion) of loans granted by the banking system, 117 trillion Rials (US$ 15 billion) go to the government with the remaining 138 trillion Rials (US$ 17 billion) going to the private sector.


The 117 trillion Rials (US$ 15 billion) of public debt stands in sharp contrast to the only 25 trillion Rials (US$ 3 billion) in deposits of which 20 trillion Rials (US$ 2.4 billion) belong to the government and 5 trillion Rials (US$ 600 million) belong to public corporations and institutions.


The heavy use of the banking system to finance the budget has lead to a lack of financial resources for the private sector. In acknowledgement of this problem, the government is planning to repay this Iranian year Rials 2.3 billion (US$ 290 million) and another Rials 2.3 billion in 1380.


Turning from the domestic debt to the foreign debt Iran had in November 2000 US$ 10 billion (10% of the GDP) of which approximately US$ 4 billion is short term (up to 1 year) and US$ 6 billion is in medium to long-term debt. The foreign debt can be broken down in US$ 0.5 billion towards the IBRD, US$ 6 billion towards official bilateral creditors, US$ 3.5 billion towards commercial banks.


Comparing this to more than US$ 10 billion of deposits abroad shows that Iran could achieve in the course of this financial year a positive net balance.


Foreign debt is used mainly for importing foreign equipment and raw materials for large industrial projects. Heavy industrial investment in the early nineties has increased Iran’s foreign debt to almost US$ 25 billion. As a result of the high repayments combined with low oil prices, Iran had to reschedule some of its debt. However, it has successfully navigated through difficult times and has today a good financial standing.


At present foreign banks see Iranian sovereign risk at 350-400 basis points above LIBOR. This pricing is based more on political risk than economic risk. It also reflects a B2 ration that Iran has received from Moodys in 1999.


Iran has presently plenty of hard currency (approximately US$ 10 billion until the end of this Iranian year in the oil surplus fund) and has invited several foreign banks to assist in asset management.


The Central Bank is also planning to go ahead with a first Eurobond issue. This will allow the Iranian government to finance its budget deficit in the future not only via domestic financial markets, but also through the international bond market.


Making ends meet is a difficult task.












Iran’s annual budget is based on the Five-Year Economic Plan.









The budget shows a real growth of 12% compared to last year.



The government has put main emphasis on increasing tax revenues.












Iran earns hard currency mainly from the export of crude oil.












Oil revenues above a certain bench mark go into the ‘oil stabilisation fund’.










Import of essential goods is subsidized with US$ 5.8 billion.












Iran will import next year 1.5 billion litres of gasoline.







Only 50% of the oil revenues are directly shown in the budget.










The budget deficit will be financed through sale of bonds.











The public sector has US$ 15 billion in domestic debt.













Iran has currently more deposits than debt abroad.





Iran’s sovereign debt is rated approximately 4% above LIBOR.











Iran is planning to launch in 2001 its first Eurobond.



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