Stagflation

There is a consensus among Iranian economists that Iran's economy is bearing a severe stagflation situation. Nevertheless, there is no consensus over the appropriate policies to end the stagflation; sometimes there are different and opposing approaches in this regard. Economic experts must initially have a deep understanding about the factors that explain how stagflation occurs. Thus, they can take proper policies to mitigate and finally end stagflation.
In general, stagflation may occur due to demand-supply changes. The stagflation may occur following the expansion of aggregate demand for instance by implementing the expansionary fiscal and monetary policies. Expansionary fiscal and monetary policies may result in short-run prosperity by increasing the aggregate demand; however, this is a false prosperity and may lead to stagflation in future. The last experience of stagflation in Iran has occurred in 2008.
Expansionary fiscal and monetary policies in the years 2006 and 2007 lead to a short-term prosperity which ultimately in 2008 ended in higher inflation rate and lower economic growth or in other word stagflation. What is the solution to stagflation in Iran? In the first place the best solution is prevention, meaning that policy makers in the economic field must not vote for expansionary monetary and fiscal policies. Nonetheless, once stagflation occurred, contractionary fiscal and monetary policies are a solution to end it. Such policies worsen the stagnation temporarily; in order to mitigate inflation there is no way other than bearing such side-effects.
At the moment the condition of Iran's economy is quite complicated, though. The current stagflation is not due to the former expansion of aggregate demand, rather the result of current contraction in the supply side of the economy. Shocks such as increase in the price for energy, natural disasters, and war are among the most important factors of aggregate supply contraction. Obviously, the aggregate supply contraction is due to economic sanctions. Economic sanctions are the main factors in the incident of stagflation in Iran's economy since 2012. These economic sanctions such as on oil, financial institutions, and on Iranian companies have resulted in lower revenues, instability in exchange rates, multiple exchange rate regimes, difficulties in financial and commodity exchanges with foreign countries, higher risks & uncertainties and lower economic security and consequently the contraction of the aggregate supply side and stagflation. What is the proper policy to end stagflation?
To end stagflation it is crucial to note that implementing the active monetary and fiscal policies is not effective since the most important cause of stagnation is the contraction of the supply side resulting from economic sanctions. Although contractionary monetary and fiscal policies may lower the inflation rate, yet in this situation lower inflation will be achieved by exacerbating and deepening the economic stagnation. Considering the 10 % decrease in economic growth for Iran's economy, contractionary monetary and financial policies are not appropriate tools to lower inflation as prolonging stagnation. On the other side, the expansionary monetary and fiscal policies -which normally stimulate the growth rate via the demand side- will not be effective in mitigating stagflation. This may exacerbate the inflation and worsen stagflation via price distortions.
Considering all the problems, what is the solution to stagflation? The appropriate policy lies within the realm of foreign policy and not the usual macroeconomic policies. Whilst insisting on the fundamental rights of Iran the foreign policy must lower the tensions in foreign affairs and try to lift the sanctions as soon as possible. In this way, increasing oil revenue, stabilizing the exchange rate and shifting to a single exchange rate regime, facilitating the commodity and financial exchange, strengthening economic collaborations with foreign partners, lowering risks and uncertainties and increasing the economic security will provide the ground to expand the aggregate supply side and end stagflation. The successful performance of the government in the field of foreign policy, especially achieving the initial Geneva agreement over Iran's nuclear power program, has resulted in stabilizing the exchange rate and lowering the inflationary expectations. This has led to a noticeable decrease in the inflation rate. At the same time decrease of economic risks and improvement of foreign exchange have prevented further negative growth and increased production. Therefore, if foreign relations improve and sanctions are lifted then the stagnation and inflation are resolvable in the short-run.
Under the light of Iran's current condition the best alternative is implementing conservative policies (i.e. neither expansionary nor contractionary) which aim at achieving monetary growth; the goal here is not lowering the inflation or increasing the prosperity. It is true that stable improvement in foreign relations results in higher production performance; however, the only way to achieve stable one digit inflation rates is having stable monetary and fiscal disciplines. The monetary contraction and stable decrease in the liquidity growth rate is key policy on the way to a stable one digit inflation rate. The government must go for this goal only after gradual resolution of the current stagflation.
Iran's economy is gradually passing the high 7% stagnation of 2013 by
A report by the central bank of Iran shows that the economic growth under the former administration during 2009-2011 has respectively been 1.3, 6.5 and 4.3 % instead of 8%. Moreover, the size of the economy has shrunk by 6.8% in 2012. The negative growth rate along with a 30.5% inflation has been the sign of heavy stagflation in Iran's economy. The situation gradually got improved after the new administration was elected following the eleventh presidential election. In September 2013 the stagflation reached to minus 2.3, yet the inflation rate continued its growing and reached to 41.6 by the end of summer.
According to Hamshahri's report, the considerable negative value added of the oil sector (37.4) caused the stagflation in the year 2012. By excluding oil industry records from the total growth rate in 2012, the growth rate has been minus 0.9%.
The growth rate for 2012 was announced to be 6.2. However, according to the deputy of the central bank, Akbar Komijani, the growth rate was reduced to about 0.6% after including the value added of the agricultural sector. The economic team of the eleventh administration has promised to overcome the stagnation in the current year and to improve the growth rate at least up to 0%. On the other hand, the latest report of the Majlis Research Center warns about the probability of decreasing the growth rates in Iran.
The Industry in the first half of 2013
One of the serious worries of economic experts and actives is that the value added of the industry, mining and construction sector was even more negative in the second half of last year. The good news is that Mohammadreza Nematzade, the Minister of Industry, Mining and Trade, has recently talked about prosperity in Iran's industry and mining. The official statistics of this ministry show that despite the 5.6% growth in the number of licenses for the establishment of industrial units, the investment level for the establishment of industrial units has decreased to 29% compared to the previous year. Moreover, the amount of industrial licensing and investment units has decreased respectively to 36 and 43.5 % compared to the year before.
According to the statistics of the Ministry of Industry and Mining, the central bank has estimated that the number of licenses and investment for establishing new industrial locations has increased respectively to 32.6 and 103 % units by the end of last summer, whilst the demand for utilization of the industrial units has decreased to 56 %; the investment in these units has increased by about 16.8%. Moreover, the production index of large industrial manufactures in Iran was negative for the summer 2013 (8.5) which show a half percent improvement in relation to the index of 2012.
The editorial of Donya-e-Eqtesad