Is Iran a star economy waiting to step into the spotlight?
It’s been compared to the emerging markets of Turkey, Nigeria and Poland in terms of the size of its population, its daily trading volume and the total market cap of its stock market. Estimates of its GDP suggest it could be compared to Taiwan or Argentina.
In some fundamentals, Iran has the potential to become a promising emerging market. Will Iran shed its status as an international pariah and commence fulfilling its economic potential?
It could be argued that change is already occurring. It’s thought GDP could rise by 3% this year as the country emerges from recession. France recently dispatched a sizeable trade delegation to Iran, and frontier fund investors are starting to pay attention.
Tehran’s stock market rose 130% in 2013, although it’s since fallen back. Whilst overseas investment into the economy is presently extremely low, it’s thought feasible that Iran could attract investment in the car, steel and heavy machinery industries before the decade is over.
It could be argued that Iran fits the classic profile of a frontier economy almost perfectly. Along with other frontier economies such as Vietnam, Nigeria, and Pakistan, it’s at an earlier stage of development relative to slightly more established emerging markets.
Like many frontier economies it’s recently seen good growth and it has a demographic profile working in its favour. If sanctions are lifted – and that’s still a big ‘if’ – oil revenues could make a significant contribution to infrastructure spending. Again, that assumes the political leadership is able to channel the revenues from oil sales to where they could serve the country best. In theory at least, everything is in place to catapult Iran from political outcast to an envied economic position. It is however important not to underestimate the ability of a well-favoured economy to shoot itself in the foot.
With a population of 78 million, Iran is similar in size to Turkey – which was until recently one of last decade’s biggest economic success stories. But it also has something Turkey cannot boast: around 9% of the world’s oil reserves.
That’s arguably enough to be a significant resource asset but not so much that the country comes to depend too much on this as a single source of income. Oil dependency is a pretty short-term strategy for a country and leaves it vulnerable to price fluctuations – a mistake Iran should avoid making.
Already the world’s 27th largest economy, Iran has a sizeable GDP. It’s been estimated that it is comparable in value to that of the economies of Argentina and Taiwan, and is larger than those of Austria and Thailand. Moreover, it’s in a great location: right between Europe, Russia, and the booming markets of the Gulf, with Asia within reach. Education levels are also pretty high – again comparable to Turkey. Internet penetration in the country is estimated to be around 57% – so higher than India or China and currently the highest online population in the Middle East.
But there are still many things holding Iran back. Penalties and sanctions imposed by Western economies over Iran’s refusal to halt its uranium enrichment program have severely impacted on the economy. It’s unclear what the future for those sanctions might be.
External political reform in terms of its relationships with other countries will clearly be just as essential as internal economic ones. Iran has already adopted a less aggressive rhetoric towards its neighbours but sanctions are still a long way from being lifted. It will be essential for Iran to be able to sell its oil freely overseas in order for real economic progress to occur.
Inflation is running at over 20% and the government is actively trying to cut subsidies and spending in order to balance the budget – never a way for an administration to guarantee popularity. Voters are being hit hard by the cuts and it isn’t certain the reformist government can survive.
To external investors, there’s plenty to find objectionable within Iran’s idiosyncratic markets. Outsiders struggle to understand the corporate or government bonds system, and there seems to be no functioning repo rate (the rate at which the central bank of a country will lend to commercial banks in the event of any shortfall of funds) or interbank interest rate (the rate of interest charged on short-term loans made between banks in order to maintain liquidity). It’s also rather alarming that profiting from currency exchange fluctuations can lead to jail terms.
On the plus side, for the first time in many years Iran has a leadership that’s more concerned with economics than religious orthodoxy. Senior leaders, including the president, have been educated in the West. But many within the country have vested interests in the status quo and it will be a struggle to push through necessary economic reforms. Corruption remains a problem. The country has recently experienced recession and unemployment remains high as it struggles to correct the legacy of previous mismanagement under past leaderships.
Whilst some frontier funds are considering entering the market within the next year, others are adopting a wait and see policy. Even if sanctions are removed, a return to the energy markets isn’t a guaranteed fix for Iran’s economic woes. A sudden influx of capital from overseas oil sales could actually worsen inequality within the country and further de-stabilise the political situation.
Iran’s presently in a state of flux. Braver investors are watching from the sidelines but it’s clear things could change very quickly for this country with so much potential. Although things could really change for the better for this volatile economy, potential is no guarantee of success.