Yasi put it in place.

Ibrahim Raeisi had promised to bring inflation down to under 20% within two years after his successful election as president, but after approximately one year into his presidency, a new record was set. Inflation in Khordad month of 1401 is considered a new record in the Iranian economy that has not been seen since the end of the Iran-Iraq war. This has caused a lot of concerns and sparked many debates among experts and economic activists about the continuation of this trend and the acceleration of general price growth beyond the usual rate.

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Demand stimulation.

Monthly inflation in Iran is generally between one to three percent, but the reported number for the month of Khordad (May-June) reached over twelve percent. Part of this increase was due to the government’s new policy of eliminating the four thousand and two hundred toman exchange rate, but other factors also played a role in triggering the inflation in Khordad. (1) After reports of widespread corruption, depletion of foreign currency reserves, confusion in economic institutions, and issuance of numerous circulars, the Rouhani government finally decided to abandon its preferred exchange rate policy; a policy aimed at preventing price increases and dictating the desired dollar rate to the markets, but ended up doing the opposite. We should not reduce the issue to just this policy and analyze it so simply, but rather a thorough examination of the trend of prices and monthly inflation in Iran over the years can make these concerns more logical.

According to many experts, the inflation in Khordad month after the removal of the 4,200 tomans currency in Ordibehesht month has led to the belief that the removal of the 4,200 tomans currency was the cause of the inflation in Khordad month, while others believe that the inflation shock in Khordad month was the result of a combination of factors such as money growth, expected inflation, and the war in Ukraine. However, there is no reason for this trend to continue.

According to the estimates of the Statistical Center of Iran, from April to June, there was an average increase of 12.2% in the prices of goods and consumer services, which is the highest monthly inflation rate in Iran since it has been published by the Statistical Center in 2002. The majority of this monthly inflation is due to the rise in food prices, which increased by an average of 25.9% in just one month.

To understand the importance of these numbers and their magnitude, it must be considered that if prices increase by one percent monthly, after one year we will face a twenty percent increase in prices. A monthly growth of 2.8 percent in prices will result in a forty percent inflation after one year. The overall monthly inflation for consumer goods in the month of Khordad was more than four times and for food items more than nine times this figure. The average monthly inflation in the past twenty years has been 1.6 percent and the previous record for this index was 7.1 percent, which was recorded in Mehr month of 1397 (October 2018).

Empty promises.

During the ten months since the start of the thirteenth government, the main inflation index (twelve-month inflation rate) has gradually decreased from 45.2% to 39.4%, but due to unprecedented monthly inflation in June, this index is likely to continue to rise until the end of the year. The reason for this issue is the method of calculating the twelve-month inflation rate; an index that compares the average prices of the past twelve months with the average prices of the twelve months before that. This is why despite a 12% increase in prices in June, the twelve-month inflation rate only increased by 0.7% compared to April.

In the first nine months of the Ibrahim Raisi government (September 2021 to April 2022), the monthly inflation rate fluctuated between 1.3% and 3.9%, with an average increase in prices of 2.7% per month. If the monthly inflation rate remains at this average of 2.7% for the remaining months of the year, the inflation rate will increase to over 40% by July and reach around 48% by December. On the other hand, if prices increase by 3.9% every month, inflation will reach over 50% in the winter and could potentially go up to 55%.

But if the government can keep monthly inflation at 1.3%, the inflation rate for the rest of the year will remain at around 40%; something that is more likely to happen according to many optimists, and with the tools at its disposal, the government will be able to control inflation and prevent a rapid increase in the coming months. Currently, the main factor contributing to the country’s inflation rate is the change in the policy of allocating 4,200 tomans for each dollar, which has had an impact on food inflation. The monthly inflation rate for food in the month of Khordad was recorded at 25.9%.

It does not seem that in the past decades, the inflation rate of food has increased to this extent in one month, and in this regard, we can add the record of food inflation to the eventful month of Khordad. If you look at the list of items that have experienced the highest price hikes, vegetable oil prices have increased by almost 200%, dairy and eggs by nearly 50%, and prices of meat, chicken, bread, and grains (including pasta) have all risen by an average of about 20%. It is clear that the government’s decision to remove preferential currency, import vegetable oil and oilseeds, and increase the price of flour have been the main factors in this dramatic increase in prices.

According to the statistics center of Iran, in the group of non-food goods and services, the hotel and restaurant group had the highest increase in prices due to the rise in prices of sandwiches and served dishes in restaurants. The furniture and household goods group also had an increase in prices due to the rise in prices of cleaning products. The health and medical group had the highest increase in prices compared to the previous month due to the increase in prices of outpatient and hospital services. (3).

What do optimists and pessimists say?

In order to better understand this issue and find a logical answer to concerns about the continuation of inflation in June, both pessimistic and optimistic arguments about the future must be analyzed and examined. According to some, this inflation shock is the result of a coincidence and convergence of multiple factors that will not be repeated. Based on this, several reasons can be listed for the occurrence of such phenomena:

a) Evidence shows that the fundamental growth of money and liquidity in the current year has reached a new record and set a high record. Apparently, this issue has occurred in the final months of the year. It was expected that the inflationary consequences of this would appear with a two to three-month delay in the Iranian economy, which has happened.

B) Another significant event that occurred in 1401 was a sharp increase in wages. Although this may have been seen as beneficial for employees and workers, it can also lead to inflation as the rise in wages translates to higher demand for goods and services. This can create a shortage in supply and production may not be able to keep up with the increase in demand, resulting in inflation in consumer goods.

C) The third phenomenon that has had a significant impact on the inflation shock in Khordad month is the expected increase in inflation due to the sharp decline in hopes for a nuclear deal. It seems that the negotiations on the JCPOA have been halted and there are no positive signs of improvement in the negotiation process. On the other hand, there have been intense efforts to bring Iran’s case to the Security Council and the military threats between Israel and Iran have escalated. These events have not gone unnoticed by the public and economic activists. Just as Rouhani’s rise to power in 2013 led to a decline in inflation expectations, the suspension of negotiations has caused inflation expectations to rise again. This naturally manifests itself in the rise of prices in asset markets such as currency, gold, and housing.

D) Global prices have also increased due to the coronavirus and the Russian-Ukrainian war, and this has been reflected in import prices. It cannot be denied that the growth in global prices will be reflected in the growth of domestic prices. (4).

There are many issues that can lead to an increase in the overall price level, and pessimists believe that the government’s effectiveness in controlling inflation is questionable. For decades, budget deficits and the conversion of oil export revenues into rials have been key drivers of monetary growth and inflation, and despite promises from the government and central bank, there is still no evidence of serious efforts to control monetary growth. Although some consider the inflation in Khordad month to be an exceptional event, the same monetary factor has been listed as the cause of the 12.2% inflation in Khordad month. However, the fear of continued monetary growth and the government’s inability to control it provide a more logical argument for pessimists.

The increase in the dollar rate, which in the past year has reached from 24,000 tomans to 32,000 tomans, along with the general increase in global commodity prices (due to the war in Ukraine and rising energy prices), has led to an increase in the prices of imported goods and is likely to have an impact on future months. For example, the increase in import costs has allowed the government to allow home appliance sellers to raise prices by 10 to 15 percent. On the other hand, the acceleration of the trend of rent increases is also likely to contribute to inflation in the coming months.

Considering all these factors, it seems unlikely that the government will be able to keep inflation at the optimistic scenario level (monthly increase of 1.3% in prices) and it is not unlikely that the inflation rate will reach a new record by the end of the year.

Changing the direction of inflation.

The fundamental question is which of the previous scenarios are more likely to occur and overall, does the government have the means to prevent the occurrence of inflationary shocks and change its course or not?

According to experts, the government’s strategy to control inflation must be based on two main policies: budget and monetary policies. Undoubtedly, the main cause of chronic inflation in the long run is the imbalance in the budget and banking system. This imbalance ultimately leads to the central bank providing basic monetary resources, resulting in an increase in inflation rates. Therefore, if the government wants to address chronic inflation, it must seriously consider the state of these two factors.

Chronic inflation in the Iranian economy has always been rooted in budget imbalances or budget deficits. Therefore, by implementing government budget policies, it will be able to establish a balance between its income and expenses and thus control the liquidity, which is considered the main factor in inflation. Monetary policy, as a tool that can be used in the short term, can also control price shocks and prevent this factor from turning into inflation at the macroeconomic level.

In addition to Iran, inflation has also occurred in most countries around the world and the central banks of these countries have tried to control this destructive economic phenomenon by using monetary policy tools, such as interest rates. The Russian military invasion of Ukraine, the ongoing quarantines in China due to the spread of the coronavirus, the continued energy shortages and disruptions in supply chains, and the increase in public demand at the end of the two-year government restrictions to combat the COVID-19 pandemic have disrupted the previous balance between supply and demand. This has led to an increase in the general level of prices for various consumer goods and services, causing concern for many governments and forcing them to adopt compensatory policies. (5).

In response to the alarming inflation rates, central banks of Europe, Britain, Sweden, Norway, Canada, South Korea, Australia, and the United States have all gone to war against inflation by adopting a policy of increasing interest rates. This is because preventing inflation shocks and ensuring economic growth by controlling inflation at an optimal level is one of the main missions of central banks as institutions responsible for setting and implementing monetary policies without government interference.

One of the tools of the central bank’s monetary policy is interest rates, which when low, means cheaper money and loans, leading to increased investment, economic growth, and reduced unemployment. On the other hand, with an increase in interest rates, the ability of a group of people to take out loans and the economic justification for investing in certain projects decreases or disappears. Therefore, overall, the liquidity in the hands of the people decreases compared to a time when banks distributed cheap money with low interest rates, and their ability and enthusiasm to buy and spend decreases.

A decrease in demand and overall consumption, as well as a decrease in the speed of money circulation, leads to a decrease in the rate of inflation or general price level. Although an increase in interest rates leads to a decrease in demand, the continued rise in energy, basic metals, and staple food prices, including wheat and oil, will not allow many producers to lower their selling prices in response to the decrease in demand. This is because the cost of their products will continue to increase. Therefore, an aggressive monetary policy and estimating the optimal interest rate is like walking on a tightrope. This is because excessive tightening of money can have a negative impact on economic growth, sales, and income of companies, and can force employers to adopt policies such as reducing wages and laying off workers. Therefore, in the short term, the main tool for controlling inflation is to use monetary policies such as interest rates.

Although optimists also confirm that the increase in inflation is caused by the rise in food prices and the outcome of the removal of the four-hundred-thousand-toman currency, this issue has also occurred in other countries that have used monetary policies to control inflation. However, the inflation rate in these countries has not exceeded ten percent at worst. Meanwhile, inflation in Iran has been reported to be fifty-seven percent in the past month.

It should be noted that relying on nuclear negotiations and agreements with the West for reasonable economic opening does not seem feasible. Political news and indicators are not moving in a positive direction and we should not expect too much from nuclear opening and inflation adjustment; therefore, it seems that the most effective tool available to the government is this monetary policy, specifically increasing interest rates, which can control inflation in the short term. However, using interest rate tools will not be without cost and there is a fear that with the current economic recession, stagflation in Iran will worsen.

The important point is that changes in interest rates in monetary policy should be proportional to changes in inflation rates, and this tool can be effective for policymakers in the short term. Immediately after a decrease in inflation, interest rates can be gradually reduced; a situation that occurred in the Russian economy during times of war and sanctions, ultimately leading to a decrease in the country’s inflation rate. Therefore, changes in monetary policy can occur in the short term and after a decrease in inflation, contractionary policies can be eased and opportunities for production improvement can be provided.

Interest rate or exchange rate?

The experience of past years shows that in such situations, the government has used less monetary policy tools and has leaned more towards exchange rate policies. In 1995, the exchange rate was the main factor in increasing inflation, and by controlling and reducing the exchange rate, the inflation recession decreased by about twenty percent during the time of the government. In this year, the Rafsanjani government, contrary to the principles of structural adjustment policies, tried to control inflation by adopting two strategies: forcing the return of export earnings and regulating the demand for foreign currency in the exchange rate market. (6).

The appropriate policy in inflationary conditions, which most countries also follow, is to increase interest rates. However, the extent to which interest rates should increase depends on the current inflation rate, inflation predictions, and other factors. Increasing interest rates is an appropriate policy for controlling inflation, provided that its infrastructure is provided in the economy and the policy framework is properly implemented. The groundwork and framework must be provided for the effectiveness of interest rates in the economy. (7).

In general, it is not possible to evaluate the economy of Iran in a similar way to economies like the United States or other developed countries, where an increase in interest rates immediately affects inflation rates. There are no effective measures for interest rates in our economy, and any increase in rates must be done cautiously and simultaneously with providing necessary infrastructure. First of all, we must identify unhealthy banks that are facing severe and deep insolvency in their current operations, as an increase in interest rates will worsen their situation. Therefore, a special policy package must be considered for these banks to avoid being affected by the increase in interest rates, or for example, in order to raise interest rates to the necessary level, we must have predictions and estimates of inflation and inflation expectations in the economy. Additionally, all mandatory directives that raise or lower interest rates must be abolished, as was experienced in Turkey by Kemal Derviş. It makes no sense for the interbank interest rates to rise, but on the other hand

Notes:

1- Monthly inflation rate hits record high, IMNA news agency, 10 Tir 1401.

2- The inflation rate of households in the country reached 52.5%, IRNA News Agency, 1 Tir month 1401.

3- Consumer Price Index, Khordad 1401, National Statistics Portal, 1 Tir 1401.

4- Was the inflation in Khordad (May-June) a coincidence? Interview with Dr. Ali Sarzaeem, EcoIran website, 1 Tir month 1401 (June 2022).

5- Basij central banks of the world to increase interest rates, EuroNews Farsi, June 26, 2022.

6- Government measures to control inflation, Young Journalists Club, 23 Aban 1400.

7- The Mystery of Interest Rates, Interview with Kamran Nedari, Shargh Newspaper, 31 Khordad 1401.