The Rt Hon Sir Edward George GBE: Overview of recent
financial and economic developments in Iran
Speech by The Rt Hon Sir Edward George GBE, Governor of the Bank of England, at the Iran Invest
2000 Conference, held in London, on 28 September 2000.
* * *
I am delighted to be able to take part in this conference, and particularly pleased to be sharing the
platform this morning with Governor Mohsen Nourbakhsh of the Central Bank of Iran, Bank Markazi.
I first met Governor Nourbakhsh soon after he became Governor in 1994 - which was not an easy time
for Iran. I was immediately impressed not only by his command of the issues confronting him - which
was perhaps not surprising: it was his second period in office as Governor, having in the meantime
taken a vacation as Minister of Economic Affairs and Finance, and as Deputy to the President, with
responsibility for Economic Affairs. But I was immediately impressed too by his calm and always
reasoned approach and by his reliability. He has played an important role in steering his country
through a difficult period to the more promising prospect that Iran faces today. Since our first meeting,
I have very much enjoyed the opportunity of seeing the Governor periodically at a whole series of
international meetings, and it is a very great pleasure, Mohsen, to be able to join in welcoming you
here to London this morning. I have been immensely interested in - and greatly encouraged by - what
you have had to tell us.
Perhaps I might add a few observations of my own - from my inevitably more distant perspective.
For much of the past two or three years the external environment facing Iran was a difficult one. The
slowdown in world economic growth in the wake of the global financial crisis and the associated fall
in oil prices - to an unsustainably low level - significantly weakened the financial positions of all
major oil-exporting countries. Iran was no exception. The current account swung from a surplus of
2.2% of GDP in 1997/98 to a deficit of over 2%. And the fiscal position deteriorated to a deficit of
6.7% of GDP.
But Iran's response to worsening economic conditions was a positive one. The authorities began to
formulate a medium-term reform strategy, which has now been articulated as the Third Five Year
Development Plan. Since then, the combination of sound economic management at home, coupled
with continued economic expansion in the industrial countries and rising oil prices, have improved
Iran's prospects considerably.
The IMF forecast GDP growth of 3.4% in Iran in 2000/01. The external account has strengthened,
with a surplus of 4.7% of GDP recorded in 1999/2000. And the budgetary position swung from deficit
to a surplus of 1% of GDP in 1999/00. Foreign exchange reserves have risen by $2 billion to $6 billion
since 1998/99. Although inflation remains still quite high at around 20%, broad money growth has
shown signs of moderating. Debt levels are also now below the average for emerging market
economies. Perhaps above all else, it is encouraging that the authorities have not rested on their
laurels, but have instead sought to take advantage of this recent more favourable economic
environment to increase the momentum of reform. The overall macroeconomic prospect, therefore, is
a positive one.
The Third Five-Year Development Plan represents an ambitious step forward. It maps out a realistic
sequence for a balanced liberalisation of Iran's economy. The aim of increasing growth to 6% per
annum, from an average of 2.5% between 1997 and 2000, should generate employment opportunities
for the growing labour force and help to raise living standards. The plan aims to promote growth
through privatisation and liberalisation, and to enhance stability by further encouraging diversification
of the economy. Macroeconomic policies under the plan are aimed at fiscal consolidation to help
reduce inflation, broadening the tax base (including the introduction of VAT), and unifying exchange
rates at a market-determined level. Exchange controls will be further loosened. And it is planned that
price distortions due to state subsidies will also decline. These are ambitious and wide-ranging plans
and the key is now implementation.
The climate for business investment in Iran has steadily improved over the past decade, in particular
following the election of President Khatami in 1997, as the process of liberalisation has accelerated.
There has already been progress with privatisation, especially in the hydrocarbon industry. There are
plans to restructure and privatise over 500 state enterprises during the next five years, and to
commercialise - or "autonomise" - Iran's state-owned banking system. Trade and foreign investment
are being encouraged by the extension of Iran's free-trade zones. And new legislation is expected soon
to simplify and clarify the Law for the Encouragement and Protection of Foreign Investment. These
are all clearly positive steps.
Iran is, of course, OPEC's second largest producer and has the second largest reserves of gas in the
world. It has benefited from the recent rise in oil prices and is playing a positive role in promoting the
stability of the oil market. President Khatami recently noted that OPEC may need to raise output in
proportion to the increase in global oil demand to stabilise prices.
The government has taken positive steps to encourage foreign investment in the petroleum sector. For
example, they have facilitated foreign participation in contracts to redevelop oil fields, and they have
also signed an agreement with a consortium of nine leading international oil and gas companies to
study Iran's potential as an exporter of gas.
The government is, moreover, actively seeking to cushion the economy from future fluctuations in the
oil price. Establishing an Oil Stabilisation Fund, which ensures that the government balance sheet is
strengthened when oil price movements are favourable, should help insure against the type of debt
servicing problems faced by many emerging market economies during the difficult international
environment of 1997-98. Iran was able to maintain an excellent debt service record through this
period, and prudent debt management policies should help preserve this record going forward. Total
external debt is expected to decline to around 10% of GDP this year, and short-term debt to only about
40% of reserves, having fallen from around 65% in 1999/2000. The strong external position has
encouraged the World Bank to approve loans of some $230 million this year. Importantly, it should
hold Iran in good stead in attracting inflows of private capital, which are so crucial to a country's
long-term growth prospects.
The international financial crises of 1997-98 stemmed largely from vulnerabilities within countries'
financial systems. In the aftermath of the crises, the official community has been assisting the financial
sectors in emerging market economies through technical assistance and improved surveillance. This
has been an area of notable success in the redesign of the international financial architecture.
A key step in this regard has been the joint IMF-World Bank initiative of Financial Sector Assessment
Programs, or FSAPs. The FSAP process is designed to identify and assess strengths and weaknesses in
financial systems from a best practice standpoint including: assessing financial institutions' structure
and soundness; reviewing systemic risks in payment systems; examining the legal framework and the
system of official oversight and prudential regulation and supervision; and assessing institutional
arrangements for crisis management, including financial safety nets. Iran is addressing these aspects of
the financial infrastructure and, in formulating and implementing their reform programme, Iran has
maintained a constructive engagement with the IFIs. I am particularly pleased that the Bank of
England will be involved with an IMF-World Bank led technical assistance team on financial sector
restructuring and supervisory and regulatory frameworks for banks in Iran during the coming year.
Another key element of efforts to strengthen the international financial architecture has been the
development and implementation of a range of international standards or codes of good practice.
These codes are not meant to lay down strict or inflexible rules. They are designed, however, to
promote best practices, while recognising that financial systems are likely to differ across countries
and across time. The IMF and the World Bank, working together with the relevant standard-setting
bodies, have been helping economies undertake assessments of their observance of some of these
standards.
Iran is currently working towards the adoption of internationally accepted best practice standards in a
number of areas. The central bank is developing a new bank accounting framework, which represents
a move towards international accounting standards, while taking account of the special features of
Islamic finance. The authorities are also developing an action plan for implementing supervision
reforms. These developments ought to be good news for prospective investors in Iran. They also help
illustrate that international best practice standards can be flexible enough to accommodate individual
country circumstances.
The move to a more market-oriented environment brings with it new challenges. For example,
liberalising exchange controls and freeing the exchange rate to market forces brings risks as well as
opportunities. A sequenced approach to capital account liberalisation helps mitigate these risks and
that is the route Iran has pursued. But that is not to say reform has stalled.
Since mid-1999, the central bank has taken important steps to improve and simplify the foreign
exchange market, including allowing the exchange rate to depreciate to market clearing levels. In
March 2000, requirements to surrender non-oil export receipts to the central bank were abolished. The
intention now is to introduce a direct, interbank foreign exchange market, and to eliminate an advance
import deposit requirement by March 2001. These will be important further steps in increasing Iran's
exposure to international competition which in turn can contribute to its productive efficiency.
Exchange rate unification and the partial liberalisation of trade and exchange controls will make
greater demands on the effectiveness of monetary policy. For example, monetary expansion may arise
from the phased reduction in banks' reserve requirements. It will be important for the central bank to
develop effective monetary instruments to sterilise the monetary impact of these reforms, and support
the central bank's target for inflation. The issuance of CDs, together with the partial liberalisation of
credit allocation, are all sensible and commendable steps. And I know that the central bank is actively
considering additional possibilities. These measures will make for a financial system in Iran that is
more efficient, liquid and transparent - and thereby more attractive to potential market entrants.
Mr Chairman, economic progress in any one country is not just a question of that country's national
interest, it is - in today's increasingly economically and financially integrated world - a matter of
collective, international interest. That is true both at the macro- and at the microeconomic level - the
level of individual businesses and firms. That's why I think it is important that we encourage the
forces working for reform and liberalisation by engaging constructively with them. Iran has embarked
upon an ambitious, but realistically measured, programme of reform and liberalisation through the
Third Five-Year Development Plan, and it is taking advantage of the present more favourable
conditions in the world economy to advance that programme. I wish you, Governor Nourbakhsh, and
the authorities in Iran all possible success in achieving your objectives in the interests of the Iranian
people and in the interest of us all.