GASOLINE SUBSIDIES: IS IRAN FEELING THE HEAT?

C O N F I D E N T I A L SECTION 01 OF 02 IRAN RPO DUBAI 000015 SIPDIS SIPDIS STATE FOR NEA/IR, LONDON FOR GAYLE, BAKU FOR HAUGEN, BERLIN FOR PAETZOLD E.O. 12958: DECL: 3/27/2017 TAGS: ECON ENRG EPET PGOV IR SUBJECT: GASOLINE SUBSIDIES: IS IRAN FEELING THE HEAT? RPO DUBAI 00000015 001.2 OF 002 CLASSIFIED BY: Jillian Burns, Director, Iran Regional Presence Office - Dubai, Department of State. REASON: 1.4 (d) 1.(C) Summary: Despite the unpopularity of cutting subsidies at a time of high inflation, the parliament has set May 22 as the date to raise gasoline prices by 25 percent. Parliament also put an annual cap on gasoline subsidies of USD 2.5 billion. Judging from Iranian press, general Iranian opinion toward the measure appears generally negative, with some economists forecasting "massive shockwaves" and others simply predicting increased corruption in the energy sector. Some details of the plan are still unclear. Contacts reported that there has been limited distribution of "smart cards" - although wide-scale rationing through fuel cards does not seem to be on the table at this time. It will be interesting to gauge public reaction when the increase takes effect. Reducing gasoline subsidies is a positive step for Iran's macro-economic health, but it appears to fly in the face of President Ahmadi-Nejad's populist promises of redistributing oil wealth. It also comes at a time when Iran is likely looking to shore up domestic support for its nuclear policies in the face of international pressure through UNSC resolutions. However, the Iranian government may be moving now to address a structural weakness in its economy and reduce its dependence on other countries in order to lessen the impact of any future gasoline embargo on the country. End Summary. 2.(C) Fixed pump prices for the last three years boosted Iranian gasoline consumption well beyond domestic refining capabilities - forcing the government to import 40 percent of its gasoline needs. Environmentalists bemoan the impact of this high consumption, including leaded gasoline, while Iranian parliamentarians bemoan the impact that subsidies have on the federal budget. The Majles threatened to implement a fuel coupon system and/or to decrease gasoline subsidies last year, but until recently appeared reluctant to touch gasoline, as inexpensive fuel is widely viewed as an entitlement in the world's fourth oil producer. However, in early March, in a time of heightened discontent with the economy and in direct contradiction to Ahmadi-Nejad's promised populist spending, the Majles passed legislation limiting Iranian gas subsidies and raising fuel costs at the pump. Growing pressure -------------- 3.(C) Riding high on popular support for his campaign promises to bring the country's oil wealth to the people's tables, President Ahmadi-Nejad ignored former President Khatami's counsel to him to invest in industry, particularly energy sector infrastructure. He also failed to react seriously to a June 2006 letter by 50 economists on the worrisome state of Iran's economy. His policy of placating the people with populist spending appeared to falter when some of his unfulfilled promises started eroding his popularity. At the same time, his overspending sparked criticism from academics and elites, in the run-up to the December 2006 municipal elections. Since December, public debate on Ahmadi-Nejad's economic mismanagement has dominated news sources and the minds of many Iranians. (Note: An overview of the state of the Iranian economy to be reported septel. Endnote.) Hard decision by the Majles -------------- 4.(C) In this time of public discontent with the state of the economy, the Majles passed a very unpopular two-part bill: 1) placing a USD 2.5 billion annual cap on gasoline subsidies; and 2) increasing gasoline prices, which are set by the government, from roughly 8 cents to 11 cents a liter. The changes are to go into effect May 22. (Note: The Majles has postponed action on this unpopular issue before, it could do so again. Endnote) There is discussion of further price increases after subsidies are used up, but no clarity as to how much. In addition to curbing fuel subsidies, the Majles has also discussed rationing . In the run-up to the Majles decision to curb subsidies, the idea of utilizing "smart" fuel ration cards, possibly with a two-tiered pricing schedule, was debated by decision makers and in the media. Some contacts reported in January that the government was beginning to hand out ration cards, although it does not appear that legislation regarding ration cards has been passed. The current thinking on utilizing such cards in conjunction with the subsidies is unknown. RPO DUBAI 00000015 002.2 OF 002 New bill: insufficient or overly ambitious? -------------- 5.(C) Public reaction to subsidy caps and price increases, albeit consistently pessimistic, runs the spectrum from believing the measures to be insufficient to perceiving them as overly ambitious. According to a March 8 Financial Times article, Majles deputy Mahmoud Abtahi warned that a 25 percent hike in pump prices would cause a "severe shock because petrol is the life blood of the economy." Abtahi urged parliament to help off-set the financial hit to low-income groups. The same article cited Iran Economics editor Heydar Pourian as saying that a 25 percent price increase was "psychologically bearable and not much above inflation." Business newspaper Sarmayeh carried an editorial March 8 indicating that the subsidy cap was a good first step, but not enough. It argued that the problem facing Iran is two-fold, low-prices and high consumption, and that the bill only addresses the former. An economist contact predicted to IRPOff that any increase in gas prices, particularly any form of rationing or two-tier pricing, will result in greater corruption in the energy sector, similar to "the last time the government tried rationing." (Note: A rationing system used during the Iran-Iraq war was reportedly heavily exploited by those with close government ties. Endnote) 6.(C) Comment: The Majles is finally taking difficult steps that will provide long-term economic benefits to combat Iranian economic mismanagement and end the substantial drain on foreign reserves caused by the gasoline subsidy. This is a positive step in economic terms, whatever the motivation. The driving factor for taking such an unpopular measure at this sensitive time, however, may be to insulate the country from a possible US or UN gasoline boycott for Iran, given that the idea has already circulated in the media and in the US Congress. Iran can reduce its vulnerability to such a future step by reducing gasoline imports now, while at the same time reducing Iran's dependence on foreign countries, long a foreign policy priority. As part of this policy, it is also planning to bring new refineries on-line, but of course, this is a longer-term solution. As long as US policy remains to try to target the impact of sanctions on the Iranian government and not the Iranian people, a gasoline boycott is probably not a good option. While it would have a significant impact on Iran, it is difficult to gauge its impact on popular opinion and may have the reverse impact as the one we desire. Although it is difficult to generalize, a rise in gasoline prices by the Iranian government could increase its unpopularity in the minds of the Iranian people; a rise in gasoline prices triggered by a foreign-imposed boycott could boost solidarity with the government. IRPO will continue to monitor both public reaction to and implementation of the new gasoline policy. BURNS