IRAN'S REFORM-RESISTANT ECONOMY

S E C R E T SECTION 01 OF 03 RPO DUBAI 000181

NOFORN
SIPDIS

TREASURY FOR S VINOGRAD

E.O. 12958: DECL: 4/23/2019
TAGS: ECON EFIN ETRD PGOV IR
SUBJECT: IRAN'S REFORM-RESISTANT ECONOMY

REF: RPO 174; RPO 168

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CLASSIFIED BY: Timothy Richardson, Acting Director, Iran
Regional Presence Office, Department of State.
REASON: 1.4 (b),(d)

1. (S/NF) Summary: As economic issues rise to the top of the
agenda in Iran's presidential campaigns, the range of the policy
debate on economic issues remains narrow and is essentially
limited to which candidate can better manage Iran's government
dominated economy. Recent examples of currency reforms and
private sector initiatives being undermined by the IRIG
illustrate the limits of reform initiatives, even if there is
political will, and the disconnection between rhetoric and
practice. The experiences of our contacts illustrate that even
if economic conditions lead to Ahmadinejad's defeat in June,
significant reforms to Iran's economy are unlikely in the near
term. End Summary.



The State's Not-So-Hidden Hand

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2. (S/NF) The political struggle in the Majles over President
Ahmadinejad's subsidy reforms in March and the campaigning for
June's presidential election have placed economic issues at the
top of Iran's political agenda. However, the range of debate on
economic policy is narrow, as Dr. Hooshang Amirahmadi, president
of the American Iranian Council, told an oil and gas conference
in Dubai on April 21. Amirahmadi described all three of the
major declared candidates -- Ahmadinejad, Mir Hossein Mousavi,
and Mehdi Karroubi -- as status quo candidates on economic
policy, committed to maintaining the government's role in the
economy but singling out Mousavi as a more competent manager.
For example, one of reformist candidate Karroubi's proposals, to
distribute shares of Iran's oil wealth directly to the people
(ref a),is an echo of Ahmadinejad's 2005 rhetoric to put Iran's
oil wealth on Iranians' dinner tables and to distribute
"justice shares" of state-owned enterprises to the people.




3. (S/NF) More broadly, the powerful conservative forces that
dealt Ahmadinejad setbacks in the Majles last month (ref b),who
have not coalesced behind a candidate at this stage, simply
favor strict adherence to Iran's five- and 20-year development
plans and a restoration of the vital role of the Management and
Planning Organization (MPO) in the economy, according to several
IRPO academic contacts and reports in the Iranian press.
Moreover, the dividing line between them and Ahmadinejad is not
over the degree of state control. Rather, Ahmadinejad's
policies have been to maintain robust state involvement in the
economy, but through less transparent structures like the Office
of the President and the IRGC, and with an emphasis on
redistributive spending in the name of social justice.



Narrow Margins

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4. (S/NF) In the unlikely event that a presidential candidate
emerges who champions major economic reforms, rhetoric and
practice can be disconnected, according to IRPO business and
academic contacts. And business interests that stand to lose as
a result of reforms are often compensated in other ways that
blunt the effects of reform. For example, Tehran unified its
two separate official exchange rates for its currency in 2002, a
reform that eliminated a preferential export rate that was a
costly and disastrous policy, according to an Iranian contact
who is an Ivy-League educated Professor of Economics at the
American University of Sharjah in the UAE (please protect).




5. (S/NF) At the same time as the IRIG was reforming exchange
rates, it also began an export rewards program, commonly
referred to as a rebate system by Dubai-based Iranian
businessmen. The net result was that exporters who lost a
favorable exchange rate under the reform were compensated
through a different method. Under this system, rebates based on
the value of the goods are offered to exporters, with industrial
products receiving the largest rebate of 3 percent, and
agricultural and handiwork products receiving smaller rebates,
according to Hassan Kabiri, a scion of a prominent bazaari
family and managing director/owner of Paknam, one of Iran's
largest producers of detergent powder. Multiple IRPO contacts

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also reported that the rebates program is open to abuse and
manipulation to favor regime insiders.




6. (S/NF) The importance of the rebate and hard currency
programs to a company's bottom line is tied to the firms'
dependence on export markets. A separate Dubai-based contact
who runs an adhesive factory in Tehran and exports his products
to Iraq and Central Asian countries described the rebates as
crucial to the competitiveness of his products and his firm's
success, and they are a much more important factor to his
business viability than international sanctions against Iran.
And while the government has tried to compensate exporters,
producers selling to the domestic market have suffered from
muddled government attempts at reform. For Kabiri, whose market
for detergent is primarily domestic, the export rebate is not a
critical issue, and he is not actively pursuing USD 1.3 million
in rebates the government owes him because the paperwork is too
much of a burden. For him, the most important government
interventions have been consumer price subsidies on detergent,
and the tariff rate on imported detergent, both of which have
been manipulated to his disadvantage in the past year. IRPO
contacts could not gauge the extent to which the rebate and hard
currency programs have replaced the former system of multiple
exchange rates, but their existence shows how resistant the
Iranian economy is to reform.



The Price of Success

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7. (S/NF) A second example of economic innovation being stifled
has been the seizures of promising private enterprises by the
IRGC. Iran's small and medium size enterprises (SMEs) could be
an agent for reform by creating jobs and being a force for
innovation, and one study by an academic at Yazd University of
11,000 SMEs showed that 10 percent of Iran's SMEs created over
70 percent of the jobs in that sector. However, the fear of
becoming too successful and attracting the attention of the
IRGC, and then being seized by the IRGC or its affiliated
companies, has constrained multiple IRPO contacts --
representing the frozen fish, paper, and adhesive industries --
from growing their successful businesses to the extent they
could. Entrepreneurs are frequently labeled "fraudsters,"
according to an IRPO contact who had a paper factory seized by
the IRGC.




8. (S/NF) The saga of the adhesive producer illustrates how a
government seizure has stifled private enterprise. The IRPO
contact acquired a small adhesives workshop from an elderly
couple, who were experts in their industry, but who had failed
to grow the business because of their communist ideology. By
introducing Western business practices, improving product
quality, and introducing innovative products, the IRPO contact
has built up the business, but he has made the decision to limit
its growth based on his past experiences. He was formerly the
manager of a company that imported U.S.-origin cigarettes into
Iran, a business he rapidly built to a level where it employed
more than 1,000 people. Eventually the government took notice of
this business, and after Ahmadinejad was elected, it seized his
import license and handed the business to allies of Ahmadinejad,
who were probably IRGC-affiliated, according to the businessman.
None of our contacts could gauge how many jobs or other
economic benefits the fear of IRGC seizure has cost the Iranian
economy, but any reforms that focus on Iran's private sector
will first have to establish the rule of law to overcome the
fear of IRGC takeovers.



Comment

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9. (S/NF) Iran's economic shortcomings receive much attention,
but the policy debate we have seen at this stage of the
presidential contest has only been on the margins of Iran's
legacy of state control of economic activity. The experiences
of the Dubai-based Iranian businessmen show that even if
economic conditions lead to Ahmadinejad's defeat in June,

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significant reforms to Iran's economy are unlikely in the near
term. We are interested whether any of the candidates will
claim ownership of Iran's gasoline rationing program
(implemented in June 2007),an example of an effort to reign in
Iran's massive energy subsidies that has met with some success,
as a gauge of their appetite for difficult reforms. Economic
problems will more likely simply be the issues that candidates
use to attack their rivals.
RICHARDSON