For all the things that made Bill Clinton’s presidency memorable, his insightful campaign slogan ‘it’s the economy stupid’ had somewhat faded into insignificance until the recent American sub-mortgage crisis. The economy is now once again front and centre in this year’s US election. If Barak Obama is in fact to win on Tuesday night, as the polls suggest, market crash and liquidity freeze will certainly have a lot to do with it. But financial hard times are not only key to momentous internal political change in democracies; they have also shown themselves to be tenacious in disposing of authoritarian regimes. Over the next few months, the Islamic Republic of Iran will hopefully provide us with our latest case study.
Only a few months ago the strategic situation in the Middle East from an Israeli, Western and moderate Arab perspective looked horrible. Awash with petrodollar as a result of record high oil prices, the Iranian regime looked unstoppable from acquiring nuclear weapon and fomenting chaos through its proxies, Hezbollah and Hamas. With military action seeming politically unfeasible and technically problematic, many had begun to whisper about just having to get use to living with a nuclear Iran. But all of this has now changed. Fears of a global slowdown have caused oil prices to collapse from over $140 a barrel to below $70. If this fall is sustained, it could as much as halve the Iranian regime’s fiscal revenue and places the country at risk for a serious budget crisis. Given the already poor state of the economy with rising inflation and high unemployment, Iran has few benign macro-economic options.
Iran is now showing symptoms of what economists refer to as the Dutch Diseases, the almost counter intuitive situation where countries that experience commodity export booms usually end up in serious financial trouble. Given the Iranian regime’s shaky internal political position and its messianic belief that oil prices would continue to rise until the Twelfth Imam returns, they have spent almost all their additional oil revenue in the form of cash handouts and price subsidies to buy the support of their people. But just throwing money at the people ala Evita Peron, as we saw in Argentina, does not create economic growth. It only fuels inflation.
Moreover their arrogant disdain for Western advice has led them to reject perhaps the most important macro-economic policy of the last few decades, an independent central bank. Under Ahmadinejad’s control the Iranian printing press has been working overtime (with money growth in the region of 40% per annum) to keep interest rates low and consumers and businesses happy. But this temporarily effective political strategy has disastrous economic consequences. Coupled with the excessive government spending, it has unleashed the dragon of stagflation (high inflation and low growth) on the Iranian people. Inflation climbed last month to 27 percent while unemployment continues to remains high at high at 11 percent.
Given the structure of the economy, this is a self perpetuating financial collapse. As inflation rises the government of Iran will be forced to spend more and more money, money they no longer have, to maintain the various price subsidies they offer. With falling oil revenues they will either have to borrow or print more money to fund this additional expenditure. The latter will serve to further boast inflation and cause this downward economic spiral to continue over and over again.
So what should the Iranians do to stop their march towards economic ruin? Conventional economic advice would be to cut spending, stop printing money and give the central bank independence. But Ahmadinejad does not seem prepared to listen. In the last 3 years he has fired 3 central bankers for suggesting just such a policy. Moreover, he faces an election in the near future and cannot afford politically to cut back on handouts to the people. By all accounts he is already in a precarious position in the polls. So in fact, expect government spending to increase, at least in the short term.
Natan Sharansky has for the last few years been talking up an imminent internal Iranian revolution. When he visited South Africa a couple of years ago, he told me that from what he has read and heard the Iranian people remind him of Russians in the late 1980’s just before the fall of the Berlin wall. “Almost everyone is a ‘double-thinker’ there”, he told me emphatically. He was predicting regime change within a year. Of course it did not materialize: not because I believe Sharansky’s analysis was wrong but because he failed to foresee the oil price boom that has allowed Ahmadinejad to maintain stability by buying off political support. This has now come to an end. In fact, the current reality in Iran actually now much more closely mirrors the USSR. The fall of the Soviet too was ultimately sparked by falling oil prices and the resulting economic challenges that this wrought.
Clearly now is the time for those who wish to stop Iran acquiring a nuclear bomb and terrorizing the region to act. Simple measures like limiting the Iranians access to foreign finance would force the regime to fund its expenditure through printing more money, seriously accelerating the economic collapse that is under way. Of course large scale sanction that prevented countries from buying Iranian exports would really cripple them economically but given that 80% of their exports are oil, this is not seen as economically viable for the rest of the world. A public disinvestment campaign would also help.
On a political level, now is not the time for meetings between Western leaders and the Iranian regime. Quite the opposite. We need to make it clear that this government is not legitimate. Financial and moral support for dissident groups should be urgently augmented. The West and moderate Muslim states must publicly declare that they will do whatever they can to stand by the Iranian people against their tyrannical government.
The financial crisis has resulted in the hope that change is possible here in America. But this applies equally to our enemies as well. If Obama would only formulate a foreign policy position on the same basis as he does his domestic political strategy then this could really be the moment when the rise of Islamic fundamentalism begins to slow and our planet begins to heal.