An Estimate for the Real Foreign Exchange Rate in Iran

Naghshineh-Pour, Amir (2012): An Estimate for the Real Foreign Exchange Rate in Iran.

Abstract

An examination and close observation of currency exchange fluctuations in Iran reveals that over the years, problems and crises have occurred in connection with the exchange rate, which have brought about complications in the country’s currency exchange market and hence the economy. Such problems and crises continue to exist today. The developments of the currency exchange crisis during the last few months provide clear proof for such contention. Up until the late 90's, currency exchange restrictions and deficits in the balance of payments mainly due to low oil prices laid the ground for surges in foreign exchange rates in the free market. In the year 2000, owing to the improved situation of the foreign exchange market as a result of economic stability due increases in oil prices, the unified exchange rate policy was re-implemented after many years of a multi-rate regime. Over the past decade until Spring 2011, Iran’s Central Bank, which channels more than 90 percent of hard currency into the local market, had employed a “managed float system” to support a single rate against hard currencies, whereby the Central Bank managed the market and pegged the rates to the target rates by relying upon its foreign currency reserves and buying and selling foreign currency in the free market. In the 2000's, after the adoption of this policy, the official exchange rates (the foreign currency sold by the government in the interbank market) and the free market rates (e.g. at currency exchanges) were unified in practice and the slight difference between these two rates reflected the profit margin for the traders of foreign currencies in the free market. Around mid-March 2011, however, due to the pressures caused by rising inflationary expectations created by considerable surges in the amount of liquidity, the targeted subsidy plan and growing international pressures on Iran because of its nuclear program, the tendency to arbitrage in the foreign currency market escalated and for the first time in 10 years, it led to a significant gap between the official interbank exchange rate and the free mark rate, creating polarity in the foreign exchange market. Today, the gap has widened more than a whopping amount of 1,000 tomans per dollar. It should be noted that reviewing the developments of the foreign currency exchange rate over the years shows that many times, there has always coexisted a free market rate along with the official rate announced by the Central Bank. Hence, since a long time ago, the multi-currency regime has always dominated the country’s economy and it is not limited only to the recent years or even months. This further points to the fact that even in those years, the market suffered from instability. In addition to the developments related to the exchange rate, examining the trend of foreign exchange revenues indicate the fact that in spite of huge foreign exchange revenues mainly from oil exports, the Iranian economy has not witnessed any significant improvement in its economic indicators such as GDP growth. Therefore, not having enough economic growth in proportion to the amount of liquidity injected by the government in the economy, inflationary expectations have grown significantly and; therefore, stray capital has been trying to find refuge in other safe assets such as gold and foreign currency in order to safeguard its value. This is the main cause of surges in foreign currency rates in the past 17 months.

• Item Type: MPRA Paper
• Language: English
• Keywords: Iran, economy, foreign exchange rate, dollar, rial, toman,exchange rate, real exchange rate
• Subjects: A - General Economics and Teaching > A1 - General Economics; E - Macroeconomics and Monetary Economics > E5 - Monetary Policy, Central Banking, and the Supply of Money and Credit > E50 - General; E - Macroeconomics and Monetary Economics > E0 - General > E00 - General; E - Macroeconomics and Monetary Economics > E4 - Money and Interest Rates > E40 - General; G - Financial Economics > G0 - General > G01 - Financial Crises

References

1. Reserve Bank of Australia Bulletin, “Measuring the Real Exchange Rate”, November 2001. 2. Vesta Monitor Iran Economic Report, May 2012.