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How Iran Is Using Currency Reforms to Withstand Trump 

The rial has come under severe pressure recently from tightening sanctions and the subsequent collapse in oil revenue.

How Iran Is Using Currency Reforms to Withstand Trump 
Iranian rial banknotes stand on display at a currency exchange in Tehran, Iran. (Photographer: Ali Mohammadi/Bloomberg)

(Bloomberg) -- U.S. sanctions are battering Iran’s economy. They have all but stopped Western companies from investing in the Islamic Republic, sent oil production crashing to its lowest level in more than three decades and led to a dire scarcity of foreign exchange. Inflation has accelerated to more than 50%, and some foods and medicines are running short. So far, Tehran is hunkering down rather than buckling to U.S. pressure to change its foreign policy, retreat from the region and renegotiate the 2015 nuclear accord abandoned by President Donald Trump. Iran’s latest attempt to ease the pain has been a reform of its currency system.

1. Why is Iran making changes to its currency?

The rial has come under severe pressure from tightening sanctions and the subsequent collapse in oil revenue. Iran has long kept a tight grip on its currency and has been reluctant to let it devalue, maintaining the official exchange rate at 42,000 per U.S. dollar since mid-2018. As supplies of foreign exchange in the banking system dried up, Iranians increasingly turned to the unregulated black market to pay for everything from imported cars to overseas college fees. From the start of 2019 to early May, the rial plummeted almost 30% on Tehran’s streets to 156,500 against the dollar. That caused prices to soar and led to social unrest.

2. What has Iran done?

It essentially created a system of multiple exchange rates, with the aim of taming the black market. It introduced a currency-trading platform known as Nima for local businesses last year. But most exporters preferred to sell their euros or dollars on the unregulated market, since the rial’s Nima rate was too close to the official one, and thus seen as overvalued. In recent months, the central bank has allowed the Nima rate to weaken substantially to encourage more companies to sell foreign exchange. President Hassan Rouhani’s cabinet has also announced that the rial will be redenominated by slashing four zeros off it.

3. Has there been any effect so far?

The plan has succeeded in bolstering the rial on the unregulated market. Since May, it has appreciated more than 30% to 118,000, which is more or less the same as the Nima rate, even though tensions have worsened in the period with Iran shooting down a U.S. drone and seizing vessels in or near the Strait of Hormuz. That has helped slow inflation, according to Steve H. Hanke, a professor of applied economics at Johns Hopkins University in Baltimore. By his reckoning, the annual inflation rate, which peaked at 400% last year, fell to 24% by early August.

How Iran Is Using Currency Reforms to Withstand Trump 

4. Will it work in the longer run?

The redenomination might have a psychological effect, albeit a minor one, if Iranians perceive a currency worth 12 per dollar to be a better store of value than one worth 120,000, says Renaissance Capital’s chief economist, Charles Robertson. But Iran will struggle to keep the Nima and unregulated markets stable as long as it can’t access enough foreign exchange with which to supply them. And that won’t change until sanctions are eased and energy exports pick up.

5. Why doesn’t Iran float the rial?

Iranian officials worry that the rial would tank if its value were fully determined by markets, which would cause inflation to accelerate again. It’s also politically sensitive. Much of the establishment sees any weakening of the currency as a sign of the nation’s diminishing power and inability to stand up to the U.S. In addition, the central bank’s system of allocating foreign exchange at the official rate is opaque. Analysts have said it fuels corruption, with politically connected Iranians getting cheap dollars while most legitimate business requests are turned down. Those vested interests are unlikely to readily accept a floating currency.

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To contact the reporter on this story: Paul Wallace in Lagos at pwallace25@bloomberg.net

To contact the editors responsible for this story: Dana El Baltaji at delbaltaji@bloomberg.net, Andy Reinhardt

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