Iran's president seeks economic growth and structural reform - but these will be near-impossible without the country’s re-integration into the global financial system.

Iranian flagsBy Clement Therme, Research Fellow for Iran

A promise to improve the daily lives of Iran’s people, encapsulated in the slogan ‘Iran again’ (dobareh Irân), sealed Hassan Rouhani’s resounding victory in May’s presidential election. The result of the vote – in contrast to 2009, the state security apparatus chose not to intervene – appears to reflect a popular desire for normalisation, both at home and abroad.

Since embarking on his second and final term, the usually centrist president has been charting a more conservative course, pitching to the right of his reformist supporter base. He has taken a more security-oriented policy approach, partly in response to the shifting dynamics of Iran’s relationship with Washington, as well as the June attacks by the Islamic State (also known as ISIS or ISIL) on the parliament and the Khomeini mausoleum in Tehran. But his main focus is on liberalising the economy, which is dominated by the state and its proxies. This leaves the president with little political capital to spare on challenging the power of the non-elected Justice’s centre of power, to push for civil-rights reforms.

Economic hurdles

A major hurdle standing in the way of privatisation is the fact that Iran’s Revolutionary Guards control between 15% and 40% of the economy. But recent efforts by Washington to target the activities of the Revolutionary Guards make it very difficult for Rouhani to launch his own challenge to their economic influence.

Iran is a rentier economy. Rouhani knows that it needs structural reforms, to increase competition and limit the sway of vested interests, in order to solve the structural problems of high unemployment and double-digit inflation, as well as to raise incomes. Real GDP grew by 6.4% in 2016, on the back of a 1m b/d increase in oil exports, but the growth rate is forecast to slow to 4% in 2017 – and that assumes there is no retightening of US sanctions. Attracting significant foreign investments, especially from Europe and Asia, will be vital to Iran’s growth prospects.

But this will be near-impossible without Iran’s re-integration into the global financial system. In June 2017 the Financial Action Task Force (FATF), which sets international standards to prevent the use of the financial system for terrorist financing and money-laundering, suspended the imposition of planned penalties on the country in light of Iranian decisions and commitments. But it kept in place enhanced due diligence checks on Iranian banks. Moreover, the broader threat of sanctions as a punishment for support for proxies in the Middle East has, in one sense, increased of late.

Since the Islamic Revolution of 1979, a central pillar of Iran’s foreign policy (from Akbar Hashemi Rafsanjani to Rouhani) has been a pragmatic offer of reassurance to the smaller Gulf kingdoms, which have feared the revolutionary zeal contained in the rhetoric of the nation’s clerics. Today, however, Iran’s participation in regional conflicts – namely Iraq, Yemen and Syria – makes any such reassurance seem increasingly hollow to some regional governments, with bodies such as the Revolutionary Guards and the non-elected Office of the Supreme Leader, Justice and religious foundations perceived as the main decision-makers in Tehran.

Hopes that Iran’s relations with the global financial system will be normalised seem to rest more than ever on the ability of its elected institutions to achieve a reconciliation with the country’s Gulf neighbours. Rouhani is caught between his electoral promises to the Iranian population, the conservative factions of the Islamic Republic and the new role of the Revolutionary Guards in the Middle East. His resort to nationalism as a way to justify Iran’s economic difficulties to his population is not conducive to reducing regional tensions. Nationalism offers a means for Tehran to project a greater sense of its own resilience in the face of a new rapprochement between Riyadh, Tel Aviv and Washington, but this could jeopardise any future efforts to achieve greater stability in the Middle East.

This article is part of a series of posts providing analysis and commentary from IISS experts throughout the IISS Manama Dialogue, to be held in Bahrain on 8–10 December 2017. 

For full coverage of the proceedings visit the IISS Manama Dialogue 2017 website. For a flavour of the debate on social media, check out #IISSMD17.

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