Anniversary blues in Iran

As Iran's Islamic Republic celebrates its 30th anniversary, its oil wealth is in decline and the confidence of the past decade looks increasingly brittle. But whatever happens in the June election America needs a fresh approach
February 28, 2009
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For most of this decade, as the price of hydrocarbons broke record after record and the big oil exporters watched their revenues soar, Iran seemed capable of riding out all the shocks that international politics, and George W Bush in particular, could throw at it. Bush included the country in his 2002 "axis of evil" speech; he invaded its neighbours to the east and west; and in 2006 the UN security council, pushed by the US and its European allies, imposed sanctions in response to Iran's nuclear programme.

Yet none of these actions dented the Iranians' sense of immunity from misfortune. America's travails in Iraq and Afghanistan ended whatever hopes Bush may have harboured of attacking Iran itself; the Americans were even forced to solicit Iranian co-operation in pacifying both. (Iran helped fitfully). As for sanctions, initially designed to curtail Iran's purchase of nuclear equipment and its leading personalities' ability to travel, these seemed a trifle next to the spiralling sums that the Iranians earned from the sale of their oil: $47bn in 2005, $58bn in 2006, $70bn in 2007. Tehran boomed while Baghdad and Kabul suffered, and a new middle class, shedding the old revolutionary austerities, discovered consumerism.

Today, the casual visitor to Tehran may judge that little has changed. The skyline over the northern, affluent end of the city is jagged with steel skeletons, as high-rises go up in place of recently demolished villas. In the bazaar in the centre of Tehran, the hub of Iran's mercantile economy, it is common to see a porter, dragging his cart through the lanes, wearing a bandage over his nose—testament to the Iranian obsession, by no means confined to the middle class, for aesthetic "improvement." But all is not as it seems. Work on hundreds of building projects has stopped, others progress at a snail's pace. Bazaar traders complain of a severe downturn. Even Iran's legions of plastic surgeons are feeling the pinch.

When the global financial crisis began last year, President Mahmoud Ahmadinejad liked to argue that Iran's economy would be sheltered by its internal orientation. For all its enthusiastic participation in international trade—Iran is the second biggest oil exporter in Opec and a major importer of foodstuffs, consumer goods and building materials—the country is not fully integrated into the global economic system. Outside the oil and gas industry, Iran attracts negligible foreign investment, and the economy runs on cash transactions, not the personal debt and speculative investment instruments that have brought such grief to the west. But now it is clear even to the government's supporters that Iran faces acute economic pain. This is the consequence both of Ahmadinejad's profligate attitude to the oil windfall and his failure to prepare for its inevitable end.

*** When Ahmadinejad took over from the reformist cleric Muhammad Khatami, who had completed his maximum of two consecutive terms, the economy was sclerotic but functioning. Khatami had dipped liberally into a rainy day reserve made up of surplus oil revenues, called the oil stabilisation fund (OSF), but his government had also made modest efforts to wean the economy off its dependence on oil and encourage Iranians, impenitent property-speculators, to invest their riyals into manufacturing. Ahmadinejad attracted those Iranians who felt excluded from the Khatami boom or saw it as a drift to western nihilism. He was elected not only because of his piety and humble style of living, but also because of his promise to distribute Iran's oil revenues among the people. Once elected, this is exactly what he did. Through the state-dominated banking system, he doled out huge sums in loans (worth billions in US dollars) to young people, newlyweds and small businessmen. As he toured the country, where he was received rapturously by the poor, he pledged billions more for infrastructure projects and job creation. The president drew on Iran's soaring oil receipts to fund his largesse.

According to central bank figures, the government has spent $130bn worth of oil revenues in the past three years. Khatami's government, by contrast, spent $97bn from the same source over its entire, eight-year life. Repeatedly, senior economists and opposition politicians have warned of the baleful consequences of Ahmadinejad's policies—with reason, it is now clear. Inflation, which ran at just over 10 per cent when he was elected, is nudging 30 per cent. Iranians' purchasing power has been eroded, particularly when it comes to housing and food, where inflation exceeds the headline rate. (The president's decision to reduce petrol subsidies, which most orthodox economists supported, has also had inflationary results.) A policy of encouraging loans to aspiring home-owners created a property bubble that burst in the autumn, leaving many defaulters in its wake. Non-performing loans have risen sharply since Ahmadinejad came to power and now account for some 20 per cent of banks' exposure. For the first time in a decade, the middle classes are becoming less prosperous. Meat, fruit and vegetables have soared in price; Iranians struggle to afford their seasoned stews and saffron rice. Pistachios, formerly a staple snack in middle-class homes, are now a luxury. "Today it costs $100 to gather the extended family even for a modest meal," grumbles a trader in the Tehran bazaar, "and for someone making $400 a month, a good wage, that's a big sum. If you accept an invitation it's customary to return the favour. So people aren't accepting invitations any more."

Ahmadinejad has failed to diversify the economy—an objective so urgent, it was enshrined in a five-year plan for all governments irrespective of ideological orientation. On the contrary, argues Saeed Leylaz, a prominent government critic, Iran's dependence on oil as a source of budgetary spending has increased more than sevenfold since he came to power. The recent collapse of the oil price, from a midsummer peak of almost $150 to about $35 a barrel in mid-January, is reminding Iranians of their vulnerability to ill winds from abroad. Ahmadinejad demurs: there is no reason why "an Iranian should catch a fever if someone sneezes in the west."

He claims that he can govern effectively even if the price falls to $5 a barrel. The International Monetary Fund is not so sure; in August the fund stated that Iran would face an "unsustainable" current account deficit if the oil price fell below $75. This, surely, is the rainy day for which the oil stabilisation fund was set up, to maintain government spending at a time of low oil revenues. Yet the OSF, having been repeatedly plundered by the government, is almost empty. Even if oil prices bottom out soon, it seems inevitable that 2009 will bring Iran sharply rising unemployment, persistent high inflation, and an increase in the kind of public disgruntlement that led bazaar traders to shut up shop in October in protest at plans to introduce VAT. (The government backtracked and the shutters came back up.)

According to Tahmasb Mazaheri, a former Central Bank governor, "bitter days" are in store. For the rest of the world, the question is how economic pain will affect Iran's ability to withstand growing international pressure to abandon its longstanding pursuit of self-sufficiency in nuclear fuel—a status that would allow Iran to make a nuclear bomb. Iranians' sense of immunity is at last being threatened—and at the tail-end of Bush's bellicose presidency, when one might have expected it to be strongest. Many recall the last time an oil price slump coincided with a period of strategic peril—during the long and bloody war that Iran fought in the 1980s under Saddam Hussein. Economic as much as military setbacks obliged Ayatollah Ruhollah Khomeini, the first supreme leader of revolutionary Iran, to agree to a ceasefire with Iraq in 1988, a decision that he likened to drinking a "poisoned chalice." Now, Iran's adversaries hope, the clerics may buckle again.

*** This year is, of course, the 30th anniversary of the revolution that toppled the Shah and turned Iran into an Islamic Republic—a political hybrid, part-theocracy, part-democracy, that has proved remarkably resilient. Iran has developed a bifurcated system, where the supreme leader, Ayatollah Ali Khamenei, may not be challenged, while many other members of the ruling elite, such as the president and members of parliament, are subject to regular electoral scrutiny under universal suffrage.

On 12th June Ahmadinejad will stand for a second term, and his most formidable opponent may be Muhammad Khatami, the moderate reformist who stood down in 2005 and is now being entreated by his supporters to throw his turban into the ring.

It may be a year of danger for Iran. Some analysts fear that Israel's battering of Gaza, and its misleading depiction of Hamas as an Iranian proxy, presage an attack on Iran's confirmed and suspected nuclear sites. At their installation at Natanz, in central Iran, the Iranians are busy producing low enriched uranium appropriate for generating electricity; by 2010, western experts believe, they may have amassed the expertise and technology to produce a different sort of uranium in sufficient quantities to make a bomb. The Iranians insist that they only want to make electricity, and a US intelligence finding published in 2007 suggested that Iran had abandoned nuclear weapons research four years earlier. This finding, which seems to have been framed in order to deny Bush a pretext for attacking Iran, has been effectively ignored by the administration and its European allies; they have maintained their efforts to demonstrate to the International Atomic Energy Agency, the UN's nuclear watchdog, that Iran is working on nuclear weapons and warheads. The IAEA has no way of telling for sure, because Iran only lets inspectors into declared nuclear sites, and not those installations where, it is claimed, illicit military research takes place.

Since 2002, when startling new intelligence came to light concerning the extent of the Iranian programme, Iran's nuclear ambitions have been a matter of international concern. Flattered by the world's attention, Iran has diligently cemented alliances with fellow Shias in Iraq, Lebanon and Afghanistan, and now regards itself, with reason, as a regional force. By gaining a nuclear capability, the Iranians would be able to leapfrog their middle eastern neighbours and glower at Israel, hitherto the region's sole atomic power, from a position of parity. That would transform the middle east and increase Iran's prestige among the millions of Muslims who chafe at their own governments' cooperation with the US.

*** The arrival of Barack Obama may represent less of a change than expected. He wants to expand diplomacy with the Islamic Republic, he opposed the invasion of Iraq, as Iran did, and he shares a given name—Hussein—with the most beloved of the Shia imams. But Obama may find it easier to continue with the policy of curt multilateral negotiations and economic pressure that he inherits. The US ambassador to the IAEA predicts little change in America's approach to Iran's nuclear programme. This suggests that while continuing to join the EU in intermittent negotiations aimed at persuading Iran to freeze uranium enrichment, the US will also do its best to ensure that Iran is further isolated economically.

American soft power has dissuaded foreigners from dealing with Iranian banks, blocked international credit lines to Iranian companies and discouraged many non-American companies with a US presence from doing business with Iran. If Russia and China continue to block an escalation of sanctions in the UN security council, the US, the EU and other allies will act on their own. Restrictions on fuel sales to Iran, whose low refining capacity forces it to import petrol, have been mooted.

Iran today, however, is not the Iran of late 2001. Then alarm at America's wrath in the wake of 9/11 caused even hardline clerics to drop the chant "Death to America" from Friday prayers. Tehran fell over itself to help the US with intelligence during the assault on Afghanistan. Iran wanted to avoid provoking the US and, shortly after the invasion of Iraq, it put out feelers proposing a détente between the two countries. The Iranians' main demand was that the US publicly disclaim any ambition to topple the Islamic Republic; according to US officials privy to the offer, Iran appeared willing to downgrade its association with armed groups, such as Hamas and Hizbullah, which oppose Israel's existence. The Bush administration did not bother to respond.

Now, with US foreign policy in disarray, Iran no longer fears an invasion, and hardly a day passes without Iran's military leaders warning Israel of the humiliating defeat it will suffer if it dares attack. In any bilateral negotiations Iran would certainly demand that the US change its lenient attitude towards Israel's atomic status and treatment of the Palestinians, and that it reduce its huge military presence in the Persian Gulf. Iran is no longer a supplicant; it insists that its enhanced new status be recognised. The mood music is not encouraging. Editorials in Tehran newspapers were quick to condemn Hillary Clinton's appointment as secretary of state—a sign, they fear, that the Obama administration will toe a strongly pro-Israel line. And Iran has used the carnage in Gaza to intensify its verbal assaults on Israel, its western backers, and those Arab governments that have, in its view, callously stood back and observed the Palestinians' agony.

If Obama is serious about improving relations with Iran, he could begin by declaring his intention not to interfere in Iran's internal affairs and then draw the country into wider talks on stabilising Iraq and Afghanistan—an overture that would appeal to Iran's sense of regional self-worth. Most pressing of all, Obama must revive attempts to broker an accommodation between Israelis and Arabs. With a robust peace process and US withdrawal from Iraq in sight, the Iranians would have less to be angry about.

Even before the Israeli attack on Gaza, speculation about an Israeli attack on Iran's nuclear installations was rife; if Israel emerges from the fighting with its military pride enhanced, and its politicians fight the forthcoming parliamentary elections in an atmosphere of jingoistic pride, this speculation will grow. Iran could react to an attack by closing the Gulf of Hormuz or by stirring up their proxies in Iraq and Lebanon. Iran claims to have smashed a sophisticated Israeli spy ring; three men face the death penalty. All the while, the scientists at Natanz inch forward. Iran, in the words of an EU ambassador in Tehran, is entering a "danger zone."

*** Obama and his team may want to wait for the results of the presidential elections in June before exploring their negotiating options. Yet that would be a mistake, for no Iranian president, Ahmadinejad included, has controlled foreign and nuclear policy. In the Islamic Republic, which is built on anti-American sentiment, the delicate process of engaging the US without undermining the official ideology is a job for the largely unelected establishment—made up of Khomeini's successor as supreme leader, Khamenei, a handful of top officials and other senior clerics and military leaders. This establishment will remain, whatever the poll results.

That said, an election campaign may provide a turbulent backdrop to attempts to recalibrate relations. Already, the police and the Basij, a 5m-strong paramilitary force, have mounted huge shows of strength in the streets of Tehran—a deterrent to anyone tempted to disturb the country's sullen calm. The conservative establishment, although disenchanted with Ahmadinejad, has cranked up a media campaign aimed at dissuading Khatami, who is popular despite the failure of his reform movement, from standing. (Khatami has a history of announcing his candidacy late in the day, and fellow reformists have put immense pressure on him to stand.) Conservatives recall Khatami's presidency as the most sustained assault on their ideology and privileges since the republic's inception; they don't want it repeated.

In 2005, it was Basijis, guided by people close to the supreme leader, whose votes swung the election Ahmadinejad's way. Four years on, Khamenei's praise for the government suggest that Ahmadinejad retains his backing. Bereft of support elsewhere in the establishment, the president needs Khamenei as much as he needs the poor Iranians who voted for him.

Although heartily disliked by the metropolitan middle class, as much for his eccentric foreign policy as his economics, Ahmadinejad retains some popularity among these less privileged Iranians. They point out that no one has accused him of personal corruption, a rarity in Iranian politics, and that Iran stands taller in the world than in 2005. The president calculates that a final spurt of handouts to the poor will secure him re-election, but the economy may be in even worse straits in June. A full blown economic crisis, especially if it is exacerbated by intensified external pressure, or even an Israeli attack, would imperil Khamenei's mission of steering Iran to atomic mastery. That, in turn, could persuade him to rethink his support for the president.

Meanwhile, chastened by Iran's rise, US foreign policy specialists have abandoned their maximalist approach. Former CIA agent Robert Baer has even argued that since Iran is no longer a blindly ideological state, it is now America's natural ally in the middle east. Such thinking may not convince the cautious diplomats around Obama, but it indicates a maturing appreciation that Bush's approach to Iran has worked no better than the rest of his middle east policy.

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