The Islamic Republic's economic failure.(Insight on Iran)

The Islamic Republic's nuclear drive remains a focal point of international concern. President Mahmoud Ahmadinejad speaks of becoming a pan-regional if not world power. (1) Much of his defiance is fueled by unprecedented oil income. Iran has built a US$82 billion foreign exchange reserve. (2) But behind Ahmadinejad's blustery confidence and defiance, decades-old systemic forces are eroding Iran's economic stability. Iran has suffered perhaps more than any Middle Eastern country from the "oil curse." As Iran became addicted to oil, it postponed reform and let the rest of its economy languish. While record oil prices insulate the Islamic Republic from the consequences of its leaders' decisions, any significant decline may force an internal reckoning.

THE IMPERIAL ERA

As the Islamic Revolution completes its third decade, it would be easy to blame all economic problems on its leadership. In reality, though, economic mismanagement has remained a constant during Iran's imperial and revolutionary eras.

Throughout the two decades between Prime Minister Mohammad Musaddiq's fall and the 1973 oil shock, oil exports accounted for more than 80 percent of Iranian foreign exchange income. (3) Broadly speaking, without the revenue it earns from oil, the Iranian government would have been half its actual size. Iran used its oil income efficiently through 1972, funding reasonable development projects and social infrastructure. The proof is Iran's exemplary record of economic growth: In a 2004 report, the International Monetary Fund (IMF) concluded, "During 1960-76, Iran enjoyed one of the fastest growth rates in the world: The economy grew at an average rate of 9.8 percent in real terms, and real per capita income grew by 7 percent on average. As a result, GDP [gross domestic product] at constant prices was almost 5 times higher in 1976 than in 1960." (4) Oil price increases do not affect these figures, which are adjusted for price increases.

Iran's oil output increased far beyond the pre-nationalization peak of 600,000 barrels per day (b/d). This expansion was driven by the shah, not by the consortium of international oil companies producing in Iran. The image promoted by Iranian nationalists and some historians that Musaddiq stood up to a shah who had obediently provided oil to the West is distorted; in reality, the shah spent twenty-five years pushing international oil companies hard to get more money for Iran. The concession he negotiated with the international oil companies after Musaddiq's over throw was much more favorable to Iran than the pre-nationalization agreement, providing a 50-50 division of the profits. By 1960, revenue was more than eightfold above the 1950 level, a figure only partly due to a 50 percent increase in output. The National Iranian Oil Company (NIOC), founded in 1955, sought smaller oil companies willing to accept a 25-75 profit split in favor of Iran to develop fields outside the concession area, that is, the area over which the consortium of international oil companies had a monopoly.

The shah kept pushing for more revenue. The February 1971 "Tehran accord" between six Middle Eastern Organization of Petroleum Exporting Countries (OPEC) and the major international oil companies forced the latter to agree to higher prices and better terms. By 1973, the Iranian government, not the oil companies, was in the driver's seat, setting prices, owning production fields, and determining output levels.

The shah made good use of the additional oil revenue. Soon after Musaddiq's fall, government provision of credit and a competitive exchange rate facilitated rapid industrialization. In the late 1950s and early 1960s, industrial output grew as much as 20 percent per year. The government invested in infrastructure, such as roads and utilities, for rapidly expanding cities. Manufacturing employment more than doubled from 1956 to 1972, accounting for one-third of all jobs created during that period. Manufacturing output rose by 11.3 percent a year between 1963 and 1972. In practice, this meant the annual output of motor vehicles went from a few hundred to 71,000, and of radios and televisions from zero to 406,000. In a restricted report, the normally sober World Bank summarized the changes in Iran as of 1971: