Rial Devaluation Triggering Inflation

BMI View: The Central Bank of Iran undertook a de facto devaluation of the rial in the official market on July 6. The value of the unit will likely drop in unregulated market transactions as a result, while food prices are likely to spike, ensuring that consumer price inflation remains elevated in 2013.

In a sign of ongoing economic stress, the Central Bank of Iran (CBI) listed the price of the rial to IRR24,779/US$ on its website on July 6, compared to the previous official rate of IRR12,260/US$. The central bank did not issue any statement explaining the change. That said, Iranian Mehr and ISNA news agencies said that the rate would replace the previous official rate.

Before the move, Iran's used a multiple-tier foreign exchange system. The official IRR12,260/IRR rate was used to purchase strategic imports, a foreign exchange centre used a flexible rate near the IRR25,000/US$ level for the imports of capital goods and industrial materials, while the currency traded freely in the unregulated market. That said, the CBI has been gradually allowing fewer importers to buy dollars at the IRR12,260/US$ rate over the past quarters. For instance, the bank excluded importers of several staple goods - including meat, chicken, cooking oil, sugar and rice - and medicines from benefitting from the subsidised official rate on April 24. The bank was providing dollar at the IRR12,260/US$ rate only to importers of wheat, barley, corn and soya before July 6.

Devaluation Unfolding
Iran - IRR/US$ Exchange Rate, Official & Street Market

Rial Devaluation Triggering Inflation

BMI View: The Central Bank of Iran undertook a de facto devaluation of the rial in the official market on July 6. The value of the unit will likely drop in unregulated market transactions as a result, while food prices are likely to spike, ensuring that consumer price inflation remains elevated in 2013.

In a sign of ongoing economic stress, the Central Bank of Iran (CBI) listed the price of the rial to IRR24,779/US$ on its website on July 6, compared to the previous official rate of IRR12,260/US$. The central bank did not issue any statement explaining the change. That said, Iranian Mehr and ISNA news agencies said that the rate would replace the previous official rate.

Before the move, Iran's used a multiple-tier foreign exchange system. The official IRR12,260/IRR rate was used to purchase strategic imports, a foreign exchange centre used a flexible rate near the IRR25,000/US$ level for the imports of capital goods and industrial materials, while the currency traded freely in the unregulated market. That said, the CBI has been gradually allowing fewer importers to buy dollars at the IRR12,260/US$ rate over the past quarters. For instance, the bank excluded importers of several staple goods - including meat, chicken, cooking oil, sugar and rice - and medicines from benefitting from the subsidised official rate on April 24. The bank was providing dollar at the IRR12,260/US$ rate only to importers of wheat, barley, corn and soya before July 6.

The latest move represents in our view only the final step in a de facto ongoing devaluation of the rial, and it was widely anticipated by BMI. On April 26 we wrote: "Tehran could be forced to stop allocating dollars at the official rate of IRR12,260/US$ altogether. Under such scenario, Iran's foreign exchange system could transform from a multiple-tier into a two-tier system, with the official rate set around the IRR25,000/US$ level" ( see 'Chart Of Day: De-Facto Devaluation Unfolding', April 26).

Devaluation Unfolding
Iran - IRR/US$ Exchange Rate, Official & Street Market

The rial was trading at IRR33,200/US$ in black market transactions on July 8, little changed from IRR33,850/US$ on July 2. That said, the recent devaluation of the pound highlights the severity of the pressures on Iran's foreign reserves, and a significant sell-off in the currency in the unregulated market is likely to occur over the coming days as a result. Although improved confidence on the country's economic trajectory and more cordial relations with the West following the victory of moderate West cleric Hassad Rouhani will cushion from a dramatic drop in the value of the rial over the medium term, downside pressure on the unit will remain elevated. We forecast the unit to average IRR35,000/US$ in 2013, compared to our previous forecast of IRR34,000/US$.

The CBI's move will also likely result in an uptick in food inflation over the coming months, in a similar vein to what occurred as a result of the exclusion of importers of several staple goods from benefitting from the IRR12,260/US$ rate on April 24 ( see above). According to reports, the price of a kilogram of sugar rose to IRR22,000 on April 24, from IRR17,000 the day before, while a 5kg can of cooking fat was sold for IRR235,000, up from IRR177,000 the previous week. Given that the 'food and beverages' component accounts for 28.6% of the consumer price basket, consumer price inflation (CPI) will remain elevated this year, which we project averaging 28.0% in FY2013/14 (fiscal year running from 21 March 2013-20 March 2014), compared to our previous forecasts of 26.0% ( see 'Inflation Declining Only Slightly In 2013, July 4).

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