Why Iran needs a financial centre

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By Padraic Fallon

teheran cover 680px

To a foreign observer, the sheer scale of Iran’s economic ambitions seem to be surpassed only by the determination of the Shah and his ministers to turn Iran into a fully developed industrial nation within a decade. Of all the Middle East nations, it seems to have the most coherent policies for making the most efficient use of its resources; and this includes stealing a march on Cairo and Beirut to turn Teheran into the most sophisticated financial centre in the Middle East.

The problems are enormous, but Iran has enormous resources with which to tackle them. Teheran itself, for instance, may have its urban problems of traffic and pollution transformed by one of the largest projected new town developments of the twentieth century, Shahestan Pahlevi, which will cost between $3 billion and $5 billion and which, it is reported, will be designed by the London firm, Llewelyn-Davies International. This is very much part of the Iranian Government’s plan to turn Teheran into a major world city; it would also mesh with the Government’s plan to establish Teheran as a financial centre.

As a potential financial centre, Teheran starts off with some significant advantages. The first is its petroleum revenues which are running at more than $21 billion a year, and over which the government has total and absolute control. Iran should not reappear as a borrower on the international capital markets before 1977 at the earliest, and in the meantime it can spend its surplus in any way the government wishes. 

The official Iranian view is that economic, military and social development must have priority over developing a financial centre, but in reality a domestic financial centre, at the very least, is necessary if Iran intends to reach the ambitious targets that it has set itself in the latest Five-Year Development Plan.

It also possesses a banking system that has grown at a phenomenally high rate in the past few years. True, its banking skills may not be as highly developed as those of Beirut, but that is because, up to now, Iranian banks have not really had to look outside Iran for business. There has been enough at home to keep them occupied.

That may soon begin to change: Bank Markazi, the Iranian central bank, is encouraging some of them to establish closer links with banks abroad. For their part, Iranian banks have a long waiting list of foreign suitors anxious to establish joint banking ventures in Teheran.

The official Iranian view is that economic, military and social development must have priority over developing a financial centre

Shahpour Shirazi, a director of Bank Markazi, says that Bank Markazi has had an astonishing 300 applications a week from banks wishing to set up in Teheran. Applications are still pouring in, and the hotels of Teheran still bulge with hopeful bankers who are staking their chances on being among the chosen few.

The vast majority of these suitors will be turned away. Bank Markazi can afford to keep the doors closed to all except those foreign banks with the best reputations who are armed with the most promising proposals to establish joint ventures in Teheran. The central bank is also very sensitive to criticisms about allowing Teheran to be over-banked. It has already allowed a substantial number of new Iranian banks to set up in the past few years. One of the sternest critics of this policy is Mr Medhi Samii, himself a former governor of Bank Markazi, who strongly advocated strengthening the existing banking system by mergers and amalgamations and opting for fewer but bigger banks.

Modern banking in Iran really only goes back to 1950. At the turn of the century, Iranian banking was dominated by British and Russian houses; it took another 25 years for the first national Iranian banks, Bank Melli (The National Bank) and Bank Sepah, to be formed. For the next 35 years Bank Melli was to act as the Iranian Central Bank.

Between 1928 and 1950, four banks specializing in government business were formed. But after that the picture altered radically. During the ’fifties, 17 new private banks were established. Growth became so rapid that Bank Melli found it increasingly difficult to double as a central bank, so, in 1960, Bank Markazi was formed under the provisions of Iran's first banking law. Bank Melli shed its central banking function and became a straightforward commercial bank.

New banking law

In July 1972, just over a year before the decision to hoist oil prices catapulted Iran into a surplus economy, a new monetary and banking law was passed which strengthened Iran’s banking system, formalized Bank Markazi’s role in supervising the system, and laid down the powers of the Currency and Credit Council which in turn supervises Bank Markazi’s affairs. 

The Currency and Credit Council is really the supreme financial body today in Iran. The Monetary and Banking Act empowers it to examine the organization, budget and internal regulations of the central bank, and to examine and comment on Bank Markazi’s balance sheet.

The need for greater banking skills is the reason behind Iran’s decision to allow foreign banks in to form joint ventures with existing Iranian banks. If sophisticated money and capital markets are to be developed quickly, outside skills are required and that involves foreign participation. Basically, the Iranian authorities are not interested in a potential joint venture on a purely profitable basis; joint ventures must fulfil the requirement of bringing new skills and techniques to Iran. That applies equally to banking and industry.

Iranian bankers appear to have conflicting ideas about what type of financial centre they would like Teheran to be. Some argue that it need only serve the domestic economy; others see the opportunities elsewhere in the Middle East and further into Asia. 

The real aim is probably fairly ambitious: the government takes the view that financial rewards will naturally follow the growth of Iran’s power and influence throughout the Gulf and officials agree that the aim is to have an international centre, somewhere along the lines of the City of London rather than a centre like Tokyo which principally serves the Japanese domestic economy.

An international centre would also serve Iran’s need to return to the international capital markets as a borrower in a few years’ time. Ministry of Economy officials freely acknowledge that Iran will have to borrow large sums to maintain the impetus of the Five-Year Development Plan.

An international centre would serve Iran's need to return to the international capital markets as a borrower in a few years' time

The plan aims at a mean real growth of 27% a year through to 1978; that would mean a total GNP of nearly $90 billion at constant prices, not yet comparable to standard GNP per capita in Western European industrialized countries today, but well on the way.

To sceptical western eyes, the targets embodied in the Five-Year Plan may look a little too ambitious. Iran’s hopes to equal Britain’s GNP by 1984 (implying a much higher GNP per capita because of the differences in population) may look even more unrealistic. But it should be remembered that throughout the ’sixties Iran surprised even itself through its ability to not only reach, but to beat its self-imposed targets.

Naturally, Iran’s hopes and plans for economic growth depend on a lot of things going right. If sheer drive and determination at the top will do it, Iran would have few problems. But there are imponderables like the price of, and the demand for, oil throughout the Five Year Plan. 

Iran’s oil income has already fallen off significantly in 1975 in line with demand. Spending on the imports, not all of them related to economic development, has been prodigious. The arms bill is phenomenal, but in the unstable conditions of the Middle East today, it is viewed as totally necessary. Imports are also expected to increase more quickly than exports.

Iran’s dependence on oil payments as a source of foreign exchange has naturally increased as a result of the increase in petroleum prices. In the five years to March 1973 oil revenues accounted for around three quarters of total foreign exchange earnings. This year it is expected to reach around 85%. The financial implications are that, as a result, Iran intends to maintain around six months’ worth of foreign exchange receipts in reserves: that is high by western standards, but Iran is taking no chances about running out of foreign liquidity.

The arms bill is phenomenal, but in the unstable conditions of the Middle East today, it is viewed as totally necessary

With this sort of inherent financial strength, it was natural for the Iranians to feel a certain degree of irritation at seeing the rial falling in line with the dollar against other major currencies, effectively cutting Iran’s oil revenues and pushing import prices higher. The decision to cut the rial’s links with the dollar and align the Iranian currency with the SDR was the result, although this has not solved the problems of falling revenues because oil payments are made in dollars.

Officials at Bank Markazi complain that Iran’s motives in linking the rial to the SDR were misunderstood in the West, but some Iranian bankers are betting that the next move will be for the National Iranian Oil Company to invoice oil payments in rials – something that Iran’s neighbours in the Gulf are also said to be contemplating. This would not necessarily entail NIOC receiving payment in rials; it would simply mean that dollar payments would have to be adjusted to the rial’s value against a basket of currencies. 

It would also, of course, result in a higher dollar price for oil. But those who have been feeling the effects of the Shah’s determination do not think he will let that consideration stand in his way if he thinks such a move is necessary.