The Iranian Economy

It’s common to read western analysis about Iran's economic situation, especially in the context of foreign policy. While the level of interest is natural, there are many misperceptions about the Iranian economy.

In my opinion, on the whole it is not true that the Iranian economy is getting worse. While the standard of living fell sharply after the turmoil of the 1978-1979 revolution and Saddam Hussein’s subsequent invasion of Iran, it is forgotten the economy eventually recovered. Iran currently enjoys the same or higher standard of living than before the Islamic Revolution.

Here is per capita income as measured by the late Angus Maddison, in purchasing power adjusted numbers.


The economy grew rapidly from 1950-midd 70s, declined until the end of the Iran-Iraq war, but recuperated since. The end of the war coincided with a period of free-market and fiscal reform, lauded for example by the IMF. Obviously the last few years of growth is closely linked to increasing oil prices (although the volume of oil exports has stagnated).

1. If Iran’s economy is growing, why do we constantly hear about the problems in the Iranian economy, but not about the progress?

One reason is mismanagement and squandering of the nation’s wealth. Having zero per capita growth for 30 years is nothing to be proud of, and all around you in Iran you observe signs of misallocation, poor policies, rationing, inflation, asset bubbles and corruption. The cost of family formation is prohibitively high for some young people in larger cities. Iran’s economy is doing relatively well despite, not because of Iranian economic policy.

Another reason may be that the group that was most hard hit economically by the revolution was the educated middle class, who are the people who moved to the west and whose voice is heard loudest. The biggest benefactors were islamists followed by the rural and urban poor. These are not exactly groups well represented in western media.

A third, probably most important reason is the ratio of expectations and outcome. The standard of living in Iran is growing, but nowhere near as rapidly as people want it to.

The Iranian middle class for example has rapidly expanded, as many more people have entered the middle class. With being middle class comes middle class values and middle class expectations.

This growing group and their growing complains have been misinterpreted by westerners as a sign of Iranians being increasingly squeezed.

Lastly there may be an element of wishful thinking behind some of the more negative assessments about Iran’s economy by foreign policy hawks.

2. Oil is very important, but it’s not all about oil. Oil prices started to be high in 1973, yet Iran was growing at a rapid rate throughout the 1950s and 1960s.

One factor that is now virtually completely forgotten is the foreign aid Iran received during this period as an important regional ally against the Soviet Union, mostly from the U.S. If I remember correctly for a long period this aid was as important as oil exports.

Also, Iran is not Saudi Arabia or Kuwait. There are too many people to live completely off oil. On the other hand you have a large labor force that (unlike Gulf Arabs) has no problem doing hard manual labor. Iran is more similar to a slightly less developed version of Mexico or Russia, which is to say an oil economy + a large lower middle income economy.

During the 1960s, when Iran’s growth was second only to Japan, there was a lot of industrial development, and a great deal of non-oil entrepreneurship.

Since than Iran has developed its service economy. If you have lots of oil to export, it is not as crucial to be able to compete in global markets with reasonably high quality manufactured goods (which Iran is still not capable of). You have enough currency to important high tech products, capital goods and whatever else you can’t produce at reasonable prices yourself.

Instead the remaining capacity of the economy is geared towards what Iran can compete in, namely import substitution and local services.

3. Iran has experienced a dramatic expansion of physical and human capital. Most importantly, Iran’s rise as a regional power cannot be understood without taking into the expansion of the educated workforce. This process started before the revolution, but was a priority of the leadership and continued afterwards.

The investment rate recreated during the decade of turmoil following the revolution, but later recovered to very high levels, closer to that of China than to the West.


The gross saving rate has now been around 40% for two decades.


I have further downloaded some statistics on education levels from the World Bank. Public education expenditure is currently 5% of GDP in Iran, above the world average, partially because the population is so young. This figure is in comparison 3% in Turkey, 3.7% in Egypt and 2.8% in Pakistan, other large Middle Eastern countries with many young people.

Part of the explanation for is the strong tradition of learning in Iran relative to other countries in the region, dating to pre-Islamic times.

The illiteracy rate witnessed an astonishing decline from 63% in 1976 to only 18% in 2006.

The share of the working age population with completed territory education quadrupled from about 2% in 1975 to about 10% in 2010 (it's about 20% in the west). Iran now has around 9 million college graduates to replace the two million or so expatriates. Meanwhile the share with at least completed high scool roughly increased from 19% to 64%.


This kind of explosion in human capital would transform any economy. Notice also the type of education. The share of college graduates in Iran who study engineering and manufacturing was 31% is, one of the highest in the world (in comparison the figure is 14% in Turkey and 7% in the U.S).

It is perhaps in part because of all these new technically educated individuals that Iran has been able to regionally challenge the U.S.

4. Social indicators have improved following the revolution.

The absolute poverty rate has declined (click on this link) from about 30% to a little over 10%.

The mortality rate for children under 5 declined at impressive and fairly steady pace before and after the revolution. It went from 0.29 in 1960 to 0.155 in 1975 to 0.032 in 2008.

Life expectancy continued to increase, again it appears with little interruption, after the revolution. Health expenditure as a share of GDP is also fairly high in Iran at 6.4% of GDP. Some of this is private spending and under-the-table payment to doctors, but the poor do have access to health care.


Illiteracy was targeted both before and after the revolution, and is largely gone.


Electricity production was more than ten times higher in 2007 than 1977, in a period when the population doubled. This is interesting for two reasons. First, if you don’t trust GDP estimates in a country such as Iran, electricity production is a reasonably objective measure of economic activity (although keep in mind that energy is heavily subsidized in Iran).

Second, much of rural Iran did not have electricity until about a generation ago. They do now, as the regime made this into a priority. Anecdotally, when my father installed an electric generator for his horse breeding farm just prior to the revolution that was the first time anyone in that Kurdish village had any electricity. Having access to electricity for the first time in your life is a concrete and sizable improvement in the standard of living. One third of Iran’s population is still rural.

5. The Iranian economy is dysfunctional, but has some safety valves. Corruption is a huge problem, but it does grease the wheels on occasion and the high degree of corruption, nepotism and overall inefficiency in the state is ironically one of the reasons that Iran is not a totalitarian country (it is “merely” authoritarian).

Furthermore, Iranians adjust their behavior in response to poor policies. For example, the labor market is heavily regulated, and (like many developing countries) you have a constant problem of underemployment.

However, this major inefficiency is mitigated by the very high rate of self-employment. Iran has a remarkable rate of non-agricultural self-employment of 37% according to the ILO.

If regulations and poor institutions make work in large organizations difficult, people can sell their labor directly through self-employment.

Granted, this motivation for self-employment is not a sign of health for the economy. However it is what economists refer to as a second best solution. Sure, Iran would be richer if the 500 best entrepreneurs and managers in the country got to expand their firms and absorbed much of the remaining mom-and pop operations, small scale family firms and the like (or if large, efficient foreign firms increased their presence in Iran). But having all these tiny firms is clearly superior to the alternative, which is unemployment induced by regulations and poor institutional quality.

Again, for all the talk about there being no jobs, the employment to population ratio in Iran has remained fairly constant during the last 20 years, increasing from 46% in 1991 to 49% in 2008.

Comparatively little is known about the Iranian economy. One obvious reason is the lack of hard data, but another reason is pervasive misinformation. We would learn and understand more about Iran’s economy, future growth perspectives, investments opportunities and similar issues if Irans economy was analyzed more by disinterested parties. Furthermore, it would be preferable if the discussion on Irans economy was decoupled from the sensetive and ideological foreign policy debate.

Median Voter Theorem winner of the 2010 election, Extreme left and Tea Party losers.

Turning sharply to the left in rhetoric and economic policy cost the Democrats over 60 house seats.

Nominating under-qualified rightwing extremists in Delaware, Nevada, Colorado, Alaska and West Virginia cost the Republicans 4 Senate seats or 5 if Murkowski caucuses with the Democrats.

Meanwhile, moderate and qualified Republicans won in Illinois, New Hampshire and North Dakota. A Moderate Republican did unexpectedly well in blue Washington state, on a night when most Republican Senate candidates underperformed.

The first lesson is that most of the time, going to the center wins you votes. There are some exceptions, such as if you need a clear message to be percieved as an alternative or if you are winning anyway, like Rubio. But the rule works, on average.

The second lesson is that 100% of the time, with no exception, you win by nominating qualified candidates. Nominating individuals with little ability and second-rate cognitive skills such as Christine O'donnell and Sarah Palin always costs you votes. This is particularly true if these candidates combine this with extremist positions on social issues.

I hope the 2010 results at least means Sarah Palin has less power and is less likely to run for President.

Some demographic trends in the 2010 election.

Looking at the CNN exit polls from this and the last two elections, here are a couple of interesting fact:

Compared to 2006, the share of Hispanic voters has not increased (8% of voters in both years). Don’t pundits keep telling us the Hispanic vote is going to be dominant any day now?

Compared to 2006, African American turnout has not increased (10% of voters in both years). We all knew those voters they would be less enthusiastic than 2008. But in 2010 Obama did not manage to enthusiast African American voters relative to the pre-Obama period.

In the last midterm, 32% of voters identified as Conservative. This year it is 41%.

In 2008, first time voters went an amazing 69% to Obama compared to 30% for McCain. This year Republicans actually won first time voters, 48%-47%.

Compared to 2006, the youth vote has decreased, from 12% to 10% of the vote. In 2008 it was 18% of the vote! Even John Stewart didn’t manage to engage the youth vote.

Krugman Wrong About Cause of Growing Deficits

Paul Krugman asks why deficits have grown. He gives the impression that the explosion in the deficit is due to tax revenue being too low, rather than spending being too high.

I have re-created the graph on his homepage using BEA data. From 2008 we observe tax revenue plummet, whereas spending just seems to continue its “natural” historical trend.


Looks pretty convincing, right? But we hopefully have the dear-bought wisdom at this point not to trust data from this particular source.

In fact, lower tax revenue - because of the recession, not because tax rates are lower - explain only one third of the increase in the deficit. Two thirds of the increase in the deficit is due to more spending. I will try to convince you of that in a moment.

First, let’s understand how Krugman's trick works.

Most importantly, notice that the graph is in nominal dollars. Krugman neglects to adjust for the overall size of the economy.

Here is the same exact graph, in terms of % of GDP, not cutoff to make small changes look bigger, and starting at the year 2000 rather than 2005 (which obscures longer trends).


Notice that the “natural” increase in spending isn’t there anymore. Between 2000 and the period of the crisis in late 2007, spending is essentially flat, while revenue decreases (thanks to the IT-bubble bursting and the Bush tax cuts). Between late 2007 and now however, spending rises sharply as a share of GDP.

This brings us to the most subtle trick Krugman uses. Go back to the original picture. Notice that during the crisis, tax revenue in nominal dollars drop, whereas spending just continued its path.

But wait a second. During the crisis, the American economy was shrinking rapidly. This helps explains why tax revenue dropped. Yet, government spending continued to increase at the same rate it did before the crisis! This political choice to continue expanding the government despite a shrinking economic base is what explains the lion share of the increase in the deficit.

Now it’s one thing to agree with this policy. I certainly believe the government should spend more during recessions. It is something quite different to – once you discover that the deficit spending policy you were the main cheerleader for was not popular – trying to trick people into believing it just never happened.

Here is the exact same graph Krugman used, with the same period, and the only difference that I plot Revenue and Spending as a share of GDP, rather than in nominal dollars.

I have plotted what would happen if the U.S. would be spending at late 2007 rates, as a share of GDP. The difference constitutes the share of the deficit due to increase in spending (red) and due to less revenue (blue). Remember that there was a deficit already there in 2007, which is not counted as an increase.


It is hopefully clear from the picture that Krugman is trying to hide why the U.S has such a big deficit: Mostly due to more spending. Particularly compare the size of the red and the blue line I added at the end.

Let me also give you the figures so you don’t have to trust a picture.

In the third quarter of 2007, according to the Bureau of Economic Analysis seasonally adjusted figures as a share of GDP spending was 31.4%, Revenue 29.6%, and the deficit 2.2%.

In the second quarter of 2010, the latest they report data for, spending was 36.1%, Revenue 27.0%, and the deficit 9.2%.

So the deficit grew by 7.0%, out of 4.7% was increase in spending and 2.7% a decline in Revenue.

So simple arithmetic tells us that 67% of the increase in the deficit as share of GDP between late 2007 and mid 2010 was due to spending going up.

Second generation Immigrants in Europe are de-assimilating

An important policy question about immigration is to what extent the children of immigrants assimilate. Not only does this tell us a lot about the forces at play, but because of the numbers second generation immigrant outcomes help determine our future.

I just read an important new paper about immigration and assimilation in Europe, that (if the information in it is correct) contains surprising results. The paper includes data on employment rate of first and second generation non-European immigrants in the 3 major European countries of France, Germany and U.K (the 4th largest European country - Italy - has few non-European immigrants).

Looking carefully at the data in some of the tables, we can see that non-European immigrants in Europe are de-assimilating, with the second generation doing worse than the parents.

I focus on the share of immigrants that work compared to the natives, and only on non-European immigrants (we all know that European immigrants usually assimilate).

First the data confirms that both first generation and second generation immigrants in all 3 countries work much less than natives, both for men and women.

For women, the second generation is slowly assimilating. Whereas the first generation works 35% less than natives, the second generation works 27% less than natives, an improvement of 8 percentage points. (the figures are the non-weighted, arithmetic mean of the 3 countries, below I have put data in each one).

For men however the trend is the opposite. The second generation non-European immigrants are less likely to work than the previous generation! While the first generation work 10% less than natives, the second generation works 24% less, a deterioration of 14 percentage points.

So things are getting worse in the 3 largest European countries, not better. (The paper had no data on second generation immigrants to Sweden, but I am pretty sure they do better than the first generation).

Why is this happening? One reason may be that the first generation contains people who moved to Europe in order to work. Because they were selected on this trait, they have above average work ethic for their group. The second generation only has some of this advantage left.

Perhaps these are not actually parent-children pairs, and the only cause of the results is that the composition of first generation immigrants changed for the better before they had time to have children (I doubt this).

Another, more troubling possibility is that the second generation are assimilating into a completely new culture. This is not the standard, successful western-European culture, but a new kind of mixed ghetto culture that emphasizes grievances, hostility to the host society, weak norms and a lack of a work ethic.

What the trends suggests is happening that for men, the immigrant culture that has emerged in Europe is worse even than the culture they brought with them from Turkey, Algeria etc. Women instead are less oppressed, and work more than their mothers.


Appendix

Comparing Second generation male immigrant relative employment rates with the first generation immigrants:

UK -10%
France -13%
Germany -19%

Comparing Second generation female immigrant relative employment rates with the first generation immigrants:

UK +15%
France +8%
Germany +2%

Employment rates (the figure in the parenthesis compared immigrants to the native born):

U.K

Native Men: 79.0%
First generation non-European immigrant Men: 67.8% (-14%)
Second generation non-European immigrant Men: 60.0% (-24%)

Native women: 66.5%
First generation non-European immigrant Women: 43.3% (-35%)
Second generation non-European immigrant Women: 53.5% (-20%)



France

Native Men: 66.3%
First generation non-European immigrant Men: 61.6% (-7%)
Second generation non-European immigrant Men: 53.0% (-20%)

Native Women: 58.9%
First generation non-European immigrant Women: 37.6% (-36%)
Second generation non-European immigrant Women: 42.4% (-28%)



Germany

Native Men: 75.3%
First generation non-European immigrant Men: 68.5% (-9%)
Second generation non-European immigrant Men: 53.9% (-28%)

Native women: 65.8%
First generation non-European immigrant Women: 42.5% (-35%)
Second generation non-European immigrant Women: 43.8% (-33%)

Immigration to Europe is not a human right

A democratic principle shared by most people is that sovereign countries have the right to determine their immigration policy. The elites are increasingly abandoning this position. Swedish bishop Eva Brunne in her opening of the parliament made statements that have been celebrated by the Swedish media:


"Yesterday evening thousands of people gathered in Stockholm and in various parts of the country to make their voices heard. To call out their disgust at that which divides people. The racism which says that you don’t have as much worth as I do; that you shouldn’t have the same rights as me; aren’t worthy of living in freedom, and that is the only reason – that we happen to born in different parts of our world – that is not worthy of a democracy like ours to differentiate between people."

Reading this carefully you will see that the text extolled by the Swedish elite contains a radical left agenda that denies the nation any sovereign rights. She is saying it is "racism" to tell people that they don't have the same right to live in Sweden as someone born to Swedish parents, because they "happen" to be born somewhere else.

But Sweden is the collective property of Swedish citizens, just as Brazil belongs to Brazilians, just as GM belongs to its shareholders and just as a condo-association belongs to the owners. While there are human rights that are inalienable, (such as the right to live your life in peace without oppression), there is no "right" to come live in Sweden because your own country is bad.

Intellectuals noticed that when Socialists allocated more and more "rights" to people, they were simultaneously taking the freedom away from the people who were assigned the responsibility to fulfill those rights. Positive rights such as the right to a job doesn't increase freedom, it reduces freedom because it imposes on others the obligation to create a job for you.

The "right" to immigrate to Sweden similarly forces Swedish people to give away their property right (to the collective assets of Sweden, such as its land), forces Swedes to finance the living standard of poor immigrants, up to Swedish levels, and most importantly forces Swedes to give away much of their own political power, because the immigrant is given the right to vote, with the vote carrying the power of political coercion.

The classic socialists wanted to give away private property that successful people had created to the poor in our own nations who had not managed to create wealth of their own. The modern, multi-culturalist socialists (including many who call themselves liberal, classically liberal or libertarian) demand that we give away the collective property that the west has created (wealthy, free societies with a high standard of living) to the poor in the rest of the world that have not managed to create good societies of their own.

This absurdity is what happens when you take concepts designed for one society (the "right" to freedom and a good life) and apply them to everyone everywhere.

This is why deep philosophers such as Friedrich von Hayek who thought carefully about the issue defined individual "rights" as relevant within a society, not across societies. Within a society rights, even positive rights, can be absolute (say the right not to starve), but between societies, rights are reciprocal, and we decide what right we grant others. As free people we simply do not have an obligation to, say, invade and pacify Somalia in order provide Somalians with the right to live in peace.

These "rights" that Eva Brunne so generously bestowed on the entire world dramatically reduced the rights and freedoms of Sweden.

As a side note, the example of Somalia above is not merely made in jest. George Bush's argument, for instance, was simple: If people in another country lack "freedom", then they have the right to expect that the west will fix that problem for them, either through migration or invasion.

Proving Bo Rothstein wrong: Why do Swedes trust more? Culture, not welfare state policy.

Sweden and Scandinavia have some of the highest rates of trust in the world, higher than the United States. Trust is not merely fluff to scoff at. Trust and trustworthiness are both signs of a well functioning society and important lubricants for the economy in their own right. Countries with high levels of trust tend to have higher quality of life.

Swedish political science professor Bo Rothstein is one of the people who has claimed that welfare state policies is the cause for high levels of trust in Sweden and Scandinavia. Since trust is good for the economy and society, this would, if true, indeed be a powerful argument in favor of the welfare state.

Rothstein thus writes:

"it is obvious that the countries that score highest on social trust also rank highest on economic equality, namely the Nordic countries, the Netherlands, and Canada. Secondly, these are countries have put a lot of effort in creating equality of opportunity, not least in regard to their policies for public education, health care, labor market opportunities and (more recently) gender equality."

I am going to show to you with a few data points that Bo Rothstein is most likely wrong in his explanation of the the source of Nordic trust.

This paper by other Swedish researchers provides the values for trust for 63 countries from the world value survey.

Sweden has 27% higher trust than the average for the United States. The average of the Nordic countries (Sweden, Norway, Denmark and Finland) have 21% higher trust than the United States.

So far so good for Rothstein's policy-based theory. Welfare state policies and a kind and forgiving society have made trust levels in Sweden and Scandinavia high, whereas Americans living in a brutal market economy cannot trust each other.

My standard critique of this explanation is that it ignores culture, norms and selection. Culture, broadly defined, is tremendously important, and countries with different cultures are likely to have both different outcomes and different policies, without this being an evidence that one caused the other.

So now let's look at trust levels within the U.S, using the General Social Survey (The General Social Survey has large enough sample size to make measurement of small groups meaningful). Millions of Americans are descendants of Scandinavian immigrants. They have lived in the U.S for generations, and their lives are as much influenced by the American (relatively) small government economic system as other Americans.

The results are striking. Americans of Swedish descent have 33% higher trust than average for the United States. Americans of Nordic descent have 39% higher trust than the average for the United States.

How is this possible if the explanation is:

"policies for public education, health care, labor market opportunities and (more recently) gender equality"?

If we notice that Scandinavians in welfare state Scandinavia and Scandinavians in the free-market U.S share the trait of being more trusting than other groups, the most likely explanation is to be found in cultural differences rather than economic policy.

The treatment effect of those policies is virtually identical for all Americans, regardless if their grandfather was Swedish or not. It's not like Americans from Scandinavia living in the Midwest get to enjoy lots of secret welfare state programs that Italians in New Jersey don't have access too. Same country, more or less the same policies. Yet levels of trust are very different within the U.S depending on your cultural heritage.

Once again not accounting for selection ruins the Social Democratic theory: Which states that develop a welfare state is not random. The high trust states have lower costs of doing so. And once again, I show that demography and culture can be more important explanatory variables than policy differences.

Here is a graph plotting trust in countries, with the trust level of people from that country in the U.S (remember, overwhelmingly these are recent not immigrants, but American born people who originated from these countries generations ago).

Both series normalize the average U.S trust level at 1.