Oil booms and inequality in Iran

• Published date: 01 May 2019
• DOI: http://doi.org/10.1111/rode.12569
• Author: Tim Krieger,Mohammad Reza Farzanegan
• Date: 01 May 2019

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Oil booms and inequality in Iran

Mohammad Reza Farzanegan

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Tim Krieger

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Philipps-Universität Marburg, CNMS,

Marburg, Germany

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Department of Economics, University of

Freiburg, Freiburg, Germany

Correspondence

Mohammad Reza Farzanegan, Philipps-

Universität Marburg, Center for Near and

Middle Eastern Studies (CNMS),

Economics of the Middle East Research

Group, Deutschhausstr. 12, 35032

Marburg, Germany

Email: farzanegan@uni-marburg.de

Web: https://www.uni-marburg.de/cnms/

wirtschaft

Abstract

We study the response of income inequality to positive

per capita oil and gas revenue shocks in Iran. Using his-

torical data from 1973 to 2016 and vector autoregression

(VAR) as well as vector error correction (VECM) model‐

based impulse‐response functions, we find a positive and

statistically significant response of income inequality to

oil booms. We also explore possible channels through

which oil booms may increase inequality, including pri-

vate sector credit growth, construction investment, inter-

national trade (imports) and real economic output. We

find that following an oil boom, higher imports, private

sector credit growth, and real economic output can

explain the increased income gap to a certain degree in

Iran's oil‐based economy. Our analysis can help policy-

makers evaluate and accommodate the possible positive

or negative effects of inequality in Iran resulting from the

2016 lifting of the embargo against the country.

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INTRODUCTION

We study how the income gap between the rich and the poor in Iran may be affected by oil and

gas revenue,

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and how positive changes in the latter might shape the future distribution of income

in Iran. The research question is motivated by an expected increase in oil rents resulting from the

removal of energy and economic sanctions following the Iran Nuclear Deal.

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On January 16, 2016, the International Atomic Energy Agency (IAEA) confirmed that the Isla-

mic Republic of Iran fully met its internationally stipulated nuclear commitments. Accordingly, the

European Union lifted its sanctions on a number of Iranian industries, most notably its oil, gas,

and petrochemical sectors. The United States also lifted sanctions on the financial, banking,insur-

ance, energy, petrochemical, shipping, port, metals, and automotive sectors in Iran.

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According to

Both authors are also affiliated to CESifo, Munich, Germany

DOI: 10.1111/rode.12569

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© 2018 John Wiley & Sons Ltd wileyonlinelibrary.com/journal/rode Rev Dev Econ. 2019;23:830–859.

earlier estimates, the cost to Iran of U.S. sanctions alone amounted to up U.S.$2.6 billion per year

(Torbat, 2005). Additionally, different versions of the UN Security Council sanctions on Iran ter-

minated, subject to reimposition if Iran ceases cooperation.

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Lifting these sanctions allows Iran to reenter the global economy and reestablish traditional

business relations, thereby providing the country with the benefits of international labor division

and access to all relevant markets in the industrialized world. Most importantly, Iranian authorities

aim to increase oil production and exports to pre‐sanction levels. Iran's Oil Minister, Bijan Zan-

ganeh, announced a plan to reclaim Iran's share of global crude oil and to encourage international

oil companies to invest in Iranian oil projects.

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Regained access to international banking and the

worldwide transaction network SWIFT is likely to increase foreign exchange revenue. Already,

Iran has regained access to approximately €100 billion in assets previously frozen under the inte r-

national sanctions.

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According to the IMF (2015, p. 82), additional benefits to the country may

arise from opening up the Iranian economy to the sale, supply of parts, and transfer of goods and

services to the automotive and air transportation sectors, along with the associated foreign invest-

ment.

Lifting the sanctions should therefore have three main economic effects (IMF, 2015): first, a

positive external demand shock, both for oil and nonoil exports; second, a positive terms‐of‐trade

shock from a dramatic decline in the cost of external trade and financial transactions (primarily

through a reduction in the price of imports and an increase in the price of exports); third, a wealth

effect through restored access to foreign assets and higher oil exports. The IMF (2015, p. 82) pre-

dicts “these three shocks are likely to create a significant improvement in the outlook for the Ira-

nian economy in the years ahead, outweighing the adverse effects from the sharp decline in global

oil prices over the past year.”

Despite this promising outlook, one should not underestimate the potential detrimen tal effects

that these shocks may bring about. The positive economic shocks may have severe political reper-

cussions. Specifically, we take a closer look in our paper at the development of the income gap

between the rich and the poor in Iran. Based on relative deprivation theory,

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income inequality,

especially when it rises (quickly), has been shown to have a destabilizing effect on societies and

political regimes (Alesina & Perotti, 1996; Sigelman & Simpson, 1977). Krieger and Meierrieks

(2016a), in an analysis of 114 countries from 1985 to 2012, show a robust association between

higher levels of income inequality and terrorism. Farzanegan and Witthuhn (2017) also find a con-

sistent negative effect of higher income inequality on political stability in their panel of more than

100 countries from 1984 to 2012. In the case of Iran, we can trace a continuous increase in income

inequality (based on an estimate of the Gini index of household income inequality) prior to the

Islamic Revolution of 1979.

In this paper, we investigate the extent to which the positive shock to Iranian oil rents affects

the income gap between the rich and the poor. We ask whether lower income groups may experi-

ence benefits from increased foreign trade in their daily lives, or whether the gap between the rich

and the rest of society is likely to widen. We do so by using historical information on past positive

oil and gas revenue shocks to simulate the response of income inequality to such shocks. Figure 1

shows the association between the Gini index (a higher index indicates more income inequality)

and oil and gas export revenue per capita (in real 2010 U.S. dollars) in Iran. There is a strong cor-

relation (0.78) between these two key variables that is statistically significant at the 99% confi-

dence interval.

Our analysis proceeds as follows. After a thorough review of the related literature and the

derivation of our hypotheses in Section 2, we turn to methodological and data issues in Section 3.

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