Tuesday, April 6, 2010

Cutting Subsidies in Iran

A story in today’s New York Times tells of the efforts to cut government subsidies for a wide range of ordinary products in Iran. Iran’s president, Mahmoud Ahmadinejad, may take the role of hard-liner on other issues, but here he is the pragmatist, looking for the rational economic solution to the country’s chronic budget difficulties.

The most prominent subsidy in Iran is the state subsidy for gasoline. The government pays nearly three fourths of the cost of all the gasoline people buy. A subsidy like this seems to make sense when you look at the gasoline used by the average worker. The problem with subsidies, though, is that most of the benefit goes to the people with the most money. In Iran, this includes the criminal enterprises that are affiliated with the government — their enormous profits, which distort Iran’s economy in the first place, are padded by the government subsidies. The government, in turn, has come to lean on these criminal groups for their financial strength. Getting rid of the subsidies would go a long way toward reducing this unhealthy relationship between government and organized crime.

Caution is needed whenever economic policies are changed on such a massive scale — you don’t want to inadvertently push key groups of workers into poverty. But no one in Iran is suggesting to wipe the subsidies away all at once. Parliament seems to be prepared to cut them by 20 percent. The president, who in Iran is a highly visible figure but has little political authority, is campaigning for a 40 percent cut. That would be too big a change to do all at once, but put in place over the course of a year, it could be the start of a manageable phase-out of subsidies.

There is plenty of precedent for the elimination of state subsidies, and history shows that subsidy cuts rarely cause economic distortions on the same scale that the subsidies did. Recently China reduced its motor fuel subsidy, causing the price of gasoline to go up by about 80 percent in less than a year. There was a fair amount of hand-wringing about this, but the result was a more balanced economy at the end of the year. That is what Iran too is likely to find if lawmakers can be persuaded to take a less hesitant approach to phasing out the subsidies that keep the country’s economy — and its politics — perpetually out of balance.