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Six keys to economic reform in Iran

Iran meeting its target of 8% economic growth depends on how it handles six challenges that so far have hindered Iran’s economic development.
TEHRAN, IRAN:  A partial view shows Tehran Stock Market 26 June 2005. Iran's president-elect Mahmood Ahmadinejad intends to offer Iranians free shares in state-owned enterprises and slash interest rates for corporate investment, a close aide said. The aide also played down the importance of fluctuating price movements on the Iranian bourse, where investors have been jittered by the lack of a concrete economic plan offered by Ahmadinejad. AFP PHOTO/PATRICK BAZ  (Photo credit should read PATRICK BAZ/AFP/Getty

On June 8, during the commencement of the International Exhibition of Exchange, Bank and Insurance, Iran’s first Vice President Eshagh Jahangiri announced that the country needed an 8% annual economic growth and a 12% yearly increase in capital investments to generate the jobs required for a healthy path of development. He identified financing as the missing link in Iran’s economic development and called upon the financial sector to develop instruments to spread the burden of financing economic projects onto more institutions than banks.

There is no doubt that an improved financial sector would facilitate Iran’s economic development. However, there are a number of other missing links that will require sustained attention from the government and appropriate reform to prepare the ground for achieving the targeted economic growth.

Experts and analysts do not doubt Iran’s potential for economic growth. The country’s human resource base will be the central socioeconomic factor that under appropriate circumstances will facilitate fast-paced economic development. In fact, Iran has an above-average pool of educated workers. They may lack skills in some new economic sectors, but the base is solid, young and dynamic. Furthermore, the young average age of the population has increased the pace of sociocultural change, making Iranian society much more adaptable to new technologies and conditions, the main platform for the development of a knowledge-based society, the core objective of the country’s 20-Year Perspective. It is also important to note that the socioeconomic developments of the past decades have produced a predominantly urban society, with the majority of the population having been born and brought up in urban areas. This young, urban society provides not only the human resource pool, but also a dynamic market that can pave the way for growth.

In addition, the economy will benefit from a vibrant private sector and the country’s material wealth. Iran enjoys abundant natural reserves, as well as a geostrategic position as a regional hub for energy and trade. Incidentally, the country’s diverse economic base will also help the outlook for economic progress.

However, despite the above advantages, the country will continue to encounter difficulties emerging from a host of internal and external issues. Below, I focus on some internal phenomena that pose barriers to Iran’s economic development:

  • Lack of an economic doctrine. Iran continues to lack a comprehensive doctrine for economic development. Though both the 20-Year Perspective and the recent Document on Resistance Economy define strategic goals, it is not clear which macro-development route the country will take, especially in the wake of increased impacts by global and regional economic phenomena. Iran continues to react to external factors (such as sanctions and regional developments) as opposed to proactively following a clear path of economic development.
  • Politicization and securitization of the domestic business environment. The country’s economy remains politicized and security-driven, mainly due to the overshadowing role of the government and opaque interest groups. Economic interests become the subject of internal bargaining between competing networks rather than fair competition. Complex laws and regulations create ambiguities, forcing a large number of domestic investors to seek opportunities elsewhere. These ambiguities also pave the way for corruption that in turn undermines the realization of the country’s economic potential.
  • Corruption and mismanagement. It's no longer a secret that widespread corruption is present in the Iranian bureaucracy. A quick look at the most recent corruption cases underline the damning effect of this phenomenon on the Iranian economy. Furthermore, despite privatization, the government remains the main engine of capital formation, which is inefficient. Concurrently, unstable government finances have brought about fluctuations in industrial and infrastructure investments. The mismanagement reached new heights during the government of former President Mahmoud Ahmadinejad, and there is hope that the administration of President Hassan Rouhani will introduce more strategic thinking into key capital-investment decisions. The inherent conflict facing the Iranian economy is the fact that on the one side, the government needs to be downsized and to deregulate to improve economic conditions, but on the other side, the same government has to play the role of the largest investor in the economy. The time has come for the government to empower the private sector to plan its own needs based on a market structure and supported by government incentives and grants.
  • Low total-factor production efficiency. Statistics on the Iranian economy continue to speak of poor efficiency in virtually all sectors. This is also witnessed in the allocation of labor and production resources as well as in budgeting and the planning of investments. Incidentally, despite massive allocations of funds and resources to the state sector, its efficiency remains extremely low. The poor allocation of resources as well as higher costs in industries such as construction have been major side effects of this phenomenon. Efficiency improvement could itself be a major source of economic growth in the Iranian economy, but efficiency shifts require an appropriate business climate and legal and structural reforms.
  • Socioeconomic tensions. A host of reasons, including the gap in income levels, unjust distribution of resources between provinces and regions as well as youth unemployment have led to socioeconomic tensions that undermine the country’s economic potential. 
  • Short business cycles. Business cycles in Iran continue to be conducted in the short term, which prevents long-term planning and growth. The key ingredient to achieving a gradual shift will be legal and policy sustainability.

Other items could be added to this list, but the core point is that Iran’s economic development will face many hurdles as long as key socioeconomic and sociopolitical issues are not addressed. It is evident that the most critical driver for Iran’s future economic development will be the emergence of an economic doctrine that can discipline the utilization of resources for longer-term development. As long as Iran lacks a clear economic doctrine, it will continue to suffer from short-term thinking and a trial-and-error mentality. What may help the country in this process is the fact that the government has identified economic development as an important priority. Nevertheless, some analysts are skeptical as they argue that economic and technological advancement are seen as a source of legitimacy rather than an objective. Nonetheless, there are indications that the extreme conditions of the past will not return as economic policies and institutions mature over time.

As such, it is valid to argue that the goal of an 8% annual growth is overambitious, but the macro plans are not misplaced. Some experts have warned the government that overambitious plans can backfire in the longer run, especially as various stakeholders fail to see the longer-term benefits of plans and policies. Nonetheless, the overall vision to create a knowledge-based society by utilizing Iran’s material resources and generating human and social capital is correct. What will most likely emerge is that the pace of development will be slower than envisaged.

The critical element of efficiency improvements can be achieved through privatization, decentralization and deregulation — all goals that are envisaged in the Document on Resistance Economy. As such, it is valid to argue that the needed restructuring and rethinking processes have partly begun, but the illegitimate interests of opaque networks, the inertia of existing institutions as well as the prevalent trial-and-error mentality alongside external irritants will undermine and slow down the overall process.

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