ENDGAME: How Iran's Hyperinflationary Currency Collapse Could Lead To Revolution

Business Insider

Iran has captured a lot of attention this week as inflation spirals out of control and the Iranian rial is quickly becoming worthless.

Yesterday, the rapidly falling value of the rial sparked serious street protests in Iran.

Now, the question becomes: Is the hyperinflation currently underway in Iran going to be the straw that finally breaks the camel's back?

The West certainly hopes so.

That's the whole point of the forceful Western sanctions placed on Iran's oil exports and even imports of basic goods and the Iranian banks being completely frozen out of the international financial system.

The sanctions have been in effect since July, but the situation is really just now starting to get worse as it becomes crystal clear to Iranians that their monetary authority has completely run out of the foreign exchange reserves they need to defend the value of their quickly plunging rial.

The first realization that the CBI (Iran's central bank) had run out of firepower, says BNP Paribas head of CEEMEA strategy Bartosz Pawlowski, came two weeks ago when the Iranian government opened a "foreign exchange center" in which it pledged to sell U.S. dollars for 2 percent below the black-market street price. This was supposed to curb black market trading, which has been driving the devaluation of the rial.

However, the plan backfired when Iranians realized that everyone was rushing to the center to exchange rials for dollars. Pawlowski told Business Insider that this mad rush ended up making " the demand for hard currencies more visible and tangible."

Pawlowski went on to say that "s ince there hasn’t been any reports of the government stepping in to limit depreciation and/or providing subsidies for basic goods, which prices have also surged, the worry is that those reserves have shrunk quite fast."

At that point, the hyperinflation went parabolic.

And now, this week, frustrated Iranians have taken to the streets in protest.

Does the hyperinflation lead to revolution, then?

Renaissance Capital chief economist Charles Robertson says it might. He wrote in a note back in March, when there was uncertainty surrounding how the Iranian population would react to the first elections since the massive "Green Movement" demonstrations following the 2009 elections – that at the firm, they "do see the risk of a violent political transition that could lift oil prices higher."

Robertson also quantified the risk, based on historical regime changes:

There is a 3.6% chance of democratisation in an autocracy with per capita GDP of $10,000-19,000 or 5.1% if incomes are shrinking, and a 6.4% chance at $6,000-10,000 or 15.5% if incomes are shrinking. Iran’s per capita GDP in 2009 was $10,622. This tells us not to make a revolution a base case for 2012, but it represents a serious risk.

Iran's GDP per capita was estimated by the IMF to be $12,200 in 2011, but sanctions have taken a serious toll this year. Furthermore, incomes are shrinking in real terms as the rial loses value.

And the outlook for Iran's current situation is not very bright.

The problem, as complex systems scientist David Korowicz told Business Insider, is that given the international political dynamics, Iran has little recourse in their current situation, and that it "could be catastrophic for the Iranian people."

Korowicz painted a troubling picture of the immediate future that Iranians may now face:

Where you have a hyperinflation problem, basically what happens is the whole society is out trading anything they can for food.

Food becomes the thing that outbids everything else. If people start spending because they have to, and everything goes on more and more of the essentials, you effectively kick out most of the rest of the economy.

So, if I wanted to buy furniture, I'm not going to buy furniture in that environment – or anything discretionary or semi-discretionary.

That can add to the acceleration in the price of essentials, but of course, you also have got the hyperinflation on top of that. You can literally very quickly just kick over the whole discretionary economy. That's it.

So, I think Iran in that situation is in a much more dangerous situation.

It's unclear at this point whether Iran has a single remaining option to stave off a complete economic collapse, other than giving in to the demands of the West over its controversial nuclear energy program. BNP's Bartosz Pawlowski told Business Insider that " reports already point to remarkable increases in prices and these things tend to feed on themselves so we may still get some troublesome news going forward."

He also gave a poignant reminder about last time food prices swelled in the Middle East, saying, "As you know, spiking food prices were one of the reasons which led to the so-called Arab spring last year."

And Dennis Gartman said in his Gartman Letter publication today that "the total collapse of the currency shall give rise, as such collapses always do, to chaos and perhaps, hopefully, to regime change."

However, University of Michigan professor and Middle East expert Juan Cole disagrees. In a post on his blog, Cole pointed out that sanctions of the sort that the West has imposed against Iran rarely lead to regime change.

Instead, the hyperinflation will just fall on the shoulders of the Iranian people and not necessarily the ruling regime, writes Cole:

Severe sanctions almost never work in producing regime change or even in altering major policies of regimes. In Iraq, the severe sanctions of the 1990s actually destroyed the middle classes and eviscerated civil and political society, leaving Iraqis more at the mercy of the authoritarian Baath Party of Saddam Hussein than ever before.


The collapse of the rial, then, may be a signal that the Iranian public is in for great suffering and that the savings of the middle class are about to be wiped out. But that would mean they would lack the money to pay for an insurrection. Moreover, while they are blaming Ahmadinejad now, they know that the US, the EU and Israel are behind their deepening misery, and they are likely to come to hate their torturers.

It certainly seems possible that the regime's days are numbered, but as ever, uncertainty persists.

SEE ALSO: A rare occurrence in the Saudi currency market shows trouble brewing in the Middle East >

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