Effects of International

SAISFReview vol. and

inancial Energy
XXXIII Sanctions 2013)
no. 1 (Winter–Spring 13

Effects of International Financial

and Energy Sanctions on Iran’s
Informal Economy

Mohammad Reza Farzanegan

This paper discusses the extent to which sanctions and the informal economy affect
the political economy of Iran, and highlights some important transmission channels
by which these sanctions affect the Iranian informal economy. The effects of the recent
sanctions on Iran’s informal economy have been transmitted mainly through the for-
eign exchange market. This article concludes that despite economic reforms under the
Mohammad Khatami government, financial pressures and the foreign exchange market
could contribute to an increase in the size of Iran’s informal economy in the future.
Though the financial and energy sanctions influence Iran’s fiscal policies and negatively
impact economic growth, a moderately sized informal economy could improve political
stability to the country by reducing income inequality.

Introduction

T his paper aims to study the effects of the ongoing economic sanctions,
including financial and energy sanctions, on the activities in the Iranian
informal economy.� Informal economy covers all market-based legal pro-
duction of goods and services that are deliberately concealed from public
authorities.1 Therefore, I do not take into account illegal businesses such
as drug trade and human trafficking in this paper.
Between 2006 and 2010 sanctions were imposed against Iran for its
nuclear program, and these sanctions aimed to ban the supply of heavy
weaponry and nuclear-related technology to the country by blocking its
arms imports and freezing assets of key individuals and companies. By

Mohammad R. Farzanegan is Assistant Professor of the Middle East Economics at

the Center for Near and Middle Eastern Studies (CNMS) at the Philipps University of
Marburg in Germany. In 2010, he was awarded the Georg Forster Research Fellowship
for Postdoctoral Researchers of Alexander von Humboldt Foundation. His PhD study at
Dresden University of Technology was mainly focused on the examination of political
economy of Iran. His main fields of research are the political economy of natural
resources, quality of governance, demographic transition, and shadow economy. He has
several publications in international journals such as Defence and Peace Economics,
World Development, Energy Economics, European Journal of Political Economy,
Applied Economics and Ecological Economics.

© 2013 by The Johns Hopkins University Press 13

14 SAIS Review Winter–Spring 2013
design, these sanctions did not involve the key financial and economic sec-
tors of Iran. In June 2010, the United Nations Security Council (UNSC)
approved new sanctions against Iran (UNSC Resolution 1929), expressing
concern over Iran’s lack of compliance with previous resolutions, expanding
and reinforcing sanctions, and including restrictions on arms, financing,
shipping and other “proliferation sensitive activities.” This resolution also
targeted the Iranian energy sector, paving the way for subsequent energy
sanctions: “Recognizing that access to diverse, reliable energy is critical for
sustainable growth and development, while noting the potential connec-
tion between Iran’s revenues derived from its energy sector and the funding
of Iran’s proliferation sensitive nuclear activities, and further noting that
chemical process equipment and materials required for the petrochemical
industry have much in common with those required for certain sensitive
nuclear fuel cycle activities.”2
In January 2011, the European Union (EU) while referencing UNSC
Resolution 1929 announced an important phase of sanctions: “…the sale,
supply or transfer to Iran of further key equipment and technology which
could be used in key sectors in the oil and natural gas industry or, in the
petrochemical industry, should be prohibited. Moreover, Member States
should prohibit any new investment in the petrochemical sector in Iran.”3
The EU energy sanctions on Iran came into force in July 2012. As a
result of these sanctions, the daily value of Iranian oil production fell by
11 percent in December 2012 compared to production in December 2011.4�
On average, the total supply of Iranian oil fell by 686 thousand barrels per
day in 2012 compared to the 2011 average. The resulting loss in the value
of daily oil production in Iran is estimated at US$ 72 million.
In January 2012, the United States imposed sanctions against the Ira-
nian central bank, introducing new challenges for the Iranian government
to receive payments for its oil exports. For example, India—one of the main
importers of Iranian crude oil—has been facing serious problems because
it can no longer pay the Iranians directly for the oil it imported. India had
been relying on the Turkish banking system to pay its petrobill but as a
result of new U.S. pressure on NATO-ally Turkey, the Turkish channel is
no longer available.�5
Another round of sanctions came into force in July 2012 with the EU
ban on the import, purchase, and transport of Iranian crude oil. This EU
initiative was a new development in the modern history of sanctions on Iran.
Historically, the EU has accounted for 20 percent of the Iranian oil market.
As a result of these sanctions, Iran lost one-fifth of its oil market to com-
petitors. Furthermore, European protection and indemnity (P&I) insurance
companies stopped insuring Iranian ships and oil tankers. As the EU P&I
companies cover almost 90 percent of world shipping, this is a significant
loss for Iran and adds a further complication for Iranian oil exports to other
countries.6 � In this case, the problem is not the availability of customers for
Iranian oil, but the insurer of the oil tankers involved in ensuring safe trans-
port. In October 2012, the EU followed up the energy sanctions with finan-
cial sanctions, prohibiting all transactions—except humanitarian ones—with
 Effects of International Financial and Energy Sanctions 15
Figure 1. Iran Monthly Oil Production

Source: www.eia.gov

Iranian banks. Both types of financial and energy sanctions directly target
Iran’s oil revenues. Sanctions have both increased oil-related transaction
costs as well as forced the country to sell oil at a discount.�7,8� Oil production
has also been affected. Figure 1 shows that the marginal positive growth of
monthly oil supply stopped in May 2011; since then, the Iranian oil supply
has remained steady or fallen. On average, 60 percent of Iranian govern-
ment revenues and 90 percent of export revenues originate from oil and gas
resources.9� Therefore, financial and energy sanctions targeting Iranian oil
revenues affect the whole
Iranian economy, includ-
ing the factors that drive A combination of high demand for
the informal economy. strong currencies and their limited
Sanctions against
Iran have increased cor-
supply in the market has increased
ruption, rent-seeking, and the difference between official and
illegal trade in the coun- black market foreign exchange rates,
try by reducing the inflow
of petrodollars and de- leading to significant black market
creasing foreign exchange premium (BMP) for major currencies
reserves. They have also
affected the ability of the such as the U.S. dollar and the Euro.
Iranian Central Bank to
clear the foreign exchange market and defend the fixed exchange rate. A
combination of high demand for strong currencies and their limited supply
in the market has increased the difference between official and black market
16 SAIS Review Winter–Spring 2013
foreign exchange rates, leading to significant black market premium (BMP)
for major currencies such as the U.S. dollar and the Euro. Higher BMP en-
courages the importers who have access to subsidized foreign exchange to
“overinvoice” the real value of their imports. They sell on the black market
the amount corresponding to the overinvoiced portion at higher rates,
making a significant, fast, and illegal profit. By reducing financial sources
of the government, the sanctions hinder official imports, while demand in
the economy still exists. This gap between formal imports and consumer
demand encourages import smuggling. Sanctions also push the inflation
rates upwards. Increased liquidity due to cash payment of subsidies has
raised consumer demand for goods and services, but industrial capacity and
imports have been affected negatively by the ongoing sanctions, making
it difficult to satisfy the increasing consumer demand. Consequently, the
gap between supply of goods and services and consumer demand pushes
the price level upward, fueling inflation rates. Higher inflation rates reduce
the real disposable income of people, encouraging them to seek alternative
sources of income through the informal economy. In response to sanctions,
the Iranian government has increased restrictions on the foreign exchange
market, and also plans to increase the share of taxes in the annual bud-
get. Imposing restrictions on the foreign exchange market increases the
regulatory burden and opens new opportunities for rent-seeking for well-
connected traders. Increasing the tax burden has a significant effect on push-
ing economic agents, especially small businesses, to the informal economy.
This shift to the informal economy undermines the main goal of the state,
which attempted to offset the decrease in oil revenues by an increase in tax
revenues. Due to sanctions, a structural deficit, and high dependence on oil
rents, the Iranian government is unable to create productive job opportuni-
ties for the country’s large young and educated population. In the absence
of job creation, the opportunity cost of engaging in the informal economy
decreases.�10
It is informative to compare the key macroeconomic indicators of
2012—by when sanctions were firmly in place—with those of 2005—the year
before sanctions were imposed and the start of Mahmoud Ahmadinejad’s
first term. The inflation rate increased from 13.39 percent in 2005 to 27.34
percent in 2012. Industrial production (measured in constant U.S. dollars)
decreased from US$ 84 billion in 2005 to US$ 68 billion in 2012. Between
2005 and 2012, the real effective exchange rate increased by almost 80
percent, significantly reducing the competitiveness of Iranian products in
international markets.�11
This paper aims to provide a brief overview of the consequences of
ongoing sanctions on Iran’s overall economic performance, the main trans-
mission channels of the new sanctions to the Iranian shadow economy, and
the political consequences of the increasing size of the shadow economy.
This paper is organized as follows: the first section explains how the
recent sanctions affect the development of the shadow economy. The sec-
ond section examines the main drivers and the latest figures describing the
magnitude of the Iranian shadow economy. The third section examines
how increasing the size of the shadow economy can affect political stabil-
 Effects of International Financial and Energy Sanctions 17
ity. The final section concludes that the financial and energy sanctions have
increased smuggling through a higher black market premium (BMP) in the
foreign exchange market, and provides some policy recommendations.

Transmission Channels of Recent Sanctions

to the Informal Economy

Foreign Exchange Market

Financial and energy sanctions have most directly affected the foreign ex-
change market in Iran. Significant decline in government oil revenues due
to sanctions and problems transferring the petrodollars into the domestic
economy have destabilized the foreign exchange market within the country.
Iran has serious problems meeting the high domestic demand for foreign
exchange. This has led to the emergence of a high BMP for foreign exchange
transactions involving currencies such as the U.S. dollar and the Euro. The
shortage of incoming petrodollars and the increasing domestic demand to
convert the Iranian rial (IRR) to other more stable currencies have forced
the Iranian state to opt for a rationing system of foreign exchange. In Sep-
tember 2012, the Iranian government announced the adoption of a three-
tiered multiple exchange rate regime. The state also introduced ten general
categories of products (see Table 1),12 grouped according to their importance
in the Iranian economy:
The three different exchange rates which can be used to import goods
from the aforementioned categories are as follows:

1. The official exchange rate (or reference rate as of April 2013)13: 12,260 IRR/
USD. This is the most subsidized rate for the U.S. dollar in order to im-
port the necessary and critical goods such as (human related) medicine,
grain, and sugar (categories one and two).
2. The non-reference exchange rate (as of April 2013): 24,700 IRR/USD.14 This
rate should be 2 percent lower than the free market rate and will be set by
the central bank each day. However, in practice the gap between the non-
reference rate and free market rate is now much higher than 2 percent at
almost 50 percent. This exchange rate is designed for the import of goods
in categories two (animal related medicine), and three through nine.
3. The free (black) market rate: 37,000 IRR/USD (as of 27 February 2013).15
Free market rate is for imports of goods in category ten. The importers of
such goods must purchase the required foreign exchange from licensed
dealers only.

In order to reduce In order to reduce market tensions,

market tensions, the Ira- the Iranian government implemented
nian government imple-
mented censorship and censorship and filtering of financial
filtering of financial web- websites that report free exchange
sites that report free ex-
change rate information. rate information.
An example of this filter-
ing was the Mesghal website, whose manager was arrested and accused of
reporting misinformation and causing exchange rate volatility.16 The current
 18

Table 1. General Categories of Products12

Category of Products Product Items

1 These are basic goods such as red meat, chicken meat, live goat, barley, corn, soya bean, oil, raw sugar, indus-
trial dry milk, etc.
2 These are goods such as prepared medicine, raw material for medicine, and medical equipment, which are not
produced inside the country.
3 These goods include live animals, seeds, dairy cattle, one day old chicken, laying hens, SPF eggs for preparing
vaccines, fertilizers, flax seeds etc.
4 These goods include rubber, truck tires, cotton, artificial yarn, alloys, construction machinery, granules, etc.
5 These goods include resins, lubricants, magnesium carbonates, magnesium stones, metal rocks, coal, rare gases,
SAIS Review Winter–Spring 2013

sulfates, printing machinery, tractors, etc.

6 These goods include starch, olive oil, varnishes, milk sugar, glucose, carbonates, bars, construction machinery,
industrial oils, etc.
7 These goods include tobacco, cameras etc.
8 These goods include extracts, lamps, shaving razors, excavation machinery, refrigerators, freezers, passenger
tires, washing machines, dish washers, etc.
9 These goods include poultry, spices, cigar paper, etc.
10 These goods include live animals, poultry, chicken, horse, poultry meat, wall paper, mobiles, passenger automo-
biles, cigars, bags, suitcases, dresses, furniture and utensils, etc.

Source: For more information, see, Federation of Indian Export Organisations, “Hit by Sanctions, Iran Offers Opportunities for Indian exporters,” http://www.fieo.org/uploads/
files/file/12%20Trade%20with%20Iran.pdf.
 Effects of International Financial and Energy Sanctions 19
BMP for the U.S. dollar is estimated to be over 200 percent.17 This significant
premium is the main driver of rent-seeking, corruption, informal economy
growth, smuggling, and fraud in international trade documents. Financial
and energy sanctions affect the main source of government income, which,
in turn, affects the demand and supply in the foreign exchange market, thus
creating a high BMP for foreign currencies.
High BMP has been a post-Islamic revolution reality marked by strong
control of foreign exchange markets by the state, as well as intensive regu-
lation and restrictions in international transactions by the Iranian central
bank. Thus, BMP is not a new phenomenon in Iran and past experiences
can be used to examine the possible role of a high BMP in expanding infor-
mal and illegal economic activities. Figure 2 shows the trend of official and
black market exchange rates for the U.S. dollar in Iran from 1959 to 2008.18
To calculate the black market premium (BMP), the following equation
is used:

(non official rate - official rate)

BMP = * 100
  official rate

Figure 2. Official and Black Market Exchange Rate for the U.S. Dollar in Iran

Source: Central Bank of Iran: http://tsd.cbi.ir

20 SAIS Review Winter–Spring 2013
Figure 3. Black Market Premium for the U.S. Dollar in Iran (%)

Source: CBI (2013) and author’s calculations

Figure 3 shows the BMP for U.S. dollars in Iran. For example, in 1990
and 1991, the BMP reached a historical level of 2,000 percent.
This brings us to an important question: how does a high BMP drive
informal and illegal economic activities?
In the case of organized smuggling, well-connected traders use the
official banking system and subsidized foreign exchange rate to finance
their imports. In this case, the existence of high BMP encourages traders to
overinvoice their imports, selling the extra illegal subsidized exchange on the
black market. In this situation, we can expect a positive effect of the BMP on
import smuggling. In contrast, some models argue that higher BMP may in-
crease the costs of informal importers and consequently reduce smuggling.
For example, Barnett proposed a model in which agents decide to become
smugglers or entrepreneurs based on premiums in the black market for for-
eign exchange.19 The idea behind his model is that in the case of low BMP,
it becomes cheaper for agents to acquire foreign exchange in the parallel
market. De Macedo also found such an effect of BMP on informal trade.20
The disadvantage of these two models is the implicit assumption that infor-
mal traders do not access the subsidized official exchange rate through the
banking system. This assumption may not be valid, especially for organized
smugglers who often have strong ties to politicians. While informal import-
ers are some of the main buyers in the black market for foreign exchange,
 Effects of International Financial and Energy Sanctions 21
the supply flow into this market is generated partly by informal exporters
“underinvoicing” their exports. Thus, the amount of export smuggling will
increase as the export tax rate and BMP increase. Therefore, a positive effect
of BMP on export smuggling can be expected.
In summary, two types of evidence suggest a strong link between in-
formal trade and BMP. First, trade data comparisons find that increases in
the BMP give rise to greater underinvoicing of exports and overinvoicing
of imports.21 Second, studies based on export supply functions find that a
rise in the BMP tends to reduce exports as domestic companies resort to
incorrect invoicing or smuggling.22
The black market for the U.S. dollar was a post-revolutionary phe-
nomenon in Iran. The post-revolutionary economy saw historical highs in
the BMP for U.S. dollars. This unusually large premium in the black market
(see Figure 3) was reached
under an environment of
In 1990, for example, an importer strict foreign exchange con-
with access to a subsidized official trols that have existed since
exchange rate twenty-two times the revolution. In 1990, for
example, an importer with
below the black market rate had access to a subsidized official
a great incentive to overinvoice exchange rate twenty-two
times below the black market
imports or underinvoice exports rate had a great incentive to
to gain substantial rents. overinvoice imports or un-
derinvoice exports to gain
substantial rents.23
The Mohammad Khatami government implemented some key eco-
nomic reforms that reduced rent-seeking opportunities. One of these re-
forms was the unification of different exchange rates in 2002. As illustrated
in Figure 3, the BMP was almost zero since the unification of different
exchange rates in 2002 and significantly reduced rent-seeking behaviour
in Iran. As the main supplier of the U.S. dollar in the country, the Iranian
government was able to equalize the market, financed by oil revenues. The
Khatami government reforms in the foreign exchange market aimed to re-
duce smuggling, better manage scarce resources, and increase transparency.
At the same time, these institutional reforms had their own costs, such as
a rise in inflation because of the higher import prices resulting from the
unification of exchange rates. It is estimated that fiscal costs of this reform
amounted to 3 to 6 percent of Iranian GDP.24
Engaging in incorrect invoicing is not the only way to benefit from
high BMP. During the currency crisis following the new 2012 sanctions,
the Iranian government designated the foreign exchange at subsidized rates
(the so-called reference rate explained earlier) for the import of necessary
goods such as basic foods and medicine (see Table 1). A group of import-
ers with access to subsidized rates imported related goods but did not dis-
tribute these goods in the local market. Instead, they then exported these
imported materials to neighboring countries, obtained U.S. dollars, and
22 SAIS Review Winter–Spring 2013
sold the dollars on the black market in exchange for more rials, resulting in
a sudden and sharp increase in non-oil export figures. After investigation,
the monitoring agencies uncovered this fraudulent activity and in October
2012 prohibited the export of goods that were previously imported using
the reference exchange rate.25
The misallocation of foreign exchange has been another driver of
informal economic activities as well as rent-seeking. While the subsidized
reference exchange is intended
for the import of necessary
goods such as medicine and ba- While the subsidized reference
sic foods, several reports show exchange is intended for the
that a great proportion of the
subsidized exchange has been import of necessary goods such
used for the purchase of sports as medicine and basic foods,
cars and other luxury items.
The former Minister of several reports show that a great
Health Marzieh Vahid Dastjer- proportion of the subsidized
di protested against this misal-
location and lack of subsidized
exchange has been used for the
exchange for the import of purchase of sports cars and other
medicine, saying, “We [Minis- luxury items.
try of Health] have been pur-
suing the currency which we
were told was allocated to import medicine with since February but...the
amount received is so little it’s not even worth mentioning.”26 Ahmadinejad
dismissed her shortly after she criticized misallocation of foreign exchange.27
According to the Iranian customs office, information during the first eight
months of 2012 (current Iranian year 1391), the weight and value of import-
ed medicine was 2,800 tons and $458.8 million, respectively, representing a
14.3 percent reduction in value compared to imported medicine during the
same period in the previous year. At the same time, the import of luxury cars
for the same period shows an increase of 18.5 percent in value.28

Government Budget and Tax Burden

The international sanctions against Iran have raised budgetary concerns for
the fiscal year starting 21 March 2013. Over the past few decades, almost
60 percent of government revenues were from oil revenues. Since the sanc-
tions were imposed the share of oil as a percentage of government revenues
dropped below 40 percent, a level that was last recorded in the late 1980s.
Figure 4 shows the trend of oil revenues as a share of government revenues
in Iran.
The government has announced its willingness to substitute oil rev-
enues with tax revenues in the fiscal 2013 draft budget.29 The reduced oil rev-
enues following the sanctions present a challenge to the state bureaucracy’s
inflexible cost structure. Payment of salaries and wages of state employees
constitute almost 70 percent of total government expenditures. The remain-
ing 30 percent of the budget is spent on infrastructure development.30
 Effects of International Financial and Energy Sanctions 23
Figure 4. Oil Revenues (As a Share of Total Government Revenue)

Source: http://tsd.cbi.ir/ and the author’s calculations

Two more questions arise: first, is the replacement of oil revenues with
taxes feasible in the short term? Second, what implications will such a tax
increase have on the development of the informal economy?
In Iran, the share of total tax revenues as a percent of GDP is lower
than any other developed and non-oil developing country. According to
World Bank indicators, the ratio of taxes to Iranian GDP was about 6 per-
cent between 2001 and 2006, while the global average was over 14 percent.31
The correlation between the relative share of oil revenues and tax revenues
in the government
This tax increase will potentially budget is strongly
negative (-95 per-
expand the informal economy. High cent). In general, oil
tariffs and taxes on trade are two of the revenues had sub-
stituted for tax rev-
standard determinants of the propensity enues, resulting in
to smuggle as well as the size of the a state relatively less
dependent on its cit-
informal economy. izens. Whenever the
government faced
negative oil shocks, such as the reduction of oil prices in 1986 (introduction
of netback-pricing arrangements to maintain market share by the Organiza-
tion of the Petroleum Exporting Countries), and 1997 (East Asian financial
crisis), the Iranian government expanded its tax sources and diversified the
economy with more emphasis on non-oil exports and production.
This tax increase will potentially expand the informal economy. High
tariffs and taxes on trade are two of the standard determinants of the
24 SAIS Review Winter–Spring 2013
propensity to smuggle as well as the size of the informal economy. Higher
taxes on imports encourage importers to underinvoice the real amount of
their imports. Such incorrect invoicing reduces the amount of taxes paid to
the government. In a case study in Chile, Phylaktis shows that tariffs have
a positive effect on smuggling.32 In another paper, Pitt notes that trade
restrictions such as trade taxes and duties cause price disparities among
countries, encouraging illegal traders to use such price gaps for their own
personal benefits.33 In summary, increasing the share of taxes in government
revenues to compensate for the loss in oil revenues will also increase the
cost of operating formal businesses. This will be an additional burden for
industries and businesses that are already under financial pressure result-
ing from the devaluation of the rial against other major currencies. The
devaluation of the rial has also increased the financial costs of importing
raw, intermediary, and capital goods to Iran. In this situation, increasing
tax pressures will only serve to increase the incentives for economic agents
to enter the informal economy and evade taxes.
What can the Iranian government do to address the budget deficit due
to falling oil revenues? Broadening the tax base instead of increasing tax
rates can be one option. Increasing tax rates such as corporate tax rate will
not only shift the firms “off the books” but also negatively affect the com-
petitiveness of Iranian firms in the region. By cutting corporate tax rates,
the revenue losses will be minimal because lower rates help attract profits
from abroad via transfer pricing and financial restructuring.34 One way of
broadening tax bases in Iran is the introduction of “green taxes”, also called
“environmental taxes” or “pollution taxes.” Pictures of Tehran shrouded in
heavy fog have appeared in newspapers around the world. Green taxes aim
to ensure that emitting economic agents pay the true cost of their activities,
penalizing them for their negative externality on the population.35 However,
the policy of broadening the tax base by itself will not necessarily result in
the collection of higher tax revenues. The final income effect of this latter
policy depends on the quality of economic and political institutions. Increas-
ing green taxes may also encourage firms to transfer a part of their activities
underground if the quality of the monitoring system is weak. Consequently,
we will see the emergence of a larger informal economy without the intended
decrease in pollution.36
To offset reduced oil revenues with tax revenues, the Iranian economy
needs to stimulate higher foreign direct investment by attracting more
domestic and foreign investors, increase economic freedom, and increase
accountability of political institutions to the people. The larger the size of
formal economic activities in Iran, the higher will be the share of tax rev-
enues as a portion of total government revenue. To meet this, however, the
Iranian state should secure property rights, rule of law, political stability,
and increase government efficiency and financial development in addition
to reducing the regulatory burden. Without these key aspects of good gov-
ernance, the non-oil part of the economy will not grow, and there will be
no change in the budget deficit. At the same time, Iran must realize that it
may not be able to attract foreign investors as long as the sanctions are still
in place. However, this topic is beyond the scope of this paper.
 Effects of International Financial and Energy Sanctions 25
The Informal Economy in Iran

Thus far, this paper has discussed the effects of the financial and energy
sanctions on the Iranian economy, and how some of these effects are linked
to the size of the informal economy in the country. This section addresses
the following questions: how big is the informal economy in Iran? Which
factors drive economic agents into the informal economy? Which markets
provide more opportunities for informal activities in Iran? What are the
consequences of the increasing size of the informal economy? How do the
recent sanctions shape the development of the informal economy in Iran?
Economic agents calculate the costs and benefits of entering any eco-
nomic activity, including the informal economy. The costs include incur-
ring financial penalties or jail sentences and losing work licenses. All these
costs depend on the strength and efficiency of monitoring systems, such
as the police; detection probability; efficiency of the judiciary system; level
of administrative corruption; and political institutions, such as democracy
and free flow of information. The benefits of working “off the books” are
the profits from evading taxes and social security contributions. In addi-
tion, economic agents in the informal economy are able to obtain a higher
profit margin as a result of disregarding standards—such as labor safety and
environmental protection—that economic agents are required to comply
with in a formal business.

Institutional Factors behind the Growth of the Informal Economy

The penalty rate and probability of smuggling detection in Iran are low. The
quality of governance is also below the global average due to high levels of
corruption and weak rule of law. According to estimates based on official
Iranian statistics, smuggling of commercial goods in Iran is not risky. 37
Further estimates indicate that the total amount of smuggling in Iran, on
average, is US$ 3 billion per year and the rate of success in the smuggling
business is approximately 95 percent.38
One of the advantages for economic agents operating in Iran’s infor-
mal economy is that there are high levels of “grand” and “petty” corrup-
tion.39 Even in cases where smuggling is detected, there is the possibility of
bribing the monitoring agency to avoid penalties. According to the Inter-
national Country Risk Guide (ICRG)40 indicators—which measure political
corruption on a scale from zero to six where lower scores indicate higher
levels of corruption—Iran’s score worsened from 3 in 1984 to 1.58 in 2010.
ICRG’s measure of corruption includes actual and potential corruption
in the form of excessive patronage, nepotism, job reservations, “favor-for-
favors,” secret party funding, and suspiciously close ties between political
parties and business.
World Governance Indicators (WGI)41 show the worsening perfor-
mance of different aspects of governance in Iran since 1996. WGI’s control
of corruption index captures perceptions of the extent to which public
power is exercised for private gain, including both grand and petty corrup-
tion, as well as the “capture” of the state by elites and private interests. WGI
26 SAIS Review Winter–Spring 2013
estimates present the country’s score as the aggregate indicator, in units of
a standard normal distribution, ranging from approximately -2.5 to 2.5. In
this case, a lower score indicates higher corruption. Iran’s measure of con-
trol of corruption decreased from -0.64 in 1996 to -0.91 in 2011, showing
worsening corruption.
Property rights and rule of law are also important institutional fac-
tors that affect the size of informal economy. Better quality institutions
encourage employment, investment, as well as innovation among people. If
property rights are denied or
the state imposes high taxes,
economic agents then prefer If property rights are denied or
to shift all or part of their the state imposes high taxes,
economic activities to the in-
formal sector. economic agents then prefer to
Rule of law captures shift all or part of their economic
perceptions of the extent to
which agents have confidence activities to the informal sector.
in and abide by the laws of
society, with particular attention to the quality of contract enforcement,
property rights, the police, and the courts, as well as the likelihood of crime
and violence. Similar to corruption indicators, Iran shows a negative trend
in rule of law indicators.42 The rule of law index estimate for Iran was -0.84
in 1996 and later fell to -0.90 in 2011. Indicators of freedom of the press,
transparency, and accountability of the state to the people also have impli-
cations for the costs of engaging in the informal economy. Free media is
an important counter for grand corruption and increases the operational
risks of informal business actors.43 The World Bank voice and accountability
index for Iran also shows a significant decline since 1996, falling from -0.87
in 1996 to -1.54 in 2011, implying that the opportunity costs of engaging
in grand corruption have decreased over time. This index measures percep-
tions of the extent to which a country’s citizens are able to participate in
selecting their government, as well as freedom of expression, freedom of
association, and a free media.

Formal Business Environment

In addition to the low risk of participating in the informal sector in Iran,

higher costs for formal business such as tariff and non-tariff barriers, as well
as sanctions resulting in strict control of foreign exchange transactions, are
responsible for pushing firms into the informal economy. The average tariff
rate44 in Iran for the latest available year (2008) was 25 percent, while the
world average was 7 percent. The weighted-mean applied tariff rate (weight-
ed by the product import shares corresponding to each partner country) in
Iran for 2008 was 17.55 percent, while the world average was 2.98 percent.45
Apart from tariffs, labor force taxes in Iran are also higher than the global
average. This is another reason for employers to seek an informal labor force.
Labor tax and contributions (as a percent of commercial profits) for the year
 Effects of International Financial and Energy Sanctions 27
2012 in Iran was 25.9 percent, while the Arab and world averages were 15.6
and 16.2 percent, respectively.46 From 2008 to 2012, the average cost to ex-
port (in U.S. dollars per container)47 was US$ 1,118 in Iran, while the same
cost in the United Arab Emirates (UAE), Turkey, and Pakistan was US$ 598,
US$ 980, and US $630, respectively. The export cost for a container in Iran
shows an increase of 15 percent from 2011 to 2012, while other countries
in the region reported no increase in these costs from 2011 to 2012. This
increase in Iran’s export costs is a direct consequence of financial sanctions
on the country. The cost to import a container is even higher. The average
cost of importing a container into Iran between 2008 and 2012 was $1,816.
The import costs for the same period in the UAE, Turkey, and Pakistan
were US$ 586, US$ 1,097, and US$ 690, respectively.48 Import costs for Iran
increased 11 percent from 2011 to 2012, while the UAE reported a 7 percent
decrease during the same period.
Furthermore, until the implementation of Targeted Subsidies Reform Act
of January 2010 under the Ahmadinejad government, massive energy and
non-energy product subsidies provided incentives for the growth of the
Iranian informal economy.49 The government used oil rents to appease the
population by offering costly subsidies on public utilities (e.g., food, fuel,
water, electricity). Cutting subsidies comes with increased political risk for
the Iranian government. Having received subsidies on different goods and
services since 1980, Iranians are accustomed to such payments. In 2007,
Tehran witnessed unrest after the introduction of gasoline rationing, with
dozens of petrol stations having been set alight.50
These subsides, especially on petroleum products, have created large
distortions in domestic prices. Large price disparities between Iran and its
neighbors have fostered export smuggling of oil from Iran, putting a heavy
burden on the government budget. The latest estimates show the amount of
annual subsidies (mainly on energy products) was between US$ 70 and US$
100 billion, accounting for 20 percent of Iranian GDP.51 Under sanctions,
the government has implemented the largest economic reform program in
Iran since December 2010 by removing or reducing various subsidies on en-
ergy products.52 Table 2 presents the relative prices of different kinds of oil
products in Iran to import prices (Free on Board (FOB) prices of the Persian
Gulf) before subsidy reforms. This table shows, for example, that the local
price of gasoline in Iran on average has been approximately 27 percent of
FOB prices of the Persian Gulf.

How Large is the Iranian Informal Economy?

There have been several attempts to quantify the size of the Iranian informal
economy. Before discussing the recent measures of the Iranian informal
economy, this paper will first examine the available numbers from public
sources. Table 3 summarizes some of the information in the media about
the size of smuggling (as a part of the informal economy) in Iran.
Table 4 shows the ten largest detected smuggled goods in Iran dur-
ing the first eleven months of 2008 and 2009. The highest share belongs
to alcoholic beverages, which account for 24.9 percent of total detected
 28

Table 2. Ratio of Iranian Oil Products Prices and FOB Prices of Persian Gulf (%)

Products 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006

LPG 6 5 3 2 2 2 2 2 2 1 1
Gasoline-normal 27 26 24 27 21 34 34 38 31 23 21
SAIS Review Winter–Spring 2013

Kerosene 5 7 8 8 7 10 9 10 6 4 4
Gasoil 6 7 9 4 3 4 3 3 2 2 1
Source: Farzanegan, M.R. 2012. Dark side of trade in Iran. In: Storti, C.C., de Grauwe, P. (Eds), Illicit Trade and Globalisa-
tion, MIT Press, Cambridge, MA.
 Effects of International Financial and Energy Sanctions 29
Table 3. Media Information on the Amount of Smuggling in Iran

Source Estimated amount of smuggling

Wall Street Journal, 7 December Two-thirds of sold goods in Tehran

1998 Bazaar are smuggled
Mehdi Karbasian, the former head US$ 1.5 to 2 billion worth of goods was
of Iran’s Customs. Akhbar-e Eqtesadi, 7 smuggled into the country
Bahman 1378 (January 27, 2000)
Hosayn Nasiri, the former Secretary US$ 3 billion
of the Supreme Council of Free Trade
Zones. Radio Free Europe/Radio Liberty 3
(September 18, 2000)
Bonyan, 25 Bahman 1380 (February 14, US$ 3.5 billion
2002)
Iran Daily citing government sources. US$ 3 to 5 billion
Iran Daily, 28 February 2001
Eqtesad-e Iran (Iran’s version of The US$ 4 billion worth of goods are smug-
Economist). Eqtesad-e Iran 360 (Bahman gled or ‘‘legally smuggled’’ into Iran
1380 [January–February 2002])
Source: Based on information in Keshavarzian (2007)

smuggled goods. There are some significant increases in the smuggling of

specific goods: such as a 345 percent increase in smuggled cars, and a 108
percent increase in smuggled cosmetics. An interesting observation is the
reduction of illegal exports of fuel oil. A reduction of 56 percent in illegal
exports of fuel oil may be related to a significant reduction in the subsidies
on a group of oil products such as gasoline and gas oil in 2008 and 2009.
This paper uses a special form of the Structural Equation Modeling
(SEM), Multiple Indicators-Multiple Causes (MIMIC), and trade discrepancy
methods to measure the size of informal trade in Iran from 1970 to 2002. 53
These models include one endogenous latent variable, which is smuggling.
Since smuggling is not directly observable, this analysis is based on a robust
set of causes (e.g., penalty rate, BMP, tariff burden, tax burden, unemploy-
ment, education, income per capita, trade openness, quality of political and
economic institutions) and indicators of smuggling (e.g., consumption of
petroleum products, import price index and total government revenues)
identified from existing literature. The MIMIC model analyzes the relation-
ship between smuggling and its determinants. Such an approach takes into
account different indicators for smuggling, reducing the possible problem
with error-in-variables.54 On average, the findings show that smuggling in
Iran accounts for approximately 13 percent of total trade.55 The highest
records of smuggling in the post-revolutionary (1979) period were between
1992 and 1993 because of a high premium (around 2000 percent) in the
black market for the U.S. dollar in these two years. The average amount of
annual smuggling from 1988 to 2002 was approximately US$ 3 billion.
 30
Table 4. The 10 Largest Detected (Import) Smuggled Goods in Iran (2010 And 2009)

No. Smuggled goods March/April 2010 March/April 2009 % of changes

Value (billion Share of Value (billion rials) Share of
rials) total total (%)
detection detection
(%)

1 Alcoholic beverages 27 21,21 8 8,76 247

2 Piece (cloths) 15 11,63 11 12,14 37
3 Telephone sets, mobile sets 10 8,15 9 10,76 8
4 Products of the chemical 10 7,67 0 0,02 53439
5 Textile 6 5,14 11 12,96 -43
SAIS Review Winter–Spring 2013

6 Prepared foodstuffs 6 5,12 4 4,96 80

7 Other made up textile
articles 5 3,64 1 0,73 616
8 Vehicles other than
railway or tramway
rolling-stock, and parts
and accessories thereof 4 3,25 0 0,56 730
9 Perfumery, cosmetic 3 2,69 0 0,55 599
10 Machinery and
mechanical appliances 3 2,65 2 2,45 55
11 Others 36 28,84 41 47,01 -12
125
Total 100 88 100 43
Source: Iran Custom Statistical Office Report (2010): http://www.irica.gov.ir/Portal/File/ShowFile.aspx?ID=c1fee350-fbad-4b91-b744-47d9cdb7bac8 (Access 9 April 2013)
 Effects of International Financial and Energy Sanctions 31
A study by Nasrollahi, Farzanegan, and Talei shows that the informal
economy as a percentage of GDP in Iran has increased from approximately
10 percent in 1975 to approximately 20 percent in 2007.56 This figure is close
to the 18 percent estimate for Iran in Schneider et al. from 1999 to 2006. 57

Informal Economy and its Effects on Political Stability

How does an increasing informal economy affect the stability of the politi-
cal system? Does a larger informal economy destabilize the political system,
or does it bring more stability by offering job opportunities for of the large
number of unemployed people who are unable to find jobs in the formal
sector? Friedrich Schneider, who has estimated the size of informal econo-
mies around the world, believes that informal economy can act as a safety
net and lower the risk of revolution: “without the shadow economy, Spain
would collapse. It’s the only part of the economy that keeps the economy
alive. You immediately get cash, you immediately earn something to feed
your family.”58
Some studies have provided theoretical arguments and empirical evi-
dence for the positive effects of the informal economy on stability. Several
studies for the Latin American countries show that the informal economy
can soften the increasing effects of corruption on income inequality.59 These
studies discuss the positive role of the informal economy in reducing income
inequality. Corruption per se increases the informal economy by increasing
the cost of doing business in the formal economy. In addition, as is shown
by Biswas, Farzanegan, and Thum, when corruption is extensive, economic
agents in the informal economy can still bribe the monitoring agency and
continue their informal business. The increasing informal economy driven
by institutional weaknesses, however, employs a large number of unskilled
and semi-skilled workers, who are able to survive with income from jobs in
the informal sector. This then reduces income inequality, a main driver of in-
ternal conflict. In a different but related study, Kar and Saha find the damp-
ening effect of the
informal economy
. . . informal economy and political on inequality for
stability have an inverted U relationship: a sample of Asian
at first an increase in the size of the countries.
60

In addition to
informal economy increases political income inequality,
stability but further increases in its size the informal econ-
omy also affects
(after the turning point) are correlated political stability.
with greater instability. Badreldin and Far-
zanegan (2013) 61
estimate the stabil-
ity effects of the informal economy for a sample of 100 countries from 1999–
2005. Their study shows that informal economy and political stability have
an inverted U relationship: at first an increase in the size of the informal
economy increases political stability but further increases in its size (after
32 SAIS Review Winter–Spring 2013
the turning point) are correlated with greater instability. In their model,
the authors control for other drivers of stability such as inequality, income
per capita, quality of political institutions, control of corruption, rent on
natural resources, military forces, and a set of country and time fixed effects.
Badreldin and Farzanegan conclude that the informal economy can
act as a social safety net, providing job opportunities for the army of unem-
ployed in the formal economy, thereby reducing the political risk of unrest,
especially in countries experiencing a significant demographic transition
(e.g. the Middle East and North Africa).62 However, an overly large informal
economy can significantly reduce the financial resources of the government
and limit the state’s capacity to provide public goods such as security.

Conclusion

This paper reviews the possible channels through which recent interna-
tional financial and energy sanctions affect the development of the informal
economy in Iran.
The recent sanctions aim to restrict the flow of oil money into Iran’s
economy by discontinuing oil purchases from the country and ending the
insurance extended to tankers carrying Iranian crude oil. The financial
embargoes have produced serious obstacles for Iran in transferring petro-
dollars from importing countries to Iran, and have weakened the ability
of the country’s central bank to defend the unified exchange rate regime,
which was implemented in 2002. As a result of increasing oil prices in re-
cent years, the central bank was able to equalize demand and supply in the
foreign exchange market, supporting the value of the Iranian rial against
major currencies such as the U.S. dollar and the Euro. Under the sanctions,
however, the central bank has struggled to manage the market, leading to
a shortage of foreign exchange and increasing BMP for major currencies.
Significant premiums in the black market are a well-known incentive for
smugglers of commercial goods. Well-connected traders, who have access
to the subsidized U.S. dollar (one-third of black market rate) have incen-
tives for overinvoicing their real imports, pocketing a significant rent by
selling the subsidized foreign exchange in the black market. In addition to
incorrect invoicing, misallocation of limited foreign exchange is another
channel of corruption and expansion of the informal economy. Subsidized
foreign exchange is designed for importers of basic foods and medicine,
but several reports show that importers of luxury cargoes such as sport cars
have benefitted instead.
Another related form of informal economic activity is the export of im-
ported basic foods and medicines utilizing the subsidized foreign exchange
rate. The importers of such goods do not sell these products inside Iran;
instead, they export these goods directly to neighboring countries for higher
profits.63 Through these channels, the foreign exchange market has shaped
the development of the informal economy in Iran under recent sanctions.
Under financial pressures, the Iranian government has announced its plan
to increase the share of tax revenues in 2013. Since historically almost 60
percent of government revenues have come from oil revenues, substituting
 Effects of International Financial and Energy Sanctions 33
oil revenues with taxes in the short term is a significant challenge. Increasing
the tax burden further encourages businesses to conduct informal economic
activities in order to evade higher taxes. At the same time, sanctions have
encouraged subsidy reforms, especially on energy products. Reduction of
energy subsidies negatively affected the export smuggling of such goods,
which was common in the pre-reform period. However, this successful result
is undermined by the Iranian rial’s devaluation, which has increased the
benefits of smuggling products—such as gasoline—because of the widening
of the price disparity in the post-reform period.
A growing informal economy can also increase the stability of the
political system in Iran. The country is experiencing a significant demo-
graphic transition with an increasing working age population. Structural
economic problems and the burden created by sanctions have reduced the
capacity of the formal economy to absorb the large young and educated
labor force. The informal economy can provide some job opportunities for
this segment of the population, which was otherwise unemployed and posed
a great political risk to the system. Thus, tolerating the informal economy
can be an option to reduce the political risks resulting from sanctions on
Iran. However, excessive growth in the informal economy will also lead to
significant budget deficits, especially under energy and financial sanctions.
Large budget deficits will reduce the capacity of the state in financing pub-
lic goods and services such as security and increase the vulnerability of the
system to potential unrest.
Financial and energy sanctions have been effective in undermining
the economic performance of Iran. Oil exports are almost 90 percent of the
country’s total export revenues and this pattern has not changed signifi-
cantly since the revolution of 1979. Government budget as well as import
tax revenues are also dependent on oil revenues. Increasing oil revenues
leads to higher levels of imports and more trade tax revenues. Such a high
dependence on oil revenues makes short and medium term adjustments to
shocks resulting from sanctions a real challenge for Iran. Increasing tax rates
in response to reduced oil revenues following sanctions can even lead to a
larger informal economy and more tax evasion. Therefore, the Iranian gov-
ernment must balance the pros and cons of the country’s informal economy.

Notes
1
I follow the definition of informal economy presented by F. Schneider (Friedrich Schnei-
der, “Shadow Economies around the World: What Do We Really Know?” European Journal
of Political Economy 21 (2005), pp. 598–642). His definition of the informal economy covers
only production and transactions of “legal” goods and services that are not reported for
tax purposes. This definition excludes illegal activities such as the drug trade and human
trafficking. Schneider states four reasons for economic agents shifting from the formal to
the informal economy: (1) evading income-, value-added and other tax payments, (2) evad-
ing payments of social contribution, (3) evading implementation of special labor standards
such as minimum wages, safety and environmental standards in production process, and (4)
evading compliance with standard administrative processes such as completing statistical
questionnaires.
2
United Nations Security Council, “Resolution 1929,” http://www.globalpolicy.org/images/
pdfs/Security_Council/Security_Council_Resolution_PDFs/1929.pdf.
34 SAIS Review Winter–Spring 2013
3
The Council of the European Union, “Council Decision 2012/35/CFSP of 23 January 2012:
Amending Decision 2010/413/CFSP Concerning Restrictive Measures Against Iran,” Offi-
cial Journal of the European Union 19 (2012), pp. 22–30, http://eur-lex.europa.eu/LexUriServ/
LexUriServ.do?uri=OJ:L:2012:019:0022:0030:EN:PDF.
4
U.S. Energy Information Administration, “International Energy Statistics,” http://www.eia.
gov/cfapps/ipdbproject/IEDIndex3.cfm?tid=50&pid=53&aid=1 (accessed March 6, 2013).
5
“New Sanctions on Iran Pose Problems for India’s Oil Payments,” Firstpost, January 6,
2012, http://www.firstpost.com/politics/new-sanctions-on-iran-pose-problem-for-indias-
oil-payments-174761.html.
6
Mark Dubowitz, “Is Iran Resorting To An Insurance Scam To Keep Oil Exports Flowing?”,
Forbes, November 15, 2012, http://www.forbes.com/sites/energysource/2012/11/15/is-iran-
resorting-to-an-insurance-scam-to-keep-oil-exports-going/
7
Benoit Faucon, “New Sanctions Target Iran Oil Sales,” The Wall Street Journal, January 5,
2012, http://online.wsj.com/article/SB10001424052970203471004577142262365335718.
html.
8
There are preliminary news reports on a conditional agreement of Japan (the second largest
importer of Iranian oil) to reduce imports from Iran. The Indian Government (as the third
largest importer of Iranian oil) has asked its refineries to reduce their dependency on Iranian
oil by finding other alternatives. For more details see, “‘Japan to Reduce Iran Oil Imports,”
BBC News, January 12, 2012, http://www.bbc.co.uk/news/world-asia-16523422, and “Hend
varedate naft az Iran ra kahesh midahad” (“India reduces its oil imports from Iran”), BBC
Persian, January 11, 2012, http://www.bbc.co.uk/persian/business/2012/01/120111_ll_in-
dia_iran_oil_sanction.shtml.
9
Mohammad R. Farzanegan, “Oil Revenue Shocks and Government Spending Behavior
in Iran,” Energy Economics 33 (2011), pp. 1055–1069, and Mahammad R. Farzanegan and
Gunther Markwardt, “The Effects of Oil Price Shocks on the Iranian Economy,” Energy
Economics 31 (2009), pp. 134–151.
10
Kjetil Bjorvatn and Mohammad R. Farzanegan, “Demographic Transition in Resource
Rich Countries: a Blessing or a Curse?” World Development 45 (2013), 37–351.
11
The World Bank, “Global Macroeconomics,” http://go.worldbank.org/1UIJD2G730.
12
For more information, see, Federation of Indian Export Organisations, “Hit by Sanc-
tions, Iran Offers Opportunities for Indian exporters,” http://www.fieo.org/uploads/files/
file/12%20Trade%20with%20Iran.pdf.
13
Central Bank of the Islamic Republic of Iran, “Reference Exchange Rates,” http://cbi.
ir/exrates/rates_en.aspx, and Yeganeh Torbati, “Iran Introduces Tiered Exchange Rates
for Imports,” Reuters, July 21, 2012, http://www.reuters.com/article/2012/07/21/us-iran-
currency-imports-idUSBRE86K08J20120721.
14
Central Bank of Iran, “Nerkhe arze mobadelhei jahate kalahaye ba olaviate seh be baad” (“Non-
reference exchange for imports of goods in categories 3–9”), http://www.cbi.ir/NonRe-
fExRates/nonRefRates_fa.aspx
15
“IRR Exchange Rates 1391/12/09,” Bonbast.com, http://www.bonbast.com/2013/02/9.html.
16
Golnaz Esfandiari, “The Rial Drops, and Iran Blocks the News,” Radio Free Europe, January
9, 2012, http://www.rferl.org/content/rial_drops_iran_censors/24446672.html.
17
Author’s calculation: (37000–12260)/(12260)*100
18
The Iranian Central Bank has not updated this information since 2008.
19
Richard Clay Barnett, “Smuggling, Non-fundamental Uncertainty, and Parallel Market
Exchange Rate Volatility,” The Canadian Journal of Economics 36, no. 3 (2003), pp. 701–727.
20
Jorge Braga de Macedo, “Currency Incontrovertibility, Trade Taxes and Smuggling,” Journal
of Development Economics 27 (1987), pp. 109–125.
21
Donough C. McDonald, “Trade Discrepancies and the Incentives to Smuggle,” IMF Staff
Papers 32 (1985), pp. 668–692.
22
Miguel Kiguel and Stephen A. O’Connell, “Parallel Exchange Rates in Developing Coun-
tries,” The World Bank Research Observer 10 (1995), pp. 21–52.
23
Mohammad R. Farzanegan, “Illegal Trade in the Iranian Economy: Evidence From Struc-
tural Equation Model,” European Journal of Political Economy 25, no. 4 (2009), pp. 489–507.
 Effects of International Financial and Energy Sanctions 35
24
For more information on trade reforms under Khatami, see an excellent review of Parvin
Alizadeh, “Iran’s Quandary: Economic Reforms and the ‘Structural Trap,’” The Brown Journal
of World Affairs 9, no. 2 (2003), pp. 267–281.
25
“Saderate kalahaye varedati ba arze marjaa mamno shod” (“Export of imported goods with
reference exchange rate is forbidden”), Radio Farda New Agency, November 3, 2012, http://
www.radiofarda.com/archive/news/20121103/143/143.html?id=24759282
26
“Medicines Dry Up in Iran but Porsches Still Roll In,” The Australian Times, October 20,
2012, http://www.theaustralian.com.au/news/world/medicines-dry-up-in-iran-but-porsches-
still-roll-in/story-fnb64oi6-1226499587185.
27
“Iran’s Mahmoud Ahmadinejad Dismisses Health Minister Marzieh Vahid Dastjerdi,” Huff-
Post, December 27, 2012, http://www.huffingtonpost.com/2012/12/27/irans-ahmadinejad-
sacks-female-minister_n_2370163.html.
28
“Taeede varedate khodroye lux ba arze marjae” (“Allocation of reference exchange to im-
ports of luxury cars is confirmed”), Nimrooz News Agency, December 14, 2012, http://www.
nimrooznews.com/5716.
29
Ladane Nasseri, “Iran Fiscal 2013 Draft Budget Projects 40% Drop in Oil Revenue,”
Bloomberg, February 23, 2013, http://www.bloomberg.com/news/2013-02-28/iran-fiscal-
2013-draft-budget-projects-40-drop-in-oil-revenue.html.
30
Central Bank of Iran, online database, http://tsd.cbi.ir/.
31
“World Development Indicators,” World Bank, http://data.worldbank.org/data-catalog/
world-development-indicators.
32
Kate Phylaktis, “The Black Market for Dollars in Chile,” Journal of Development Economics
37 (1991), pp. 155–172.
33
Mark M. Pitt, “Smuggling and Price Disparity,” Journal of International Economics 11 (1981),
pp. 447–458.
34
Jack M. Mintz and Alfons J. Weichenrieder, The Indirect Side of Direct Investment: Multinational
Company Finance and Taxation (Cambridge, MA: MIT Press, 2010), pp. 140.
35
For more information on green taxes, see, Urban Institute and Brookings Institution,
“Taxes and the Environment: What are Green Taxes?” Tax Policy Center, http://www.taxpoli-
cycenter.org/briefing-book/key-elements/environment/what-is.cfm.
36
Control of administrative corruption can reduce destructive effects of informal economy
on air quality. Amit K. Biswas, Mohammad R. Farzanegan, and Marcel P. Thum, “Pollution,
Shadow Economy and Corruption: Theory and Evidence,” Ecological Economics 75 (2012),
pp. 114–125.
37
Mohammad R. Farzanegan, “Illegal Trade,” pp. 489–507, and Mohammad R. Farzanegan,
“Dark Side of Trade in Iran,” in Cláudia Costa Storti and Paul de Grauwe (eds), Illicit Trade
and Global Economy (Cambridge, MA: MIT Press, 2012).
38
Mohammad R. Farzanegan, “Illegal Trade.” This estimated figure is based on the assump-
tion $1=10000 rial.
39
Grand corruption relates to large, one-shot payments to higher ranks. Petty corruption
involves frequent, small payments to public servants lower in hierarchy.
40
The PRS Group, “International Country Risk Guide,” http://www.prsgroup.com/icrg.aspx.
41
“The Worldwide Governance Indicators Project,” The World Bank, http://info.worldbank.
org/governance/wgi/index.asp.
42
“Worldwide Governance Indicators,” The World Bank, http://databank.worldbank.org/
data/views/variableselection/selectvariables.aspx?source=worldwide-governance-indicators.
43
Aymo Brunetti and Beatrice Weder, “A Free Press is Bad News for Corruption,” Journal of
Public Economics 87 (2003), pp. 1801–1824.
44
The tariff rates are applied as the simple mean on all products (expressed in percentages).
Simple mean applied tariff is the unweighted average of effectively applied rates for all
products subject to tariffs calculated for all traded goods. For more information, see, “Tariff
Rate, Applied, Simple Mean, All Products (%),” The World Bank, http://data.worldbank.org/
indicator/TM.TAX.MRCH.SM.AR.ZS.
45
Weighted mean applied tariff is the average of effectively applied rates weighted by the
product import shares corresponding to each partner country. For more information, see,
“Tariff Rate, Applied, Weighted Mean, Manufactured Products (%),” The World Bank, http://
data.worldbank.org/indicator/TM.TAX.MANF.WM.AR.ZS
36 SAIS Review Winter–Spring 2013
46
“World Development Indicators,” The World Bank, http://data.worldbank.org/data-
catalog/world-development-indicators.
47
Cost measures the fees levied on a 20-foot container in U.S. dollars. All the fees associated
with completing the procedures to export or import the goods are included. These include
the costs of documents, administrative fees for customs clearance and technical control,
customs broker fees, terminal handling charges and inland transport. The cost measure
does not include tariffs or trade taxes. Only official costs are recorded. For more informa-
tion, see, “Cost to Export (US$ Per Container),” The World Bank, http://data.worldbank.
org/indicator/IC.EXP.COST.CD.
48
“World Development Indicators,” The World Bank, http://data.worldbank.org/data-
catalog/world-development-indicators.
49
On November 13, 2012 Iran’s Majlis (national assembly) voted to “suspend” the second
phase of the Targeted Subsidies Reform Act of January 2010.
50
Shirzad Bozorgmehr, “Protesters Torch Iran Gas Stations,” CNN, http://edition.cnn.
com/2007/WORLD/meast/06/27/iran.fuel/.
51
Djavad Salehi-Isfahani, “Iran: Subsidy Reform amid Regional Turmoil,” Brookings Institu-
tion, March 3, 2011, http://www.brookings.edu/research/opinions/2011/03/03-iran-salehi-
isfahani, and “Iran’s Cut in Fuel and Food Aid Raises Protest Fears,” BBC, December 19,
2010, http://www.bbc.co.uk/news/business-12031383.
52
For a detailed study of subsidy reforms in Iran, see, Dominique Guillaume, Roman Zytek,
Mohammad Reza Farzin, “Iran−the Chronicles of the Subsidy Reform,” IMF Working Paper
No. 11/167 (2011).
53
Mohammad R. Farzanegan, “Illegal Trade in the Iranian Economy: Evidence from Struc-
tural Equation Model,” European Journal of Political Economy 25 (2009), pp. 489–507.
54
Buehn and Farzanegan (2012) also use this method to build a global smuggling index.
Andreas Buehn and Mohammed R. Farzanegan, “Smuggling around the World: Evidence
from Structural Equation Modeling,” Applied Economics 44, no. 23 (2012), pp. 3047–3064.
55
Mohammad R. Farzanegan, “Illegal Trade.”
56
Zahra Nasrolahi, Mohammad R. Farzanegan, and Samaneh Talei Ardakani, “Shadow
Economy Trends in Iran a Comparative Study Using Amos and Lisrel,” Quarterly Journal of
the Economic Research 12 (2012), pp. 61–92.
57
Friedrich Schneider, Andreas Buehn, Claudio E. Montenegro, “Shadow Economies All
Over the World: New Estimates for 162 Countries From 1999 to 2007,” World Bank Policy
Research Working Paper No.5356 (2012).
58
Victor Mallet and Guy Dinmore, “Europe: Hidden Economy,” The Financial Times,
June 8, 2011, http://www.ft.com/cms/s/0/efc3510e-9214-11e0-9e00-00144feab49a.
html#axzz2POGZX19k.
59
Stephen Dobson and Carolyn Ramlogan-Dobson, “Inequality, Corruption and the Infor-
mal Sector,” Economics Letters 115 (2012), pp. 104–107, and Stephen Dobson and Carolyn
Ramlogan-Dobson, “Is There a Trade-off Between Inequality and Corruption? Evidence
from Latin America,” Economics Letters 107 (2010), pp. 102–104, and Stephen Dobson and
Carolyn Ramlogan-Dobson, “Why is Corruption Less Harmful to Income Inequality in Latin
America?” World Development 40, no. 8 (2012), pp. 1534–1545.
60
Saibal Kar and Shrabani Saha, “Corruption, Shadow Economy and Income Inequality:
Evidence from Asia,” IZA Discussion Paper No. 7106 (2012).
61
Ahmed Badreldin and Mohammed R. Farzanegan, “Shadow Economy and Political Stabil-
ity: A Blessing or a Curse?” Working Paper (2013).
62
The formal economy in most parts of the MENA region is not able to provide productive
job opportunities for increasing number of people in the working population. Bjorvatn
and Farzanegan (2013) explain the demographic curse in this region: Kjetil Bjorvatn and
Mohammad R. Farzanegan, “Demographic Transition in Resource Rich Countries: a Bless-
ing or a Curse?” World Development 45 (2013), pp. 337–351.
63
For more information on sanctions, smuggling and Iranian relationship with her neigh-
bors, see, Nader Habibi, “The Impact of Sanctions on Iran-GCC Economic Relations,” Middle
East Brief 45 (2010), pp. 1-11.
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