global investment house- kuwait – iran economic & strategic outlook – banking sector – During the last quarter century, banking around the world has undergone a revolution. The reform of the banking sector and its transformation from a closed, state-dominated, poorly managed and supervised, to a market-driven, open, and financially viable one, constitutes a major challenge of transition in Iran’s banking industry. The emergence of a stable and efficient private financial sector which attracts investment, mobilizes savings, and allocates resources to their most productive use, is critical for Iran's transformation from a centrally planned economy to a market-based one.
Iran's financial sector is subject to very heavy government influence. All banks were nationalized following the 1979 revolution. Iran's laws require that the banking sector be run according to Islamic law, which prohibits interest payments. There are six state-owned commercial banks, four state-owned specialized banks, and a state-owned postal bank. State-owned banks account for 98 percent of banking assets. Six small private banks have been established recently. Foreign banks are legally permitted to operate in free trade zones. Supervision of the financial sector is weak, and regulations on private banks are very restrictive.
To effectively restructure the Iranian banking system, as well as to reduce the fiscal burden of state-owned banks, the government has initiated a banking privatization program. Under this policy, the government provided technical assistance to the banking system for the development and implementation of an aggressive privatization program for state-owned banks.
Foreign assets with the banking system makes up 27.8% of total assets. They increased by 12.5% in 2004/05 and registered a CAGR of a staggering 96.8% over the period of 2000/01 to 2004/05 to reach IR666,453.0bn. Foreign assets in the Iranian banking system are comprised mainly of gold, gold with the International Monetary Fund (IMF), foreign exchange, Special Drawing Rights (SDR) with the IMF, among others. Gold increased by 32.6% in 2004/05, the highest amongst the asset class, while increasing by a CAGR of 56.8% to reach IR14,459.6bn. However gold represents only 2.2% of foreign assets and 0.6% of total assets. Foreign exchange, on the other hand, represents 94.7% of foreign assets and 26.3% of total assets. Foreign exchange increased by 12.3% in 2004/05, and at a CAGR of a staggering 101.4% during 2000/01 to 2004/05. The increase in foreign exchange was a direct result of the surge in oil prices. Other foreign assets, including SDR, Gold with IMF, Quota and Subscription to International Organizations, have increased in 2004/05 each by an average of 56.1% in 2004/05.
Credit performance of Banks and non-bank credit institutions in 2004/2005 shows that the outstanding facilities extended by these financial institutions to the public sector have increased by 2.3% y-o-y in 2004/05 to reach IR241,459.7, a CAGR increase of 14.9% during 2000/2001 to 2004/05. This is mainly due to an increase in claims by banks on public corporations and agencies by 10.1% and it contributes 39.8% of total claims on public sector. The claims by banks on the Iranian government, on the other hand, have decreased in 2004/05 by 2.2% to reach IR145,444.2bn, as the government has put forth in the fourth plan policies to decrease its debt burden to the banking system. Total assets in the Iranian banking system has increased by 8.3% in 2004/05 to reach IR2,395,397.3bn, increasing at a CAGR of 35.9% during 2000/01 to 2004/05.
Deposits of the public sector has increased by 85.6% to reach IR181,477.5bn, a CAGR of 52.1% during 2000/01 to 2004/05. Government deposits increased by 88.4%, while that of public corporations increased by 49.1%, registering a huge CAGR of 398% over the period of 2000/01 to 2004/05.
To encourage the formation of a market-responsive financial sector, the government should focus on establishment of a sound, regulated, and efficient banking system; and, the development of a regulated, transparent and liquid market securities. In this line, banking sector restructuring should include privatization of the state-owned banks, strengthening banking supervision, deposit insurance, and supporting the legal/regulatory framework and improving commercial bank operation through banker training. Supervision should come in parallel to the bank restructuring activity to support the government's efforts to stabilize the economy and restore public confidence in the public institutions. Internationally adopted practices should also be introduced in bank supervision, such as the establishment of an internal bank rating system.
