Islamic Republic of Iran

SEB MERCHANT BANKING – COUNTRY RISK ANALYSIS October 18, 2007

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Country Risk Analysis

Excessive use of oil revenues threatens financial stability should the oil price fall.  
Growth accelerated only slightly to 4,9% in the first nine months of 2006/07 (Iranian 
year ending March 2007) despite persistent weakness in the oil sector where the 
main operator, state‐owned oil company, INOC, struggled to meet production 
targets.  However, unexpected high oil revenues as a result of hard international oil 
prices allowed the government to boost domestic demand through considerable 
budgetary overspending.  That helped compensate flagging private sector 
investment demand hit by mounting uncertainty from the government’s hard‐line 
foreign policy adventures.  But the inevitable result of expansive fiscal policies with 
a non‐oil deficit exceeding 20% of GDP combined with looser monetary policies as 
the government forced the central bank to cut 
interest rates by 2 percentage points, was the  Inflation rem ains
rise of inflation to the 15‐20% range, a situation  endem ic
that soon could destabilize Iran’s finances and  20%
complicate economic management.  
15%
 
10%
Unemployment could rise sharply. 
Unemployment eased slightly in 2006 to 11%  5%

but the government continues to face the  0%
challenge of creating jobs for 750,000 new  2002 2004 2006
labour market entrants every year to prevent 
growing social discontent to get out of control.  Reflecting the long war with Iraq in 
the 1980s, Iran’s demographics are such that the employment situation will cause the 
government increased headache over the next decade.  The global oil price has so far 
come to its rescue.  As oil still represents some 80% of exports, despite declining 
export volumes, high prices have kept Iran’s external current account in a healthy 
surplus around $15 bill. a year.  That will help the central bank build reserves to an 
estimated $41 bill by the end of 2007 ‐‐ including the government’s Oil Stabilisation 
Fund, equivalent to nine months of merchandise imports.  

But high oil prices could become a two‐edged sword.  The economy benefits from 
high oil prices which keep rising in part thanks to the risk premium created by Iran’s 
standoff with the outside world over the country’s uranium enrichment program ‐‐ a 
smokescreen for clandestine nuclear weapons research according to claims of the US 
and other western nations. That standoff, however, is now causing growing 
problems for the non‐oil economy, which has begun to feel the sting of the UN 
SEB Merchant Banking Country Risk Analysis October 18, 2007

sanctions regime since first introduced in late 2006 and subsequently tightened twice 
including the freezing of foreign assets of Sepah, one of the five Iranian state owned 
banks.   
 
Even tighter UN‐sanctions could follow in November.  During last summer,  Iran 
reached an agreement with the International Atomic Energy Agency (IAEA) on a 
new inspection program.  That gave the “soft” members of the UN Security Council 
(UNSC), mainly China and Russia, an excuse to postpone the next sanctions 
discussion scheduled for September.  The likelihood is now for the UNSC not to 
meet on this matter before end November pending the inspection report from IAEA 
and also possible results of renewed EU‐Iran negotiations.  Further sanctions will 
then depend on all UNSC members regarding the progress under these two 
initiatives insufficient. At the moment that may seem unlikely.   
 
Alternatively, EU could join the unilateral US sanction effort. Should the UNSC in 
November once again defer the sanction discussion, the likelihood is growing for EU 
to join the US in a tighter unilateral sanctions regime against Iran outside the UN.  A 
number of new names of companies, banks and individuals could then be added to 
the existing UN‐blacklist.  The US could also revive earlier plans to retaliate against 
non‐US companies that engage in transactions with Iran.  The mere threat of such 
actions are said to make many western companies now think twice before entering 
into deals with Iran.  All this, however, could be pre‐empted by a military action, 
most likely led by US forces. The US has recently increased its military presence in 
the Gulf with a third aircraft carrier and some analysts see a last window of 
opportunity for Mr. Bush, the US President, to make good his promise to “solve” the 
Iran problem before the end of his term.  
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How to read the chart? Resilience
hÉó=ÑáÖìêÉë OMMT Moving out from the center 13
11
reduces risk.
mçéìä~íáçå=EãáääáçåëF TNIO 9
7
5

damLÅ~éáí~=EAF PSSN Macro balance 3 Liquidity

1

dam=EÅÜ~åÖÉF RB
-1

fåÑä~íáçå= NTB
`ìêêK^ÅÅK=Ä~ä~åÅÉLdam RB Absence of event
Information
risk
oÉëÉêîÉëLáãéçêíë=EãçåíÜëF V
_ìÇÖÉí=Ä~ä~åÅÉLdam JRB Iran Average EM
dçîÉêåãÉåí=ÇÉÄíLdam NTB
bñíÉêå~ä=ê~íáåÖëW= mÉÉêëW Graph: The pentagon shows Iran's risk profile
bñíÉêå~ä=ê~íáåÖëW= Graph: The pentagon shows Turkey's risk worse
cáíÅÜW===_H
cáíÅÜW===__JLéçë póêá~ heavily skewed toward liquidity and (to a lesser)
than average in all respects including to its
jççÇóDëW=kçí=ê~íÉÇ
jççÇóDëW=_~P= pìÇ~å extent macro balance, while it scores weakly on
traditional competitor, Brazil, reflecting weaker
pCmW=kçí=ê~íÉÇ
pCmW==__JLéçë= iÉÄ~åçå resilience and very low on information and event risk
liquidity, macro balance and absence of event risk.
(absence of).
=

important your attention is drawn to the statement on the back cover of this report which affects your rights.
SEB Merchant Banking Country Risk Analysis October 18, 2007

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mêçÄ~Äáäáíó=çÑ=ÇÉÑ~ìäí=E~ååì~äáòÉÇF=

X=Scenario Probability of
X
X Default probability
given X
= Total default
probability of X
Default
probability not
knowing the state
of X

Iran complies
0,2 0,1 0,02
with UN

0,02+
0,15+
Enhanced
sanctions
0,60 0,25 0,15 0,18
=0,35

War
0,2 0,9 0,18

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In view of recent events we have trimmed our scenario probabilities slightly, and also raised the default
=
probability in case “Iran complies” to 10%, reflecting the risk that continued populist policies and
= social/political discontent in the population could cause economic/political collapse. That raises total
= default probability to 35%. We emphasize that these probabilities are “guestimates”, provided here for
illustrative =purposes.
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important your attention is drawn to the statement on the back cover of this report which affects your rights.
SEB Merchant Banking Country Risk Analysis October 18, 2007

Key data: 2002 2003 2004 2005 2006 2007 2008 2009
GDP (bill.US$) 116 135 163 190 218 261 290 313
GDP/capita (US$) 1728 1991 2377 2734 3099 3661 4016 4277
GDP (real change) 7,5% 7,1% 5,1% 4,4% 4,9% 4,6% 4,5% 4,8%
Investments/GDP 33,9% 35,1% 35,7% 36,2% 37,4% 37,9% 38,1% 38,1%
Budget balance/GDP -4,0% -4,0% -3,5% -3,6% -4,5% -5,0% -4,9% -4,6%
Govt net debt/GDP 21,4% 20,5% 26,3% 22,4% 19,1% 16,6% 19,1% 21,0%
CPI inflation (%) 14,3% 16,5% 14,8% 13,4% 11,9% 16,0% 14,5% 12,8%
Money demand (%) 24,9% 24,5% 23,0% 22,8% 28,5% 25,1% 17,2% 15,8%
Stock prices (%change) 33,8% 33,6% 72,0% 66,0% -6,8%
Interest rates 7,0% 11,7% 11,7% 11,8% 11,8% 11,8% 11,8% 11,8%
Exch. Rate ($) 6907 8194 8614 8964 9171 9300 9800 10500
Trade/GDP (%) 43% 47% 50% 53% 56% 49% 46% 44%
Oil price (Brent) $25 $29 $38 $54 $65 $67 $68 $61
Billions US $
Export of goods 28,2 34,0 43,9 60,0 73,1 72,6 77,0 77,6
Imports of goods 22,0 29,6 38,2 41,0 49,2 53,9 56,4 58,9
Other: -2,6 -3,6 -4,2 -5,0 -5,4 -5,6 -5,7 -5,8
Current account 3,6 0,8 1,4 14,0 18,4 13,1 14,9 12,8
Curr.Acc. Bal/GDP 3,1% 0,6% 0,9% 7,4% 8,5% 5,0% 5,1% 4,1%
FDI (net) 0,0 0,0 0,4 0,3 0,1 0,1 0,1 0,1
Loan repayments -0,1 -0,1 -0,2 -0,2 -0,2 -0,2 -0,2 -0,2
Net other capital flows -3,0 3,1 5,3 -8,2 -8,2 -7,9 -16,9 -12,4
Balance of payments 0,5 3,8 7,0 5,9 10,1 5,1 -2,1 0,3
Reserves (bill $) 9,2 13,0 20,0 25,9 36,0 41,1 39,0 39,3
Total debt 10,3 14,3 21,2 27,1 24,7 27,1 28,3 29,6
o/w short term debt 2,1 4,8 10,3 10,7 9,0 9,9 10,4 10,8
Source: OEF (Oxford Economic Forecasting) and SEB estimates.

Rating history
Fitch (eoy) Not rated B+ B+ BB- B+
Moody's (eoy) Rating withdrawn
S&P (eoy) Not rated
Type of government: Islamic Republic with partially free elections.
Next elections 2008 - legislative, 2009 - presidential
Other:
Latest PC deal None
Latest IMF arrangements None

Iran's loans from and deposits with BIS banks

40000
30000
$ mill.

Deposits
20000
Loans
10000
0
1999 2001 2003 2005 2007Q1

Iran's net position with BIS banks was in surplus up to 2004, when it turned negative (loans exceeding deposits). Over the
last year, it has once again turned positie as many BIS banks have restricted lending to Iran, while Iran's deposits with BIS
banks have continued to rise, reflecting the growth in its foreign reserves. Some observers had predicted that Iran would
rather place its foreign reserves with banks outside the BIS area to avoid sanctions and freezing of its assets. That does
not seem to have been the case to any major extent, probably reflecting the absence of any viable alternatives for "safely"
placing large amounts of money out of reach for the US and EU.

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important your attention is drawn to the statement on the back cover of this report which affects your rights.
SEB Merchant Banking Country Risk Analysis October 18, 2007

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important your attention is drawn to the statement on the back cover of this report which affects your rights.