Macro-Economic Impacts of Lowering Interest Rate: A Real-Financial CGE Evaluation for Iran

In Iran, interest rate is regulated by government by setting a ceiling for the credits allocated to various economic sectors. In recent years, the old theory of financial repression in the form of reducing interest rate of credits has been considered as a necessity to stimulate and encourage investment and economic sectors expansion in Iran. This study investigates the effects of this policy on the growth of investment and production and other macro-economic variables in the context of the economy of Iran. To this end, we modified and extended the ORANI-G CGE model to appropriately present Economy of Iran and to include financial sector. This real- financial CGE model constitutes of 46 sectors producing 60 commodities and services. Then, we used this model to simulate a 4 percent reduction in interest rate of credits in all economic sectors. Results revealed that, following this policy the real GDP and total fixed capital formation will face a growth rate of 1.2 and 1.86 percent, respectively. Employment rises by 0.71 percent and overall export experiences 2.84% growth rate which leads to the 0.1% improvement of balance of trade. Following a reduction in interest rate of credits, the prices of commodities and services decline which result in reduction of inflation rate by 0.53 percent. In addition, households income and savings (urban and rural) increase by 0.54 and 7.83 percent, respectively. Consequently, it seems in the context of the Economy of Iran, the policy of financial repression causes positive impacts on the importance of macro-economic variables.