A DSGE Analysis of the Effects of Economic Sanctions: Evidence from the Central Bank of Iran

Since the nationalization of the oil industry, especially after the 1979 revolution, Iran has always encountered economic sanctions. The oil embargo and international financial sanctions are the most severe sanctions imposed on Iran and have had significant effects on Iran’s macroeconomic variables. The current study aimed to analyze the effects of economic sanctions on Iran’s macroeconomic variables using a dynamic stochastic general equilibrium (DSGE) model based on the new Keynesian approach. The simulation results showed that the intensification of the oil and international financial sanctions would 1) reduce foreign and government investment, technology innovation, export in the oil sector, and consequently oil production, 2) lead to a higher exchange rate and a decrease in the ratio of the central bank foreign exchange reserves to the monetary base, 3) reduce the GDP and non-oil exports and increase the inflation, which may cause stagflation, 4) increase household consumption and decrease household investment, 5) increase budget deficit, forcing the government to adopt policies to raise current expenditures and maintain housing and urban development budget, which, in turn, will lead to a budget deficit and bond sales. The analysis of various optimal monetary policies in the context of economic sanctions and considering the contingent business interruption (CBI) loss function showed that the optimal simple rule, in the form of the producer price index, targeting monetary policy, could reduce the loss function and increase the importance value of output coefficient in the monetary policy.