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Economic Doldrums in Iraq

Author: Lionel Beehner
June 20, 2007

Introduction

Iraq’s lackluster economic development and rampant unemployment help contribute to its high levels of violence. With few jobs created since 2003, experts say Iraq’s younger populations are easily recruited by militant groups to take up arms. Much of Iraq’s economy is tethered to its oil industry, which is underperforming because of corruption and security setbacks. Still, there are small pockets of economic life returning to Baghdad as local markets reopen and neighboring states have extended promises of foreign debt forgiveness. But without political reform, civil society development, and improved security, experts say economic progress will be limited.

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What is the status of Iraq’s economy?

Iraq’s $42 billion economy continues to be hobbled by rampant unemployment, sluggish growth, and insufficient oil revenue. Joblessness is anywhere between 30 and 50 percent, while a private sector has failed to materialize. “Of the nearly $20 billion of U.S. appropriated funds to reconstruct Iraq, only $805 million was directed toward jump-starting the private sector,” write Johanna Mendelson-Forman of the Center for Strategic and International Studies and Merriam Mashatt of the U.S. Institute of Peace. Meanwhile, economic growth in Iraq remains around 4 percent, according to the World Bank, though estimates vary. And revenue from oil production—whose monthly levels of roughly 2 million barrels per day (bpd) falls short of the 2.5 million bpd target—is about $3 billion per month, a pittance given Iraq’s vast, though undeveloped, oil reserves.

What factors contribute to Iraq’s poor economy?
  • Lack of security. About one out of every five dollars that goes toward nonmilitary Iraqi reconstruction is spent on security, U.S. officials estimate. “It’s incomparably more problematic than either corruption or bureaucratic red tape,” Stuart Bowen Jr., who heads the office of the Special Inspector General for Iraq Reconstruction (SIGIR), told CFR.org in May 2006.
  • Oil smuggling. Lack of security and smuggling has contributed to lower-than-expected oil production levels. A May 2007 report (PDF) by the Government Accountability Office estimates oil valued at between $5 million and $15 million—or roughly between one-hundred thousand and three-hundred thousand barrels per day—has been siphoned daily since 2003 as result of collusion between corrupt officials, smugglers, and insurgents. According to the Guardian, smugglers can earn as much as $5 million per week from siphoning oil in parts of southern Iraq. About $7.4 billion in U.S. funds has been spent to rebuild Iraq’s electricity and oil sectors but output in both sectors remain at prewar levels.
  • Bureaucratic inertia. The government has failed to spend billions of dollars of oil revenue on reconstruction projects for fear of violating anti-corruption measures put in place over the past few years by U.S. and Iraqi officials within the oil ministry, according to a December 2006 New York Times article. In 2006, for example, the Iraqi government spent only about 20 percent of its $6 billion capital budget. “The problem is not a shortage of funds,” says Howar Ziad, Iraq’s ambassador to Canada, “but how we manage them and how we focus on real priorities.” The problem is further exacerbated by high turnover rates of government employees and lack of skilled technocrats. One of the political benchmarks for the Iraqi government is to spend a total of $10 billion of its own reconstruction funds.
  • Brain drain. Two million Iraqis have fled the country, many of them highly skilled professionals like engineers and doctors—the backbone of a middle class. An estimated 40 percent of Iraq’s professional class has fled the country, creating shortages of human and entrepreneurial capital to keep the country’s economy running. “The refugees leave behind a war-torn nation plundered of its most precious resource alongside oil—talented and well-educated people,” Stephen Glain writes in Newsweek International. Many of these professionals have been singled out by militants; around two thousand Iraqi physicians have been killed since 2003, for example. Furthermore, because of “missing teachers,” enrollment in Iraqi schools has dropped 45 percent over the past two years, according to UNICEF.
What effect has the struggling economy had on the insurgency?

High unemployment, combined with Iraq’s youth bulge—60 percent of the population is under the age of twenty-five—has contributed to the country’s cycle of violence, experts say. “It doesn’t take very much arithmetic to realize who are the most susceptible to recruitment to insurgent groups and sectarian death squads,” Eric Davis, a professor of Middle East politics at Rutgers University, told the Jim Lehrer NewsHour last October. Most of those who are recruited by Iraqi militias are rural-to-urban migrants, he adds, who have virtually no other means for long-term employment.

What effect would a widening war in Iraq have on its economy?

According to a January 2007 report by Daniel Byman and Kenneth Pollack of the Brookings Institution, a countrywide civil war would result in significant losses of oil production that could spike global energy prices by disrupting supply networks in the region. It might also trigger a refugee crisis greater than the one already unfolding—with an additional four million Iraqis internally displaced or seeking refuge abroad—further straining Iraq’s economy. A civil war would also drown out trade and frighten away investors. And the residual effects of war would lead to an increase in organized crime and drug trafficking, contributing to an even larger underground economy than what already exists, the authors predict.

What positive trends are there in Iraq’s economy?

Some analysts estimate Iraq’s actual growth rate is about 17 percent. Salaries are up 100 percent since April 2003 and cheap goods from places like China are being imported thanks to lower tariffs and trade barriers. The number of telephone users in Iraq is nearly nine million (prewar levels were just over eight-hundred thousand), 7.1 million of whom are mobile-phone subscribers, according to the U.S. State Department. Hundreds of thousands of Iraqis are now Internet users, compared to prewar levels of under five thousand, according to the Brookings Institution’s Iraq Index. Oil revenues and foreign grants look set to exceed $40 billion this year. “Iraq is a crippled nation growing on the financial equivalent of steroids, with money pouring in from abroad,” writes Newsweek International.

How is the economy of Iraq’s Northern Kurdish zone?

Much stronger than the economy of the rest of Iraq, economists say. Per-capita income (roughly $3,500) is about one-fourth higher than the rest of Iraq. Real estate demand has fed a construction boom, especially in shopping malls and housing projects. Trade across Iraqi Kurdistan’s borders with Turkey and Iran is flourishing (though much of it remains illegal smuggling of goods like cigarettes and satellite dishes), as Iraqi Kurds look to lure foreign investors skittish about investing in the rest of Iraq. Much of the Kurdish zone’s economy will depend on two events: the passage of an oil law, and the status of Kirkuk, whose oil fields are among Iraq’s largest. Last year, the region’s first oil well was drilled by a Norwegian energy firm.

What can the U.S. government do to spur economic activity in Iraq?

Instead of mega-scale projects, Rutgers University’s Davis suggests smaller programs (PDF) that involve local Iraqis. He points to a successfully run project involving temporary houses built from palm branches in which demand for labor outstripped supply. Another plan outlined by President Bush earlier this year called for state-owned enterprises (SOEs), Saddam-era factories shuttered after 2003, to reopen their doors to create jobs and boost production of Iraqi-made goods. But Keith Crane of the RAND Corporation questions this move because the SOEs are “hopelessly inefficient” and “damaged beyond repair.” Under Saddam, he adds, these plants were used to funnel money to Saddam’s cronies; under the current government, they may be used for similar purposes. Finally, the United States has doubled the number of provincial reconstruction teams (PRTs)—a model of local civil-military development units used successfully in Afghanistan—to twenty in Iraq. But Davis says these teams have been less effective in Iraq because of the lack of high-quality personnel and the more dangerous security environment.

What have other countries done to help Iraq’s economy?

The main international assistance has come in the form of forgiving Saddam-era debt, experts say. At a recent meeting in Egypt, a number of Iraq’s neighbors agreed to forgive roughly $30 billion in debt. A similar pledge in 2004 by members of the Paris Club, an informal group of nineteen creditor governments (which includes the United States and several European states), resulted in 80 percent—or $32 billion—of “odious” debts forgiven. In Egypt, fifty nations signed the Iraq Compact (PDF), which establishes a number of five-year economic and fiscal targets for the Iraqi government, but Ambassador Ziad calls such goals “theoretical.”

How do Iraq’s economic indicators compare to prewar levels?

Prior to April 2003, a decade of UN sanctions and, before that, years of war with Iran left Iraq’s economy cash-strapped and well over $100 billion in debt. But prewar oil production peak levels—roughly 2.5 million barrels per day—were much higher than current outputs. Per capita GDP and living standards also remain lower than their prewar levels, according to the Brookings’ Iraq Index, though estimates then and now generally have wide margins of error.

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