from Follow the Money

Is Iraq an economic success? (What is Patrick Clawson thinking?)

September 6, 2005

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I think it is fair to say that I see the world - and Iraq's economy -- very differently than Patrick Clawson

Clawson argues in the New Republic that Iraq currently is financing most of its own reconstruction.  He is right in some sense.   Aid flows have been pretty small.  But that hardly is a sign of success, or an indication that those who thought that Iraq could pay its own way were right all along.

Iraq has financed so much of its own reconstruction largely because the security situation has kept the US from spending all the aid in its pipeline -- and has increased the armed guards to infrastructure ratio in any aid dollar.  Call it higher service imports (private security contractors).  But it hardly seems like the current level of investment in Iraq is close to optimal.   Everyone in the Iraq - and I suspect everyone in the US - would be a bit better off if Iraq's electrical infrastructure delivered stable supplies of power right now, not in the distant future. 

Let's not forget that Iraq, like every other oil exporter, is currently experiencing an oil windfall.  Iraq looks a lot different with oil at 70 than with oil at 25.  Do the numbers.   Even with oil exports of around 1.4 mbd, Iraq is getting more oil revenue with oil at seventy than it would have with 4 mbd of exports and oil at 25.   Lots more.

[Update: I goofed -- 4 mbd v 1.4 generates enough volume to basically offset a 70 v 25 price differential; "lots more" doesn't work.  see Erik's comments.  I either needed to drop "lots more" or use 3 mbd.  My bad.]

Some back of the envelope math helps.  With 1.5 mbd of exports and oil at $25, Iraq gets roughly $13.7 b in revenues.  With 2.5 mbd of production and oil at $25, Iraq gets roughly $22.8 b in revenues.  And with 1.5 mbd of exports and oil at $70, Iraq gets $38.3 billion in revenue. 

Oil is not (quite) at $70 right now, and Iraqi oil trades at a discount to Brent or WTI.  But it is still clear that Iraq is more able to pay its own way now largely is a lot higher than those who thought Iraq could pay for itself thought oil would be a few years ago.   

The 2005 budget in Iraq's IMF program anticipated that oil would be around $25 a barrel.  Oil has not been anything like $25 a barrel this year -- so the higher oil revenues are helping to make up for lower than expected aid flows.  But if oil actually was anything like $25 a barrel, barring any change in Iraq's production and exports, I guarantee you the US would need to write Iraq a big check right now to keep its government functioning at its current (minimal) levels.

Are Iraq's rising reserves evidence that it does not need US (or other) help and is doing fine on its own, as Clawson argues?  Urgh.  No.   Reserves should be rising in the current context.    High oil, and an influx of aid, even if the aid flow is well below anticipated levels.  Look at what is happening to the reserves of other oil exporters right now.  And Russia's reserves would be even higher if it were not paying down its debt in a big way.

Moreover, iraq's reserve growth has slowed, and the IMF fears that the currency will soon come under pressure.   Inflation in 2004 was higher than expected, leading the dinar to appreciate substantially in real terms.   Reserve growth stopped in March of 2005. 

The IMF reports:

"The exchange rate has lately come under some pressure: while the volume of dollar sales at the daily CBI foreign exchange auctions was relatively stable during 2004 and early 2005 at about $25 million a day, dollar sales increased sharply to about $50 million a day from mid-April."

The IMF even suggested that Iraq's central bank needed to raise interest rates to defend the dinar.   Iraq seems to be the Indonesia of the Middle East - it subsidizes domestic gaslonine massively, and its currency is under  a bit of pressure ieven with oil at record levels.

That is something those who invested in Iraqi dinars ought to remember as well.  The IMF data is now a bit old, but assuming nothing has changed, but  the market seem to suggest that the dinar is more likely to fall than to rise - even with oil at $65 a barrel.   Not good.

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