The following article was written for MEES by economic adviser Sabri Zire al-Saadi, an ex-UN employee who worked in a number of Arab countries as Chief Technical Advisor, Macroeconomist and Investment Programmer,and held senior economic planning and policies posts in Iraq. Iraq, at this stage, requires clear economic strategy and policies coupled with competent administration of public finance and investment programming. The challenge for stimulating economic growth and increasing employment faces the US-led Coalition Provisional Authorities which cannot be met by pragmatic financial measures only. Without strategy directions for economic liberalization and definitive oil policy, neither luring contracts with financial returns nor experimental economic practices can ensure Iraqs stability. Even the establishment of Development Fund for Iraq under the supervision of the occupier Authority, the representatives of UN, IBRD, IMF, and the Arab Fund for Economic and Social Development would not be effective without prior strategy and policies. Iraqs Economic Strategy In Perspective The USAs foreign strategy, as reflected by the recent initiative of President George W Bush on the establishment of a US-Middle East free trade area in 10 years, is politically significant for the concerned countries at this critical time of the Middle East peace efforts1. However, it is questionable that such a proposal signifies the plans for economic liberalization in Iraq as the base for its reconstruction and economic revival2. It is in the interest of Iraqis to alleviate the widespread market imperfections and activate efficient free market mechanism for resources mobilization and distribution. This is part of maintaining individual liberties. Also, it is widely recognized that free foreign trade of goods and commodities, flow of capital and manpower from the States overregulations, are the ultimate aims of economic liberalization in Iraq and elsewhere. In this context, Iraq – one of the richest oil developing countries and the poorest in terms of GDP per capita – urgently needs to maximize its crude oil exports and revenues in order to increase economic growth, employment, and social development. Iraq can produce 3.5mn b/d from current producing fields (pre-August 1990 capacity) with a cost of about $3bn for the rehabilitation and modernization of the sector. Iraq could also increase its oil production to 6mn b/d by 2010. Significantly, the proven oil reserves of Iraq, was estimated at 112bn barrels, with oil-in-place put at 250bn barrels3. In terms of real GDP per capita, however, Iraq suffered huge and absolute deterioration since 1980. It was estimated at $2,143 ($3,688) in 1980 and dropped to $718 ($4,252) in 1990. In the year 2000, it was estimated at $289 ($3,663) and dropped to $237 ($3,312) in 20014. Therefore, to improve the economic situation, the governments current and investment expenditures should be increased substantially. To realize this target by maximizing oil revenues, oil policy in Iraq should not be left haphazardly to the governments ad hoc policies and partial measures nor become inferior to the quota policy of OPEC or to be imposed by foreign interests. Suffering from the prevailing low living standards and high unemployment, the people of the Middle East may also share the objectives of economic liberalization that will lead to a higher economic growth and integration with the economies of the region. For Iraq under US-led Authority5, Bushs initiative may open up the opportunity to a constructive debate on the US economic policies that are designed for this country. Such debate is essential to clear the doubts on whether the main objective of these policies is to create an efficient market economy depending on rigorous indigenous private sector, or to change the ownership of the Iraqi oil industry to foreign concerns. Also in this regard, the advocated strategy for long-term alliance with the US on the basis of strategic dependence on Iraqi oil reserves may serve the US and Iraqi interests. However, the road for such strategic alliance should be known and debated and must not begin with the privatization of the oil industry6. President Bushs initiative has at least a well-defined objective that implicitly assumes a 10-year frame to reform the concerned economies. For Iraq, however, full economic liberalization including free foreign trade could be achieved in less than 10 years, but subject to the implementation of Iraqi economic strategy. In brief, while Iraq has the interest to pursue economic liberalization policies and maximize its crude oil production and exports, its long-run strategy calls for radical restructuring of the economy. Explicitly, Iraqs strategy should aim at increasing the value-added contribution of non-oil economic activities to about 80% of GDP in 10 years. Oil revenue should not contribute more than 20% of public finance and 50% of its foreign currency earnings by the year 2013. Taxes from non-oil domestic activities should finance the government annual budget and its annual public investment program by 80%7. Unlike the current partial economic and fiscal measures and the advocates for hasty privatization of the oil industry8, Bushs initiative may stimulate the required open discussion on the conditions for rebuilding a democratic Iraq over 10 years. In response, the long-term economic vision of Iraq as derived from past experience is simple and clear. Oil revenue in the next 10 years must be utilized fully for the rehabilitation and expansion of public, economic, social, and environmental infrastructure. The expansion of public capacities would help the private sector to increase investment and production. With the application of effective government macroeconomic, fiscal, and monetary policies coupled with economic structural reforms, the Iraqi economy will be liberalized and diversified to the extent that the countrys high dependence on oil revenue will be reduced substantially9. At this point, free trade with the US as well as a higher degree of integration with the world economy, including the Middle East region, will be realized. The Strategic Role Of The Oil Sector Iraq is a developing country endowed with enormous natural and human resources. Significantly, since the early 1950s, crude oil production and exports have been playing a strategic role in the economic, social, and political development of the country. Oil revenues were the major factor behind high rates of economic growth and employment as well as improvement of the social indicators such as public health and education during the 1950s, 1960s and the 1970s. In the 1970s, the average annual growth rate of GDP was estimated at about 11.5%. It was a remarkable performance. Also, they were behind the increasing role of public sector in terms of production and investment. The value added of the oil sector contributed 39.9% of GDP in 1953, 37.3 % in 1959, 30.3% in 1969, 57.4% in 1974, 61.5 % in 1979, 78.2% in 1980, 77.8% in 1989, and 82.9% in 200110. Oil revenues were an important factor in the dominance of the public sector especially since the early 1970s (11.75% in 1953, 21.93% in 1964, 25.38% in 1971, 80.94% in 1979). In domestic politics, oil revenues have been the real power that led to the rise and fall of the dictatorial regime (1968-2003). Oil revenues allocated for financing the public investment annual program were ID83.1mn (about $257mn) in 1968 and were increased to ID84.5mn ($262mn), ID97.3mn ($302mn), ID170.7mn ($529mn) in 1969, 1970 and 1971 respectively. They decreased to ID109.3mn ($339mn) in 1972.11 In 1973, oil revenues allocated for government investment increased from ID411.6mn ($1,276mn) to ID600.8mn ($1,862mn), ID1,001.1mn ($3,103mn), ID1,178.3mn ($3,653mn), ID1,502.7mn ($4,658mn), ID1,642.6mn ($5,092mn), and ID2,096.5mn ($6,499mn) in the years 1974 to 1979 respectively12. Given the prevailing low level of production and domestic saving, such an important role will continue in the future. In the short and medium-term, oil revenues are essential to increase economic growth and employment, as well as to finance the rehabilitation of public infrastructure projects such as roads, electricity, water supply, and the provision of public health services and basic education. In the longer-term, the production capacities have to be expanded and the economy must be diversified by lessening its heavy dependence on the oil sector as the main source of national income. Therefore, it is essential for Iraq to maximize its crude oil production and exports. Such prime objective would influence Iraqs policy with OPEC. Explicitly, while it is necessary to maintain the stability of oil prices in order to ensure maximum oil revenues, Iraqs relations with OPEC should be inferior to its economic liberalization and oil policy. Since the early 1950s, the governments fiscal policy and public investment have been dominated by the development efforts. However, it has been widely accepted that Iraq should pursue the policies that will reduce the countrys dependence on the oil sector. Indeed, it was the prime aim of Iraqs development strategy. In reality, such objective can only be achieved by full and rational utilization of oil revenues in the expansion of production capacities of various sectors of the economy. Hence, the success of future economic policies depends not only on macroeconomic stabilization and liberalization policies, but far more important on the implementation of a huge public investment program. If Iraq is to be envisaged as a successful economic and politically democratic model in the Middle East, then the policy of crude oil production and exports needs to be clearly defined vis-a-vis different foreign interests. Noticeably, recent discussions by some Iraqi professionals focused on the conditions, finance, and time-schedule for the rehabilitation of production capacities and the need for foreign investment, but avoiding the political implication of their assessment. Moreover, some advocates accept the interest of foreign oil concerns as some sort of privatization of the oil industry. Most of the current limited discussion, however, lacks real appreciation of the existing dynamics of the Iraqi political economy. Oil policy in general and the rehabilitation of the crude oil infrastructure in particular, should not be considered as an independent policy motivated by shortage of public finance. Nor is it an issue of a public enterprises feasibility study or a micro cost-benefit analysis where commercial, financial or technical requirements are the only criteria. At the present time, the required economic liberalization may justify the privatization of many public enterprises but not the oil industry. Nor does the absence of the Iraqi constitutional and institutional political will (government authorities), justify the allocation of oil revenues beyond the finance of public investment program in the infrastructure and for the annual government budget. Crude oil is an international strategic energy commodity of high economic value. Oil wealth in Iraq has a huge economic power that the government can easily utilize for achieving economic and social development public goals, as well as influencing the countrys political conditions. If not restricted by institutional democratic practices, however, the allocation pattern of oil revenues among different uses may turn to serve narrow financial and political interests of the ruling governments. Specifically, public oil revenue may be misused as a political power to pursue the narrow interests and objectives of certain political purposes and social groups. Indeed, this was the case throughout the last three decades where the socialist Bath party used oil revenue against the peoples liberties and interests and turned to an individual dictatorial oppressive regime. It is, therefore, essential for the Iraqi political parties to agree on the policy principles that most of the oil revenue should be allocated for financing the infrastructure projects. The rest may be used to finance the annual budget. This is necessary to ensure that the economic power of oil should be used for the State (society) not for the interest of the government. The bitter experience of Saddams dictatorial regime has created a wide and deep belief that such a tremendous political power (oil revenue) should not be used unconditionally by one government, one political party, one social group, or by private companies. Economic Policies And Privatization: Conditions And Impact Economic liberalization and oil policy in Iraq have been the focus of foreign interest since the fall of Saddams regime but not debated by the Iraqis. It is true that Iraq is in urgent need for new economic policies and should undertake radical structural reforms in order to reduce the dominant role of the State and public enterprises in favor of the private sector. However, focusing on efficiency criterion and the use of advanced technical instruments for decision-making systems should not justify such policies and reforms. The prevailing market imperfections are interrelated to deep-rooted elements in the social, political, and environmental fabric of the society that have to be seriously considered in the intended economic policies. In particular, the Authority and the Iraqi decision-makers should not consider the rehabilitation of the crude oil production and exports infrastructure and the new oil policy independently from the overall economic policies and the development strategy of Iraq. Oil policy is not a mere issue of the public enterprises efficiency. It is a rather peculiar way of reasoning to advance the discussion for restructuring the oil industry in order to increase its efficiency through foreign investment on the assumption of the failure of the States management and its inability to increase production beyond 3.4mn b/d. Such a proposition raises concerns amongst the Iraqis. They will fear that foreign interest in Iraqs economic liberalization is not the main issue, rather the privatization of Iraqs oil industry and its ownership by foreigners.13 Given the objectives of Iraqs sustainable development strategy, Iraq requires the application of three integrated sets of economic policies. First, the macroeconomic, fiscal, and monetary stabilization policies that aim, at controlling inflation through the reduction of the government annual budget deficit and the deficit of the balance of payment. Secondly, the structural economic reform programs; these include administrative, legal, and fiscal reforms, banking system reform, financial and stock market, privatization, free foreign trade, and free flow of capital. The objective of these programs is to liberalize prices including wages and foreign exchange rates. The third set of policies is the public investment program. The aim of this program is to finance projects for the rehabilitation and the establishment of the economic (physical), social, and environmental infrastructure. Investment in the oil sector infrastructure is also included in this category. It is important to realize that the identification of priorities among these multidimensional policies cannot be arranged in a one by one rank-descending list. Technically, the implementation of some of those policies would be simultaneous and some sequential. Tentatively, it can be assumed that reform of the government administration, legal, and fiscal systems, including taxes, are of first priority and may be applied first and simultaneously. Expost evaluation of public enterprises should be followed. Then, initiatives should be taken to introduce the reform of banking system, which would be followed by the financial and stock market reforms. If successfully completed, privatization program will then be implemented, whereas complete free foreign trade should be subject to the success of earlier reforms. Free flow of capital will be the last step of the intended structural reforms14. The basic aim of privatization is to create the conditions for free market economy where prices adequately reflect the scarcity of resources and therefore guide the producers, the investors, and the consumers for efficient decisions. If the activities of public enterprises were not efficient in utilizing their resources, privatization should be the alternative. However, assessment of economic efficiency and the need for privatization can only be judged under competitive conditions. Unless the prevailing prices reflect the scarcity of resources, it is impossible to assess the assets value of public enterprises. Hence, privatization should not be considered as a separate political decision to impose the change of property from public to private ownership and/or an instrument for creating funds for public finance and/or repayment of foreign debt. Privatization of public enterprises is part of the process for price liberalization to improve the efficiency of resources allocation for both the private and public enterprises. In practice, privatization of any public enterprise in Iraq cannot be initiated before the implementation of other reform programs. Moreover, ex-post evaluation of public enterprises is also a prior condition for privatization. This is essential to maintaining the provision of many public utilities where the private sector cannot undertake the responsibility. Given these conditions and the strategic importance of the oil sector, one should conclude that it is neither economically justifiable nor politically acceptable to advocate a swift privatization of the oil industry at the present time. It is difficult, even unwise, at this stage to quantify the likely impact of the proposed policies for the lack of statistical data and reliable economic information. However, qualitative analysis based on tentative estimates of the anticipated values of crude oil exports, public investment, and government expenditures would help in this direction. Since crude oil production must be maximized, only the absorptive capacity of the economy would restrict the level of production. The governments expenditures for reconstruction, estimated at more than $17.7bn in two years, would stimulate the production and investment activities. The governments current expenditures (consumption), estimated at about $25bn in two years, would also increase private consumption. In particular, the application of a minimum wage policy would lift up the consumer confidence and effective demand. In this process, the availability of foreign currency would increase imports that help to utilize the idle production capacities and increase investment. Both will lead to higher employment and income in all sectors of the economy. Of special importance, the policy for encouraging the activities in the housing and construction sector may play a significant role. In terms of GDP and GDP per capita, those indicators are likely to increase by almost four folds immediately after the implementation of the suggested policies, ie in 2003. Afterwards, the annual non-oil GDP growth would be more than 8%. Policy Conclusions The current events in Iraq suggest that effective policies or measures have not yet been taken to ensure speedy reconstruction and economic revival of the country. As occupier, the US-led Coalition Provisional Authority has the responsibility to maintain security, provision of public utilities, and rehabilitation of the infrastructure. In reality, however, Iraq is desperately in need of internal security, political stability, economic growth, and employment. Analysis of Iraqs long experience indicates that economic and social development, democratic practices, and oil policy constitute three main interrelated elements of its political economy. In pursuing economic liberalization, therefore, careful consideration should be given by the Authority or the Iraqi transitional government to the dynamics of these elements in terms of timing and coordination rather than following the advocates for a swift approach for liberalization. Iraq is a promising developing country endowed with rich human and natural resources. Even in the short-term, the likely impact of the intended reconstruction and liberalization policies, including privatization, would be positive if suggested economic stabilization and reform policies are coupled with a public investment program. Significantly, these concerted policies will promote the role of the Iraqi private sector and entrepreneurship. As a result, economic growth, employment, and consumption will be increased substantially. High level of effective demand and consumer confidence will also generate a substantial increase in imports. Such development would open up the opportunities for foreign investment and flow of imported goods and commodities as well as capital. As a long-term policy objective, Iraq should maximize oil production (revenues) subject to two main conditions. First, diversifying the economy in favor of non-oil activities and utilizing oil revenues in the establishment of public infrastructure. Secondly, establishing democratic political institutions and widening participation in the public decision-making processes. In the short and medium-terms, three sets of policies are necessary. First, it is essential to increase crude oil production and export capacities to their maximum levels. Financing of the oil expansion should be part of the public investment program, even when foreign capital is required. Secondly, since oil policy is part of the overall economic policies, it is necessary to allocate most, if not all oil revenues to finance public investment. The rest would be allocated to finance governments current expenditures. Such allocation would shift the economic and political power of oil from the government to the State. Thirdly, it is premature to privatize the oil industry, fully or partially, although the private sector should be encouraged to invest in the midstream and downstream sectors. Investment in exploration and production of new oil fields could be considered in the form of joint ventures with local and foreign firms. However, in the final analysis, the privatization of public enterprises should be part of an overall structural reform program and a new social security system. 1. Mr Bush announced his initiative on 9 May 2003. The extraordinary meeting of the World Economic Forum held in Jordan (21-23 June 2003) discussed the need for a stable and prosperous Iraq alongside the economic reform in the Middle East and with emphasis on free US-Middle East free trade zone. 2. Judging by the terms of reference of USAID contracts, it is difficult to conclude that the US has adequately prioritized its assessment of Iraqs economic problems and remedies. USAID defined the tasks of economic recovery, reform and sustained growth in Iraq as follows, “to facilitate responsible economic integration of Iraq with its regional and international partners to foster sustainable job generation, adopt international standards of production, harmonize economic policy, reinforce traditional trade linkages, and develop new trade partnerships. It is also designed to develop and implement a blueprint for managing the economic and technical work to assure the food policy safety net is available for those who may be unable to function on the private market once the UN food program ends.” It is also significant that only 10 US firms were allowed to compete for the contracts to perform these tasks. No Iraqi firm or individual consultants were involved. 3. See Issam al-Chalabi, “Iraqi Oil Policy: Background and Future Perspectives”, MEES 46:7 17 February 2003. 4. Figures in brackets are published government estimates based on arbitrary fixed exchange rates of the Iraqi dinar against the US dollar; the rest are the authors estimates. On GDP estimates of Iraq, see Sabri Zire al- Saadi, “Oil Wealth and Poverty in Iraq: Statistical Adjustments of Government GDP Estimates (1980-2001)”, MEES 46:19 12 May 2003. 5. On 22 May 2003, the UN Security Council passed resolution 1483 lifting the commercial and financial sanctions on Iraq, recognizing the occupying US and UK power as the governing body (referred to as Authority) in Iraq. The resolution clears the legal problem of utilizing Iraq oil resources by the Authority and phasing out the Oil for Food program in six months. The resolution was initiated by US, co-sponsored by UK and Spain. 6. See Sabri Zire al-Saadi ”Crippled Start for New Currency in Iraq”, MEES 46:21 26 May 2003. 7. These quantitative indicators are roughly stipulated on the basis of the relevant quantitative indicators of the past experience. It is essential in this context to refer to the discussions among the Iraqi planners made during the early 1970s on long-term development strategy where the oil sector was the main economic variable. On the history and the new concept of long-term development strategy of Iraq, See Sabri Zire al- Saadi, “Oil Wealth and Strategic Future Vision in Iraq”, The Iraqi File, no 123 March 2002, London. The principles of this strategy were formally adopted for the first time as one of three main principles of Iraqs Five- Year Economic Plan (1965-66 – 1969-70). See: Iraqi Republic, Iraqi Official Gazette, Law no 87 for 1965. 8. An enthusiastic Iraqi advocate for privatization concluded, “Instead, radical reform is urgently required. The first step to separate the industry from total state ownership and control, and to establish an independent entity, taxed and supervised by the government. The entity should be self-managed and subject to sound rules of production and proper fiscal regulation. More importantly, part of this independent entity should be privatized: for example, between 25 and 40%, through the sale of shares in circulation in stock markets. In this way, the industry would be managed jointly by foreign companies and Iraqi nationals, some representing the Iraqi government, so that Iraq would have a majority share in decision-making”. See Fadhil Chalabi, “Iraq in A New Map for World Oil Supplies”, MEES 46:12 24 March 2003. 9. Comprehensive views and proposals on the future economic policies in Iraq are given in Sabri Zire al-Saadi, “The Economic Project for Change in Iraq – Economic Policies and A Program of Action for the New Democratic Regime”. Presented to the economy and infrastructure group meetings held in Washington on 24- 26 October 2002, Future of Iraq Project sponsored by the US Department of the State. Other relevant papers are: Sabri Zire al-Saadi, “The Iraqi Development and Reconstruction Council “, “New Currency, Fiscal and Monetary Policies: Guidelines for the Transitional Government of Iraq“, “Tax Policy: Guidelines for the Transitional Government of Iraq“, presented to the economy and infrastructure groups meetings (2-3 December 2002 and 24-27 January 2003), Future of Iraq Project, US Department of State. 10. The ratios of the years 1953-79 are derived from the official estimates while the ratios for the years 1980-2001 are based on the authors adjustment of the official published estimates. 11. That was a direct result to the uncertainty surrounding the negotiations between the government and foreign oil companies then, which led to the nationalization of the oil industry (1972-74). 12. Derived from the government published annual financial reports issued by the Ministry of Finance. The calculation of the dollar equivalent values is based on the official exchange rate then of ID1=$3.1. 13. A group of Iraqi experts and US officials – their names are not disclosed – issued a report entitled “Iraqi Oil Policy Recommendations after the Regime Change”, MEES 46:18 5 May 2003. The report is the outcome of discussions undertaken by the Oil and Energy Working Group – Future of Iraq Project, US Department of the State. The report emphasized that restructuring the oil industry is essential for the economic and benefit of the Iraqis by referring to three unrelated issues and unconvincing arguments. First, ‘war and sanctions are not the reason that Iraqs oil industry has chronically failed to achieve its potential output. Secondly, “the Iraqi State‘s management of oil industry failed to deliver anything near the potential benefits of the oil industry to the Iraqi people, is a prime factor in the impoverishment of the people”. Thirdly, “Iraqs economy upon liberation will be in need of billions of dollars of foreign direct investment. An appropriate oil policy can be the catalyst to induce these much-needed funds”. In our opinion, there are no economic, technical or financial justifications for the vague suggestion that if the oil industry continued to be under the government or state company management, crude oil production will be physically restricted to about 3.4mn b/d only as this report claims. 14. On the future economic reform policy in Iraq, see Sabri Zire al-Saadi, ibid.