Iraq's Odious Debts

Forgive them his debts

Irwin M. Stelzer
The Weekly Standard, USA
April 21, 2003

ADVANCE COPY from the April 21, 2003 issue: How much of Saddam’s financial baggage should the Iraqi people now have to carry?

NOW THE RECONSTRUCTION BEGINS. What it will cost no one yet knows. Nor do we have a clear idea where the many billions will come from. But we do know this. The amount of outside aid that Iraq will require will depend on a prior decision: How much of the country’s oil and other resources should be devoted to paying off the debts and obligations incurred by Saddam Hussein to pay for his wars, his weapons programs, and his palaces?

We do not know enough yet to answer that question. But the data already in hand suggest that debt repudiation might play an important part in the rebuilding of Iraq’s economy.

Well over 2,000 years ago Aristotle wrote what might serve as the executive summary for any policymaker wrestling with the finances of postwar Iraq. “At the time when a democracy replaces an oligarchy or a tyranny . . . some do not want to fulfill [public] agreements on the grounds that it was not the city [i.e., the government] but the tyrant who entered into them, . . . the assumption being that some regimes exist through domination and not because they are to the common advantage.”

Would a current-day wonk, his copy of “The Politics” tucked under his arm, tell the president to have the new, democratic Iraqi government forget about past debts? Not necessarily. I am told by my Hudson Institute colleague Ken Weinstein, whose understanding of philosophers’ musings far exceeds that of this mere economist, that Aristotle intended to provoke a discussion rather than provide a clear guide to policy. So let’s discuss.

Americans will probably be torn by our natural inclination to support the sanctity of contract, and the contradictory feeling that the Iraqi people should not have their futures blighted by debts incurred by a bloody tyrant. Such debts are known by students of the subject as “dettes odieuses”–odious debts–a concept developed by Alexander Nahum Sack, a government minister in czarist Russia and, after the revolution, professor of law in Paris. Sack argued that when a government changes hands, the liability for public debt remains intact, with one important exception:

If a despotic power incurs a debt not for the needs or in the interest of the State, but to strengthen its despotic regime, to repress the population that fights against it, etc., this debt is odious for the population of all the State. This debt is not an obligation for the nation; it is a regime’s debt, a personal debt of the power that has incurred it, consequently it falls with the fall of this power.

I leave to the lawyers the question of the validity of this thesis, and instead turn to the numbers, some of which have all the transparency and accuracy of the corporate balance sheets that have dominated recent headlines. The best guess, gleaned from studies by the World Bank, the Center for Strategic and International Studies, and various news organizations (notably the Financial Times and the Wall Street Journal), is that Iraq’s current financial obligations consist of some $127 billion in debt, $57 billion in pending contracts (mostly with Russian companies), and $27 billion in compensation so far known to be due to victims of Saddam’s invasion of Kuwait. Debts to Kuwait are estimated to be $17 billion, to the other Gulf states $30 billion, and to Russia some $12 billion (excluding any obligations under pending contracts). But be warned: Even experts who have pored over these numbers emphasize that there is probably a wide range of error in all of these estimates, which may explain why the World Bank’s table on external debt leaves the line for Iraq completely blank.

Still, even if these are just ballpark figures, the old Iraqi regime will leave the new Iraqi government with a substantial pile of IOUs, “dettes de régime,” to use Sack’s term. In order to determine whether this debt load is manageable, we have to estimate the nation’s ability to pay, an exercise that involves some heroic assumptions. It seems not unreasonable to assume that in the relatively near term, although not without investment of perhaps $5 billion, Iraq will be capable of producing some 3-3.5 million barrels of crude oil per day from its vast reserves, with a longer-term goal of 6-7 million barrels not out of reach, but only after a massive investment estimated by industry experts at as much as $35 billion. My reasonable and conservative guesses as to oil prices, the cost of production, and profit margins suggest that the sale of 3 million barrels per day will net the country something like $15 billion per year in profit. (Rubar Sandi, head of the U.S.-Iraq Business Council, puts the figure at $20 billion.)

I won’t bore you with any more arithmetic. Precision won’t be possible until we have access to Iraq’s ledgers showing interest rates, payback periods, the currencies in which debt is denominated, and other terms. Until then, it is not a bad guess that Iraq’s oil income would just about cover the interest and amortization of existing debt, leaving nothing, or at best very little, for relief, reconstruction, and the honoring of existing contracts. Locating the estimated $6-$30 billion that Saddam and his henchmen have squirreled away in various accounts–what Treasury Secretary John Snow calls “blood money”–would help. But according to former deputy treasury secretary Stuart Eizenstat, international cooperation in tracking down these assets is likely to be minimal, and even if all this money could be found and grabbed, the financial picture wouldn’t be substantially improved.

So Iraq is faced with the following choices. The first is to repudiate the “odious debt” bequeathed by Saddam’s regime, freeing up revenue from oil production and other sources to pay for reconstruction. After all, the nation’s citizens never had an opportunity to approve of the borrowing or the use of the proceeds, and the lenders had to know that they were lending to a regime that just might not be around when its IOUs came due. Repudiation might make it a bit more difficult for the new government to borrow on international capital markets. But with the United States as a guarantor of its survival, the new government could probably still have access to international capital markets, although perhaps on expensive terms. After all, international lenders have in the past made funds available to governments that hardly demonstrated overwhelming concern about honoring past obligations. Besides, repudiation would have the salutary effect of notifying lenders that it is not a good idea to accept the IOUs of regimes as sordid as Saddam’s.

If Vladimir Putin finds such debt repudiation offensive, he might be told that Russia will be repaid shortly after he honors the czarist bonds that now paper the walls of collectors. The Gulf states and Kuwait might consider debt forgiveness a small price to pay for being rid of a dictator who invaded two nations in the region and threatened the rest; besides, the repayments are more likely to end up in the Swiss bank accounts of myriad princes, or in the tills of London jewelers, than in the hands of those who bore the brunt of Saddam’s brutality. The French might be reminded that no less a philanthropist than Jacques Chirac proudly announced cancellation of some $6 billion of debt “owed to France by Africa’s poorest nations,” a move he characterized in a speech as “intelligent, generous, and courageous.” Surely sauce for the African goose is sauce for the Iraqi gander.

And all of Iraq’s creditors might consider the policy prescription that John Maynard Keynes offered more than 80 years ago, when considering possible revisions to the Treaty of Versailles. After advising Germany’s creditors that their “prospects of securing more than a fraction of this . . . [debt] are remote,” he argued that Britain “will gain more in honour, prestige, and wealth by employing a prudent generosity to preserve the equilibrium of commerce and the well-being of Europe, than by attempting to exact a hateful and crushing tribute.”

THERE ARE, to be sure, alternatives to debt repudiation, or even to renegotiation. Iraq’s sovereign government will have access to sources of funds other than those generated by the sale of oil. Like other governments, it will have the power to tax its citizens, although that power will be severely limited by the ability of its people to pay (estimated annual income per capita is about $1,000, but that is probably a substantial overstatement). Now that they are freed, Iraq’s well-educated and entrepreneurial people can be counted on to improve their circumstances. And their ability to fund the projects their democratic government undertakes will grow. But getting from the present condition wrought by Saddam’s kleptocratic mismanagement to a healthy, tax-generating economy looks like a daunting task that will not be accomplished overnight. Which brings us back to debt forgiveness, whether overt or covert, through generous renegotiation, if the creditors can be so persuaded.

Rather than repudiate its debts, Iraq might also decide to use its oil revenues to honor Saddam’s financial commitments, and turn instead to the international community for assistance in feeding its hungry millions and rebuilding its country. It is unlikely to get more than token help, and in the case of France, real opposition.

France and Russia are eager for construction contracts, but presumably will look to the new Iraqi government for payment, rather than to their own taxpayers. The European Union’s willingness to fund a government that will no longer be hostile to Israel will be somewhere between minimal and nil. And the U.N. would have to rely on contributions from members not noted for their charitable instincts, unless it can keep the corrupt oil-for-food program going, and continue to siphon aid money into French firms and banks, while taking the 2.2 percent override from oil revenues that has yielded over $1 billion to sustain its bureaucrats’ lifestyles.

That leaves American taxpayers, who the Bush administration seems to think are willing to pour billions into road building, port dredging, and other infrastructure projects. Not likely. When the war ends Americans will turn their attention to pressing domestic priorities: some form of prescription drug plan for the needy elderly; “fixing” the troubled Social Security, health care, and pension systems; funding an effective homeland security system; tax cuts. Enthusiasm for providing Iraq with the multiple billions per year that it needs will fade.

Meanwhile, the ever-helpful French are threatening the new Iraqi government’s ability to tap international capital markets by claiming that the post-Saddam government will have been illegally installed by the Americans, from which it follows that its creditors cannot be certain of the government’s durability and of repayment. Whether that threat will scare off lenders such as the Export-Import Bank remains to be seen.

So it is far from certain that post-Saddam Iraq will be able to depend on the international community for significant aid. Instead, it will have to rely primarily on its own resources, which, again, would seem to put the repudiation of past debts high on the list of possibilities to be considered by a new Iraqi government.

In all of these possible scenarios, it is assumed that reconstruction must be financed by the new government from oil revenues or, after some initial period, by taxes levied on the Iraqi people. But of course there is another way. Revenues that flow into the government’s coffers would, if put in private hands, finance an equivalent amount of private sector borrowing. Prominent Middle Eastern investors say they stand ready to finance the privatization of large parts of Iraq’s infrastructure. Port improvements can be funded by private investors and entrepreneurs, Iraqi nationals and others, seeking profits from user fees; communications systems can be built by companies that see profit in doing so; toll roads can attract financing by investors who at the moment find themselves with too much cash chasing too few deals.

It wasn’t so long ago, for example, that private companies in South Korea flocked to Iraq in search of profits. The Wall Street Journal recounts how Hyundai, now owed more than $1 billion by Iraq, financed 34 infrastructure projects, including power stations, housing complexes, a fertilizer plant, and a road from Baghdad to Jordan and Syria. There is no reason why projects such as these have to be funded by government; if they make economic sense, private financing should be available, especially after the American authorities work with the new government to create a viable financial system and a currency that is not undermined by the full-speed-ahead operation of the government’s printing presses to produce dinars, or whatever the new government chooses to call its currency. After all, as the Financial Times reports, in the Saddam-free part of Iraq, the Kurds have established a viable economy with profitable, privately owned textile and other plants, and Internet cafes.

As the Bush administration repeatedly promises, after a brief period America will leave Iraq to the Iraqis. It will therefore be for them to decide whether to honor the debts incurred by Saddam, and thereby reward a Russian government that continued to the very end to sell night-vision goggles, anti-tank missiles, and other arms to Saddam, and to oppose their liberation. It will be for them to decide whether to honor contracts with the French, who undertook a massive international effort to see to it that their future was in the hands of Hans Blix, Kofi Annan, and, therefore, Saddam Hussein. Finally, it will be for the Iraqi people to decide whether to follow the course chosen by Saudi Arabia, and use the country’s oil wealth to enrich the few and, through them, to fund terrorists, while impoverishing the many, or whether to reduce the role of the state by relying on the private sector to carry out those functions that governments do badly–managing the oil industry being the one that leaps most readily to mind.

Black gold controlled by governments has in most cases proved as harmful to ordinary citizens as yellow gold came to be to King Midas: huge funds flowing to the state, with no accountability, resulting in an entrenched oligarchy with gilded toilets and a populace with no drinking water. It would be sad, indeed, if Iraq were to be rid of Saddam’s tyranny only to become another Saudi Arabia.

Irwin M. Stelzer is a contributing editor to The Weekly Standard, director of regulatory studies at the Hudson Institute, and a columnist for the Sunday Times (London). He was assisted in the research for this article by Hudson adjunct fellows Toni Allen and Bill Shew.

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