Iraq's Odious Debts

Reconstructing Iraq

Middle East Report N°30

September 2, 2004

EXECUTIVE SUMMARY AND RECOMMENDATIONS

Amid political instability and violence, Iraq’s economic problems have been viewed as secondary and unrelated. They are not. U.S. and Iraqi institutions have systematically lost and the insurgency gained momentum as living conditions failed to improve. Economic hardship and violence (political and criminal) feed on each other: heightened popular dissatisfaction and unemployment swell insurgent ranks and the growing insurgency further hampers development. Without genuine reconstruction and a sustained recovery plan, any political success will be short-lived. Coalition Provisional Authority (CPA) performance fell far short of expectations and needs and offers a fragile, dysfunctional legacy on which to build. The Interim Iraqi Government, its still-to-come elected successor, and the international community can ill afford to repeat its mistakes.

Lack of security has been important and will continue to hinder economic activity. Kidnappings, assassinations and travel restrictions discouraged reconstruction and investment and led many non-Iraqis to withdraw. Attacks on oil facilities further disrupted the economy. Assessments of what went wrong also must recognise the difficulties of rebuilding an economy ravaged by Baathist misrule, war, and sanctions.

But obstacles have not been of a security nature alone or wholly due to the Baathist legacy. The CPA made a hard job harder. For the most part, the occupation forces came without a plan. What strategy they had benefited from little if any Iraqi input, was heavily shaped by ideology and repeatedly subject to Washington’s political deadlines. CPA plans for complete economic overhaul quickly encountered stiff opposition by Iraqis intent on their own long-term strategy; shifting course, the CPA took ad hoc decisions, leaving unresolved crucial policy questions for fear of triggering even greater discontent. Thus, it was originally fixated on large-scale privatisation but, facing Iraqi hostility, neither privatised nor relinquished the objective. As a result, it failed to devise an alternative approach that might have revived ailing state companies so they could be used to find temporary jobs for the unemployed.

The 15 November 2003 turnaround accelerating the transfer of sovereignty led officials to readjust plans abruptly and emphasise projects they could complete, without regard to how they fitted an overall reconstruction strategy or whether they addressed Iraqis’ immediate needs. U.S. bureaucratic infighting and high staff turnover and inexperience added to the obstacles. Inadequate transparency and accountability in the contracting process combined with real or alleged corruption has fed distrust of both occupation authorities and Iraqi institutions.

The point of listing failings is to learn from them. A sovereign Interim Government and eventually an elected one may be better positioned to correct missteps; more legitimate institutions may be better able to address everyday needs. But even if the process is smooth and viewed as credible by Iraqis – a considerable “if” – this will be a partial answer. Many issues that vexed the CPA remain. The Interim Government, for example, will be reluctant to make broad economic changes lest it be accused of usurping an elected government’s prerogatives. As Lebanon’s precedent shows, allocating power and positions along ethnic/sectarian lines risks encouraging a parallel apportionment of public jobs and resources, with corruption and malfeasance as by-products. Nor have the occupation authorities truly disappeared: the U.S. remains powerful and, importantly, controls most reconstruction funds.

The Interim Government’s fundamental challenge will be to devise a coherent reconstruction strategy that focuses on immediate material improvement and sets the stage for longer-term sound rebuilding while avoiding a socio-economic crisis and its attendant political implications. This means protecting and creating jobs; far greater involvement by Iraqis – including civil society, local councils, trade unions and associations – at the local level; and structural steps (such as decentralisation, and a strengthened, independent media and judiciary) to curtail corruption.

The international community’s full and swift help is needed. Increased assistance will not suffice; aid institutions, particularly those carrying out reconstruction projects on behalf of the U.S. government, should reconsider their approach. Project-driven, externally designed aid is not the answer. Instead, the international community should work with Iraqi institutions to design a comprehensive economic development plan that seeks citizen input, emphasises decentralisation, job creation and alleviation of socio-economic distress, and includes a powerful transparency and anti-corruption component.

Giving Iraq a real chance to recover also requires a clean break with the financial legacy of the Baathist regime – not full and total repudiation, but a significant write-off of debt and war reparations obligations through a smart combination of moratoriums, debt reduction, and preferential treatment of creditors in reconstruction projects.

RECOMMENDATIONS

To the Iraqi Interim Government and Future Elected Government:

1. Produce, in cooperation with the donor community, a comprehensive plan for reconstruction, including:

    (a) a strategy for economic diversification that gradually steers the country away from its dependence on oil revenues;

    (b) active support for the industrial and agricultural sectors; and

    (c) postponed privatisation of state companies until market conditions and institution-building show considerable improvement.

2. Support and restructure state-owned companies, including by providing them with resources for repairs and investment.

3. Support Iraq’s private sector by:

    (a) requiring foreign investors to help Iraqi firms, for example, by mandating contracting to them and hiring of Iraqi labour to the extent possible, as well as on-the-job training programs; and

    (b) reviewing corporate taxes on foreign investment, raising them as Iraq’s economic attractiveness increases.

4. Improve government transparency and accountability and ensure full access to economic and financial data, including by use of oil metering equipment to monitor oil revenues and by providing regular updates on revenues and expenditures of the Development Fund for Iraq.

5. Address immediate socio-economic needs by:

    (a) designing projects with a visible, direct impact and significant employment potential, such as street cleaning, garbage collection, sewage systems repair and local byroads repair;

    (b) retraining former members of the Iraqi armed forces and employing them in state-owned enterprises;

    (c) offering credit facilities for housing construction and repair;

    (d) providing farmers with subsidised agricultural inputs; and

    (e) generally consulting with Iraqis, in particular associations, labour unions, and groups representing the unemployed, on the design and implementation of projects.

6. Give preferential treatment to Iraqi companies in the procurement of goods intended for the food rationing system.

7. Initiate a debate on oil revenue management, using lessons learned from other oil-producing countries and Iraq’s own past and, in particular, establish a special fund insulated from the national budget and day-to-day political decisions.

8. Encourage foreign creditors and war reparations claimants to forego their demands in exchange for preferential status in reconstruction project procurement and contracting.

To the U.S. Government:

9. Improve the performance of U.S. agencies by recruiting staff with expertise in post-conflict situations and encouraging them to serve in Iraq for longer than six months.

10. Increase Iraqi participation in U.S.-funded reconstruction projects by consulting with Iraqi decision-makers and civil society groups representing a range of interest groups, including women, at early planning stages, granting Iraqi state institutions implementation powers and better communicating reconstruction aims and plans.

11. Emphasise development of the private sector by ensuring that prime contractors subcontract to Iraqi companies to the extent possible and providing support to small and medium sized local companies.

12. Require prime contractors and subcontractors to employ Iraqi labour to the extent possible.

To the Donor Community:

13. Increase multilateral aid disbursement and immediately deposit funds pledged for reconstruction with the UN/World Bank Trust facility, attaching minimal earmarks and conditions.

14. Address corruption by:

    (a) granting the Iraqi Supreme Audit Board a seat on the International Monitoring and Advisory Board;

    (b) supporting independent Iraqi media to play a watchdog role; and

    (c) rigorously applying national anti-corruption legislation to foreign companies operating in Iraq.

To Iraq’s Main Creditors and Official Claimants of War Reparations:

15. Agree to negotiate a major debt restructuring and reduction package, ensuring that any conditions regarding economic reforms are adapted to Iraq’s fragile post-conflict conditions.

16. Forego most claims for war damages filed by corporations and governments, possibly in exchange for preferential status in state procurement and reconstruction project contracts.

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