>> THE "FLYING CARPET" SCANDAL CONTINUED...
FIRST WHIFF OF SCANDAL HITS IRAQ GOVERNMENT
AN INVESTIGATION IS LAUNCHED OVER MYSTERY PLANE FULL OF CASH
1.5 TONS OF NEW IRAQI DINARS, WORTH $20 MILLION
By Eli Lake
New York Sun
BAGHDAD, Iraq - Authorities here are investigating how a plane loaded with almost $20 million worth of the new Iraqi dinars managed to take off from Baghdad International Airport and land in Beirut.
The mysterious aircraft and the 1.5 tons of cash landed on January 15 in Lebanon. There, Lebanese customs agents seized the plane and the money and arrested three Lebanese citizens who were aboard the plane.
Now, Treasury agents attached to the Iraq Survey Group, the umbrella American intelligence organization that has its headquarters here, are trying to get the money back and determine if someone was trrying to steal it. The Iraqi Governing Council is wondering if all that money made its way from Iraq to Lebanon without at least some American involvement.
The affair has the potential to balloon into a scandal that could damage the acting Iraqi interior minister, who was involved. It also could feed complaints pushed by congressional Democrats in America, including Senator Kerry, that President Bush and his Coalition Provisional Authority have mishandled the postwar situation in Iraq.
One person asking questions is Iraqi Governing Council Member Muwaffek al-Rubai, who sits on the council's legal and financial committees investigating the contract. "The question to the CPA is, who has the 19.5 billion Iraqi dinars?" he told The New York Sun. "If you transfer such a container of cash, the transport company and security company has to know what is inside it. They transported the money from Baghdad International Airport to Beirut. They are in charge of the security of the airport."
"People are very mad about this," Mr. al-Rubai said. "I see poor, miserable people with no Mr. food to live on, who have no salary and no job, who have nothing, who are barefoot, in the south. And these people are playing with billions."
After the plane was seized, Iraq's interior minister, Nuri Badran, sent an urgent fax to his counterpart in Beirut asking for the release of the men and the cash.
One issue in the investigation is whether a contract from Iraq's new Interior Ministry to purchase electronic anti-jamming equipment and automobiles from a Cyprus-based concern called Laru Ltd. was in fact an intricate scheme to launder money. The contract has never been shown to the Iraqi Governing Council, nor have the goods been delivered to the Interior Ministry.
Depending on what the Treasury agents and the Iraqi Governing Council conclude, the position of Mr. Badran could be in jeopardy.
Mr. Badran sent an envoy on January 11 to a branch of the Rafidan Bank in northern Baghdad to make sure that a check for 19.836 billion dinars would be cashed when a Lebanese man presented it to the teller the next day, according to the manager of the bank, who spoke to The New York Sun on the condition that he not be named. This source said the money, which was paid in 25,000- and 10,000-dinar notes, was loaded at 10 a.m. on January 12 into three pick-up trucks guarded by American mercenaries armed with machine guns. On January 14, the Lebanese man, who the bank manager identified only as Akil, returned and cashed another check for 164 million dinars.
On the evening of January 15, all of cash was loaded onto a cargo plane flown by Flying Carpet Airlines at Baghdad International Airport, two Baghdad sources with knowledge of the affair told the Sun.
Unlike Royal Jordanian, which handles regular flights in and out of Baghdad, Flying Carpet's routes are notregularly scheduled. According to one American official who works on on logistics at the airport, "they call us when they are coming in and we don't ask any questions."
Shepherding the cash on the flight were a Lebanese businessman, Muhammad Issam abu Darwish; a former member of Lebanon's security services, Richard Jreisati, and Michael Mukattaf, a Lebanese currency exchanger whose father in law is the former president of Lebanon, Amin Gemayel.
The three men were detained when they arrived in Beirut by two Lebanese customs officials, Major Ibrahim Shams Eddin and his supervisor Ahmand Sulli, according to a legal statement from the office of the Lebanese Prosecutor General summarizing the incident. On that evening, Mr. Badran faxed a letter to the Lebanese Interior Ministrysaying the men were on official Iraqi business and that the money was part of a contract for security equipment. Two days later, a photograph of the fax including Mr. Badran's personal cell phone number, showed up in Lebanon's leading newspaper, An-Nahar.
The security contractor in charge of the airport, which is also an American military base, is Custer Battles LLC, a Virginia based security company whose executive board boasts former members of the American special forces and the CIA. When the Sun asked Don Ritchie, the chief of security for the airport and an employee of Custer Battles, what he knew about the January 15 flight to Beirut, he said,"According to corporate counsel, we should not talk about this at all." Indeed, the contract between Custer Battles and the Coalition Provision Authoritypledges that the contractor not to talk to the press.
One reason why Mr. Ritchie might not be talking is because after a hasty investigation by the Coalition Provision Authority's inspector general, Robert Dawes, that concluded there was no wrongdoing, a financial task force attached to the Iraq Survey Group is still asking questions. As on senior American official said," We are looking to make sure the funds were not absconded with; the funds are fleeing in essence. We don't want funds being used by insurgents to kill our soldiers or coalition soldiers. It's worth a second look."
The first look from the Coalition Provision Authority was quite cursory. According to two members of the Iraqi Governing Council who asked not to be named, less than two days after the Lebanese authorities seized the aircraft, the chief of the authority, L. Paul Bremer, told the Iraqi Governing Council in closed session that his staff had looked into the transaction and found nothing wrong. When Mr. Dawes did get around to investigating the matter, he only looked into whether CPA officials were in any way involved. But that investigation did not ask whether contractors like Custer Battles or other government agencies, like the CIA,may have played a role in helping transfer the money to Lebanon. Nor did this investigation examine whether Mr. Badran was engaged in legitinate business with Laru.
Mr. Badran is the son-in-law and close associate of an Iraqi Governing Council member, Ayad Alawi. Mr. Alawi's Iraqi National Accord has received CIA funding since the early 1990s. After the liberation of Baghdad, the INA offices were briefly in the same building as the CIA station in Baghdad. Since then the INA offices have moved to the building that once housed the national Baath Party headquarters, where Mr. Badran's main offices are in his duties as interior minister. Mr. Badawi declined repeated requests to be interviewd for this story.
An American spokesman for the Interior Ministry, Shane Wolfe, said there appeared to be nothing wrong. He said, "In this case the contract called for the payment in new Iraqi dinars. Since the contractor needed to pay most of his suppliers in dollars he needed a way to convert the money. The difficulties in transfering money and opening bank accountsplayed a role in this."
Despite an agreement from Lebanese authorities to return the money, the dinars have not yet made their way back to Baghdad.
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>> CHARTS
http://www.heritage.org/Research/MiddleEast/bg1730.cfm
Models and Policies for Oil Production, Revenue Collection, and Public Expenditure: Lessons in Iraq
by Ariel Cohen, Ph.D.
Backgrounder #1730
March 4, 2004 | Executive Summary | |
Countries in both the developed and the developing worlds rely on a stable and secure supply of oil. However, abuses and misallocations of oil revenues often lead to social and political instability and, at times, armed conflict. The broader the political cooperation and public consensus, and the greater the transparency in the management of oil revenues, the greater the chance that the supplier will remain stable.
The challenge of devising optimal models and policies for oil production in developing or transitional economies is formidable. Resource-rich countries tend to fall behind non-oil economies in economic development, rate of growth in gross domestic product (GDP), GDP per capita, and human development.1 Oil often derails democratic development and causes civil strife and civil war. Other problems such as graft and "rent-seeking behavior" regularly accompany oil exploration and exploitation.
Many have noted that lagging institutional development, democratic deficiencies, and rampant corruption are the downside of the windfall profits from large-scale oil production. Political control of those natural resources makes political power paramount. Thus, politics becomes a competition for a near total control of wealth, resulting in a zero-sum game with devastating results for democratization and civil society.2
Simply put, unstable countries make poor oil suppliers. The examples abound, from Iraq to Iran to Venezuela.
Moreover, experience and research demonstrate that private ownership of any industry increases production and reduces costs anywhere in the world.3 Thus, consumers of energy should advocate privatization of the oil and gas sector worldwide. However, because of the industrial economies' thirst for oil, it is likely that Western governments and international institutions will remain quiet on privatization while denouncing the excesses of producers and abuses of natural resource property rights and revenue.
This paper analyzes current models of ownership and revenue management in the hydrocarbon sector, as well as their political implications, and suggests policies on property rights, tax collection, and public expenditure. The achievements in making the rule of law and transparency a paramount public policy and business value in the oil and gas industry have been limited at best.
Finally, this paper addresses some challenges that the Coalition Provisional Authority (CPA) and the Iraqi Governing Council (IGC) face in restoring and managing Iraqi oil production. It also offers recommendations for the Iraqi oil industry and public sector.
Production Mode: Privatization Versus State Management
The Iraqi oil industry is a case in point. Saddam's predatory dictatorship succeeded in bankrupting the country with the world's second largest oil reserves (after Saudi Arabia). The oil sector formerly provided more than 60 percent of Iraq's GDP and 95 percent of its hard currency earnings. Yet Iraq's GDP for 2001 was estimated at only about one-third its 1989 level. Iraq is also hobbled by $200 billion in foreign debt and reparation claims. This fiscal devastation is the result of a number of factors, including nationalization of the country's oil sector in the 1970s, extensive central planning of industry and trade, the 1982-1988 war with Iran, the 1990 invasion of Kuwait and subsequent Gulf War, and the U.S.-led war in 2003.
According to senior Iraqi Oil Ministry officials, Saddam ran the oil industry as his private kitty--with devastating results for the infrastructure and the treasury.4 Moreover, Saddam's disastrous policies led to Iraq's OPEC quota being taken over by other producers, primarily Saudi Arabia and Venezuela.
Importance of Privatization
Critics point out that centralized, state-owned industrial capacity in the oil sector is less successful than wholly owned private industry or public-private partnerships in attracting investment, integrating new technology, introducing international accounting standards and practices, boosting productivity, and observing environmental standards.5
Moreover, as many of the OPEC members exceed their production quotas, leading to a greater supply of oil and lower prices, it is not clear whether the countries that follow the centralized planning model are indeed maximizing their oil revenue.
Political Factors
Political underpinnings are crucial in forging a workable political model for oil exploration and exploitation. In the Iraqi case, the future model will probably need both to be popularly accepted and to be incorporated into the new constitution. Otherwise, civil strife may develop.
Oil disputes played a large part in the Biafra war in Nigeria in the 1960s, in which 1 million-3 million civilians were starved to death or bombed.6 Recently, tribal unrest in Nigeria resulted in Western and local oil workers being taken hostage.7 Secession movements in Indonesia parallel the distribution of oil, as the country's smaller and potentially oil-rich islands attempt to secede from overpopulated Java.8 Such conflicts should be avoided in Iraq, which is a relatively new political entity created by the British Empire after the defeat of the Ottoman Empire in World War I.
Since the creation of Iraq, relationships between the Kurds, the Sunni Arabs, and the Shi'a Arabs have been uneasy at best and murderous at worst. The Sunni Arabs have dominated Iraq since the Ottoman and British eras.
Beyond ethno-religious strife, clans and families are the smallest political units, and their interests may need to be taken into account in devising a stable political solution that allows equitable and sustainable sharing of oil revenues. Thus far, the process involved in drafting an Iraqi constitution has been a painful one, and there is no date certain by which agreement will be reached and the document will be ready.9 As Iraq develops its own constitution, principles of protection of private property must be extended to the oil industry and oil reserves.
Property Rights in Iraq
The launch of the Iraqi oil industry in 1925 was undertaken by a private consortium, the Iraq Petroleum Corporation, owned in equal shares (23.75 percent) by British Petroleum and Shell, Companie Francaise de Petroles, and two constituent parts of Exxon Mobil. Nubar Gulbenkian, the famous "Mr. Five Percent," owned the remaining 5 percent. The consortium was expropriated in 1964 and fully nationalized in 1972.10
Theoretically, if the property rights of the original consortium were restored, new companies would participate in bids for new field projects and the rehabilitation of existing oil infrastructure. In addition, the future government of Iraq might recognize some of the contracts concluded by the Saddam Hussein regime, such as the Russian Lukoil West Qurna concession, as valid. The Iraqi government could also examine other production-sharing agreements that Saddam's regime signed with China, France, and other countries.
Economic Efficiency
Partial privatization, which the CPA and the Provisional Council are pursuing, and low taxation are the right policies to follow. However, more needs to be done to achieve eventual privatization of reserves and extraction. As Iraqi needs for reconstruction are high, one way to increase the cash flow up-front is to sell off the reserves and tax the future oil revenues. This would better address the immediate needs of the Iraqi people without giving up natural resource royalties and rents.
The United States--through its senior representatives of the Departments of State and Defense in the CPA and its advisers on the ground, with the assistance of the International Monetary Fund (IMF), World Bank, and other international and non-governmental organizations (NGOs)--should begin advising the leaders of Iraq's three primary ethnic groups to establish policies that would lead to a thriving modern economy. These policies should be based on "best practices" developed around the world during the largest government privatizations in history, during the 1980s and 1990s.
Institutional Development and Controls
One of the greatest challenges in privatizing Iraqi oil and attracting foreign investment (in addition to building political consensus and building the institutions to implement it) will be ensuring equity, transparency, and the rule of law. To accomplish these goals, Iraqi political and government institutions, donor representatives, and international agencies should coordinate their activities while each plays its distinct role.
Courts, parliamentary committees, commissions, government accounting offices, ombudsmen, and chief prosecutors' offices may have competing jurisdictions on privatization. (Regrettably, this was often not the case in the great 1990s privatization in post-communist countries.) Legal and administrative challenges may increase public control while simultaneously miring the process in numerous court hearings and investigations. While such involvement, especially of Iraqi institutions, may increase transparency and public "buy-in," it may also slow down the process and open it to frivolous challenges. Indigenous NGOs and media also have a role. However, it is all too easy for politicians and unprofessional journalists to denounce and undermine privatization through demagoguery.
The Eastern European experience demonstrates that a strong executive branch with political commitment and a public mandate for privatization, combined with meticulous insistence on open and competitive bidding, can carry the day. In that respect, the process could be facilitated by inviting private foreign companies and officials with experience in the German Privatization Agency (Treuhandanstaldt), Estonian Privatization Agency, and similar organizations to serve as advisers to the Iraqi government.
Revenue Collection and Distribution Mode
Best management practices and financial controls in the taxation and expenditure stages of oil revenue accrual and disbursement are essential. The history of oil-rich states, from Saudi Arabia to Nigeria, provides ample evidence of a cycle of high revenue/high expectations/high expenditure followed by an oil market slump, a decline in revenue, and social unrest caused by fiscal and budgetary adjustments.11
These states, however, failed to use centrally managed oil revenues to jump-start development and prevent precipitous declines in their GDP per capita. Saudi GDP per capita peaked in 1981, when both the U.S. and Saudi Arabia had a per capita GDP of about $28,600. In 2001, U.S. GDP per capita was $36,000, while Saudi Arabia's was less than $7,500. According to the U.S. Embassy, "Per capita income [in Saudi Arabia] will continue to decline unless economic growth increases significantly and/or the birth rate drops."12
Political Factors
Iraqi policymakers should be aware of a "dual hazard" in politics of revenue taxation and expenditure. On the one hand, Iraq has a large, growing, and impoverished population whose basic needs are still unmet. Their representatives are likely to press for higher tax rates and deficit budgets and to lobby for borrowing against future oil receipts. Even with projected increases in oil production and revenue growth, Iraq will still be in the poor category or in the low end of the medium-income developing countries. However, if the Iraqi poor, especially the Shi'a, are excluded from budgetary decisions, such factions as Islamist Shi'a radicals (often connected to Iran), Sunni Islamists connected to al-Qaeda, and Ba'athists can be expected to use this exclusion as a pretext for agitation against the Iraqi Government Council and its pro-American successor.13
Iraq's challenge is to educate the political and technocrat classes, and the elites in general, on the dangers of high taxation and unbridled expenditure. Macroeconomic instability and a negative investment climate can be as damaging in the long term to a national economy as corruption.
Institutional Development and Controls
As Terry Lynn Karl wrote:
When states do not have to depend on domestic taxation to finance development, governments are not forced to formulate their goals and objectives and the scrutiny of citizens who pay the bills.... Excessive centralization, remoteness from local conditions, and lack of accountability stem from this financial independence.14
Under Saddam, Iraq was a good case in point. The dictator and the Ba'ath elites in Baghdad made all the economic decisions, such as nationalizing oil assets and using revenues to pay for the military, including programs to build weapons of mass destruction.
In post-Saddam Iraq, institutional controls on the revenue stream are vital. These should include creation of competent and independent central fiscal and budgetary bodies; a strong police force, including organized and white-collar crime divisions to prevent oil smuggling; and a tax collection agency sophisticated enough to prevent and investigate tax evasion. Such services need to be strong enough to stand up to the Iraqi national oil company and the international oil companies, which will handle an increasing number of exploration and extraction projects.
Since the Iraqi state most likely will remain weak and fractious after the U.S. transfers sovereignty on July 1, 2004, it should divest itself from providing most nonessential services, which can be delivered by the privatized non-government sector. Market demand, not government programs, is more likely to reflect the needs of the Iraqi people. Since government revenues can be generated up-front from privatization, keeping tax rates low (around the current 15 percent) is advisable.
The government can shift provision of services to the private sector while building a constitutional barrier to keep budget deficit spending below a certain level, such as 3 percent of GDP. Such a safeguard would keep the budget within reasonable limits, make the Iraqi dinar more stable, and instill both fiscal and budgetary discipline among the elite. Without such discipline, the state will attempt to use expenditures to buy its legitimacy.
Given the fragility of the Iraqi state--the combined result of Saddam's regime, the current conflict, and deep ethno-religious fissures--state dependence on oil revenues should be avoided. As in many other countries that have experienced cyclical oil wealth, windfall oil revenues can be stored in non-dinar, off-shore accounts--an Iraqi oil fund.
What Should Be Done
The Coalition Provisional Authority and the Iraqi Governing Council should:
Initiate a broad public debate about development of the rule of law and property rights, including mineral rights. This debate should include Western economists, Iraqi officials, and the public and should cover the future of oil production, taxation, and the distribution of income. As part of the debate, the CPA and IGC should conduct a comprehensive public campaign aimed at privatization of oil and gas industry assets and reserves, as well as broad institutional reform. Many Iraqi officials and other members of police and media elites are not aware of the macroeconomic factors that support privatization, keeping the oil revenue out of government's hands, and instituting publicly accountable and transparent decision-making processes on oil production.
Bolster property rights and the rule of law, including enabling legislation and regulations on oil and gas production that allow private ownership of all productive assets and minerals. This includes fostering an independent judiciary, training judges to handle complicated civil litigation such as energy law, and allowing international arbitration, including enforcement of arbitral awards.
Conduct a comprehensive audit of state-of-the art techniques of oil privatization, revenue generation, and management. This information should then be disseminated to the Iraqi political leadership, management of the oil and financial sectors, and broader elites. U.S. institutions (e.g., the CPA and U.S. Agency for International Development), major oil companies, nonprofit organizations, the IMF, and the World Bank should all be involved in this undertaking.
Ensure that the privatization process is transparent and perceived as being conducted in the interests of the Iraqi people.
Develop safeguards to prevent smuggling and diversion of oil and refined products from "well to wheel" and create a law enforcement climate in which the diversion for private use and theft of crude oil, refined products, or revenue is reported, prosecuted, and punished.
Improve revenue collection, such as taxation of oil sales, by establishing independent audit procedures, supporting public supervision by bona fide NGOs, and developing an independent media.
Assist in creation of a national, private, professionally and independently managed oil fund. A modified version of the Alaska arrangement, allowing for direct deposits of revenues into the private bank accounts of the Iraqi people, would go a long way toward legitimizing the future Iraqi government and privatization of oil assets.
Develop political legitimacy and transparency of oil revenue expenditure through open budgetary and legislative processes. As part of the open budgetary process, budgetary drafts prepared by legislative and governmental budgetary offices should be publicly available and discussed openly in the legislature before the final vote. Budget-watching indigenous NGOs should be allowed to participate in such discussions, thus enhancing the development of civil society in Iraq. Once the security situation improves, both the government and non-government sectors should be provided international technical assistance on budgetary issues.
Oil Revenue Management and International Energy Security
A private and transparently managed oil and gas sector is vital to global energy security and thus in the national interest of the United States. Returning Iraq to the international oil markets is important for the Iraqi people, the United States and other Western countries, and the global economy. This would provide locally generated revenue to finance post-war reconstruction, provide an additional 2 million-4 million barrels per day to the oil market, and relieve the U.S. of the financial burden of Iraqi reconstruction.
Iraq's output prior to the Gulf War was 3.5 million barrels per day, while the oil discovery rates (50 percent to 75 percent) on new projects in the 1990s were among the highest in the world. Given Iraq's own output projections, it may be capable of pumping as much as 6 million barrels (by 2010) to 7 million barrels (by 2020) per day--more than double current production levels. In view of demand projections, especially increased demand from the large Asian economies such as India and China, the global market can easily absorb such an increase. The U.S. Energy Information Administration forecasts that oil consumption in Asia will grow by 55 percent from 2003 to 2025 and that natural gas consumption will increase by 100 percent.15
Generating, accounting for, managing, and expending this revenue for the Iraqi people is a huge responsibility that is complicated by the state-owned and state-managed infrastructure, poorly defined property rights, absence of a functioning legal system, a shattered public service, lack of consensus on how to own and exploit the oil reserves, and the large number of Iraqi poor with pressing needs.
Privatization should be undertaken only after a public education campaign and a good-faith effort to build a consensus among the Iraqis that private ownership of industrial assets, including commodities, is economically more efficient than a government-owned system.
Oil revenue from Iraqi oil should be transparently managed, adequately taxed, and protected from government abuse and corruption. To facilitate this process, creating a professionally managed oil fund should be seriously considered. Such a fund would protect oil revenues from the long hands of the Iraqi politicians. As in the Alaska model, part of the revenue should be distributed directly to the bank accounts of every Iraqi.
These are only some of the answers and challenges facing state oil revenue management. Those tasked with solving these problems owe the people of Iraq their best efforts not to repeat the abuses of the past.
Ariel Cohen, Ph.D., is Research Fellow in Russian and Eurasian Studies and International Energy Security in the Kathryn and Shelby Cullom Davis Institute for International Studies at The Heritage Foundation. This paper is based in part on a paper presented by the author at the Seminar on Public Policy of Oil Finance and Revenues Management, CSIS/Baker Institute, in Washington, D.C., on November 20, 2003. The author would like to thank Heritage Foundation research assistant Will Schirano for his asssistance in preparing this paper. He is also grateful to his colleagues Marc A. Miles and James Phillips for their helpful comments.
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1. Svetlana Tsalik, "The Hazards of Petroleum Wealth," in Caspian Oil Windfalls: Who Will Benefit? (New York: Open Society Institute, 2003), p. 1.
2. Benn Eifert, Alan Gelb, and Nils Borje Tallroth, "Managing Oil Wealth," Finance and Development, Vol. 40, No. 1 (March 2003), at www.imf.org/external/pubs/ft/fandd/2003/03/eife.htm (November 11, 2003). According to the authors, "Work on the theory of rent-seeking behavior illustrates how rent reorients economic incentives toward competition for access to oil revenues and away from productive activities, especially in nontransparent environments characterized by political discretion and unclear property rights."
3. World Bank, "Privatization: Eight Lessons of Experience," Policy Views from the Country Economics Department, July 1992.
4. Interviews with Mutasam Akram Hasan and Dr. Mussab H. Al-Dujayli, Istanbul, Turkey, January 29, 2004. Thus, for example, forcing high production levels without investment in modern technology and maintenance has resulted in massive penetration of water into the Kirkuk oil fields.
5. Ariel Cohen and Gerald P. O'Driscoll, Jr., "The Road to Economic Prosperity for Post-Saddam Iraq," Heritage Foundation Backgrounder No. 1633, March 5, 2003, at www.heritage.org/Research/MiddleEast/bg1633.cfm.
6. Federation of American Scientists, "The Biafra War," at www.fas.org/man/dod-101/ops/war/biafra.htm (November 11, 2003).
7. Oronto Douglas, Von Kemedi, Ike Okonta, and Michael Watts, "Alienation and Militancy in the Niger Delta: A Response to CSIS on Petroleum, Politics, and Democracy in Nigeria," FPIF Special Report, July 2003, at www.fpif.org/papers/nigeria2003.html (November 16, 2003). See also "Hostages from 4 Countries Head Home from Nigerian Oil Rigs," CNN.com, August 5, 2000, at www.cnn.com/2000/WORLD/africa/08/05/nigeria.hostages.reut (November 11, 2003), and "Nigeria: Forces Head for Oil Rigs," Africa Online, May 1, 2003, at www.africaonline.com/site/Articles/1%2C3%2C52870.jsp (November 11, 2003).
8. "Aceh's Rebel Chief Demands Full Independence from Indonesia," CNN.com, November 10, 1999, at 216.239.41.104/search?q=cache:G-37xS6574wJ:www.cnn.com/ASIANOW/southeast/9911/09/indonesia.aceh.03/
+aceh+independence+oil&hl=en&ie=UTF-8 (November 11, 2003). See also Embassy of Indonesia (Ottawa), "Rebels Urge Mobil Oil to Leave Aceh Province for Safety Reasons," January 4, 2001, at www.indonesia-ottawa.org/news/Issue/Aceh/010401_IO_01.htm.
9. "Iraqi Constitution Delayed," BBC World, October 1, 2003, at newsvote.bbc.co.uk/mpapps/pagetools/print/news.bbc.co.uk/2/hi/middle_east/
3153732.stm (November 12, 2003).
10. Martin Hutchinson, "What to Do with the Oil," United Press International, March 24, 2003.
11. Tsalik, "The Hazards of Petroleum Wealth," p. 7.
12. Embassy of the United States (Riyadh), "Saudi Arabia 2002 Economic Trends," May 2002, at riyadh.usembassy.gov/wwwhet02.html (November 16, 2003).
13. Herbert Docena, " No Money, No Play: US on the Brink in Iraq," Asia Times, October 10, 2003, at www.atimes.com/atimes/Middle_East/EJ10Ak01.html (November 16, 2003).
14. Terry Lynn Karl, The Paradox of Plenty: Oil Booms and Petro-States (Berkeley: University of California Press, 1997), p. 190, quoted in Tsalik, "The Hazards of Petroleum Wealth," p. 7.
15. Indo-Asian News Service, "India, China Will Drive Global Energy Use Increase," Asian Tribune, May 2, 2003, at www.asiantribune.com/show_news.php?id=4059 (November 16, 2003).
? 1995 - 2004 The Heritage Foundation
All Rights Reserved.
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Restarting the Flow: Restoring Iraqi Oil Production
by Ariel Cohen, Ph.D.
Backgrounder #1693
October 1, 2003 | |
The Iraqi people desperately need to have their oil flowing again to the global market. Restarting the flow of Iraqi oil would be a win-win proposition, as not only the Iraqis, but also consumers around the world would benefit from bringing the Iraqi oil supply back on line.
The main impediment to increasing Iraqi oil production at this point is lack of security--terrorist sabotage and looting. The recent attacks on pipelines and power stations are disrupting the flow of Iraqi oil and are clearly aimed at further impoverishing the Iraqis and even further disrupting their lives.
Since the end of major hostilities, saboteurs have bombed Iraqi pipelines more than eight times, causing $7 million per day in lost revenue.1 The culprits, including the remnants of Saddam Hussein's Ba'ath party and Islamic radicals, are following the old Leninist adage, "the worse, the better." They are betting on an upsurge in resistance to the U.S. presence in Iraq if they can severely disrupt the country's gasoline, electricity, and cooking gas supply. Saddam loyalists, local Islamist militants, and foreign jihadis who come to Iraq to fight the "infidels" believe that by escalating Iraq's suffering they can drive the Americans back across the ocean.
It is also true that the lack of security, the scarcity of gasoline and other fuels, and the intermittent supply of electricity are impeding the post-war reconstruction. Today, Iraq is producing less than half as much oil as it pumped before the war.
Saving Iraqi Oil Production
The attacks on the oil infrastructure are part of a premeditated campaign by the remnants of Saddam's regime and radical Islamist mujahideen organizations to stop the flow of Iraqi oil, harm the people of Iraq, and disrupt global oil markets. A secret memo dated January 23, 2003, reportedly issued by Saddam's security services, found in Iraq after the war, and published in the London-based Saudi daily Al-Hayat, directs pro-regime elements to destroy power generating stations and the water supply.2 It is likely that Saddam supporters and other terrorists are applying the same tactics to the oil industry.
Iraq is pumping 900,000 barrels per day--considerably less than the pre-war production level of 2.2 million-2.4 million barrels per day. The target of achieving pre-war production by the end of 2003 is in jeopardy, with further increases also in question. While Halliburton subsidiary Kellog, Brown and Root (KBR) and the U.S. Army Corps of Engineers are rehabilitating the Iraqi oil infrastructure, their mandate does not include providing pipeline security.3
The Iraqi oil ministry has begun paying tribal leaders in the south to keep saboteurs and thieves away from the pipelines.4 However, in at least one case, Sheikh Hatem Al Obeidi, an influential tribal leader who was on the government payroll to prevent attacks, instead abetted sabotage and was arrested by U.S. troops.5 Without security, neither the U.S. nor the Iraqis can repair the damage caused to Iraq's oil industry by the war or rehabilitate Iraq's infrastructure, which had fallen into a state of grave disrepair under Saddam.6
Meanwhile, the continued attacks are hurting both the Iraqi and Western economies. The West is still suffering from relatively high oil prices, as the economic recovery remains tenuous, and the Organization of Petroleum Exporting Countries has cut production by 900,000 barrels a day.7 As a result of the drop in Iraqi oil production and the Iraqi fiscal shortfall, U.S. taxpayers will need to subsidize 50 percent of the $6 billion Iraqi budget for fiscal year (FY) 2004.
On September 7, President Bush announced that he would request $87 billion for assistance to Iraq and Afghanistan for FY 2004, with the lion's share going to Iraq.8 A boost in oil production would remedy the Iraqi economic crisis, give the Iraqi people hope, and decrease levels of needed U.S. assistance funding.
Sabotage and Looting
The key impediments to reconstructing the Iraqi oil industry and raising its oil revenues are attacks on the 4,350-mile-long pipeline system and the 11,184-mile-long electric grid.9 The northern pipeline, which runs from Kirkuk to the Turkish port of Ceyhan, was attacked twice in June,10 twice in August, and twice again in September. After an attack on August 16, the pipeline burned for more than 48 hours. The pipeline from the giant Rumeila field in the south has also been bombed twice.
Security analysts divide these attacks into two distinct categories. The first is looting and plunder of the oil infrastructure, including fields, pumping stations, pipelines, and refineries. Organized crime is also raising its head, as demonstrated by the recent interception of a barge with 1,000 tons of stolen Iraqi oil.11 Smugglers usually ship oil to Iran, which reflags and re-exports it.
A much more serious threat, however, comes from groups opposing the U.S. and coalition presence, U.N. involvement, and the elements of Iraqi society participating in the Governing Council.
Thus far, senior U.S. officials, the Coalition Provisional Authority (CPA), and the the U.S. military have not publicly identified the main culprits in the pipeline attacks, which suggests that intelligence is insufficient.12 The ferocious terrorist bombings against personnel and the infrastructure continue.
The main threat comes from three types of groups:
Networks of the old regime operating underground, such as Ba'ath party officials, Iraqi intelligence officers, and Fedayeen Saddam militia.
Radical Sunni groups, such as the predominantly Kurdish Ansar al-Islam; Vanguard of Muhammad's Army; and others whom President Bush has characterized as "Al-Qaeda type fighters" and who are part of the international jihad movement.13 In his September 7 address to the nation, President Bush called Iraq "the central front of the war against terrorism."14 Anti-Western fighters are crossing into Iraq from Syria and the adjacent Gulf states, including Saudi Arabia.15 Funding for their movements comes from rich individuals and foundations in these same Gulf states and from the global radical Islamic community.
Extremist Shi'a groups, affiliated with Mullah Muqtada Sadr, suspected of attacks on leading Shi'a clerics.16 As the result of the assassinations, a militia called the Badr Brigade--the armed wing of the Supreme Council for the Islamic Revolution in Iraq--was allowed to operate after attempts to ban it by the coalition. Elements of the Lebanon-based Hizballah, an organization on the U.S. terrorism list, and other radical pro-Iranian groups and agents are also present in Iraq.
Key Iraqi pipelines have been paralyzed repeatedly by terrorism. On August 13, the day Iraq started pumping oil to the Turkish port of Ceyhan, terrorists attacked the Northern Kirkuk-Ceyhan pipeline. The same pipeline was attacked again on August 30.17 The pipeline, with a throughput capacity of 1 million barrels of crude per day, was attacked four times between May and September.18 Attacks occurred near the towns of Haditha and Hawja, which are close to the largest Iraqi oil refinery at Bayji.
Iraqi oil production is also suffering from years of centralized, state-run management of the oil sector, long-term lack of investment, and inadequate technical maintenance of the oil fields under Saddam. The absence of hard currency reserves to repair and restart the oil industry is slowing production. However, no investment and expansion are possible unless the physical security of the vast Iraqi oil infrastructure can be assured.
Pipeline Security: Planning and Execution
The military component of seizing Iraq's oil infrastructure during the war was brilliantly planned and executed. Unlike during the Gulf War, when Saddam succeeded in setting hundreds of Kuwaiti oil wells on fire, fewer than 10 wells were ignited in Iraq. U.S. and British troops seized and secured the oil fields, refineries, and pipeline infrastructure with minimal casualties and material damage. The final draft of an internal post-war report for the Joint Chiefs of Staff gave high marks for pre-war gaming and combined operations during the time of combat.
However, the post-war planning received the lowest grade, with "capabilities that fell short of expectations or needs, and need to be readdressed through new initiatives."19 CPA Administrator Paul Bremer has admitted that the U.S. forces are "stretched thin."20 Securing the oil infrastructure was an important part of post-war objectives, but the plans for post-war occupation of Iraq were not ready when the war started, and the Pentagon was forced to alter its original plan as the post-war violence escalated.21 Thus, it is not surprising that 80 percent of the damage to Iraq's oil infrastructure occurred after the war ended.22
Five months after the war, the U.S.-led coalition force in Iraq consists of 140,000 American troops and 20,000 international troops, including one British division and one Polish-led division. They are aided by over 54,000 Iraqi security personnel, including 37,000 police, 12,000 facility guards, and 5,000 border police and civil defense corps.
On September 4, in Baghdad, Secretary of Defense Donald Rumsfeld called for putting up to 75,000-100,000 former Iraqi officers and soldiers back in uniform to protect their country and fight its enemies. He also criticized Saudi Arabia and Syria for not doing enough to seal Iraq's borders.23
Faced with attacks on oil pipelines, the CPA is working to expand the Iraqi force charged with infrastructure protection. During this past summer, it discussed the provision of training to this security force with Kroll Associates and other private U.S. companies.24 With more international troops coming to Iraq, they can also assume responsibility for guarding the pipelines and infrastructure and training the Iraqi security forces, which will be tasked with protecting the pipelines in the future. As long as security is not restored, however, the American taxpayer will pay for this security force.
Criticism on the Hill and Beyond
Senators and Representatives, including prominent Republicans, as well as retired senior military officers have criticized the planning, numbers, and troop deployments in Iraq. Senator Richard Lugar (R-IN), chairman of the Senate Foreign Relations Committee, stressed his criticism of the planning done for post-war deployment but called on his colleagues to "rejoice" that the plan has been corrected. Representative Curt Weldon (R-PA), vice chairman of the House Armed Services Committee, expressed reservations about the planning for the war last winter.25
Senator Kay Bailey Hutchison (R-TX), Senator John McCain (R-AZ), columnist George Will, and Weekly Standard editor William Kristol--all outspoken proponents of Saddam's removal--have criticized the Administration for post-war mishaps.26 It is less surprising that Democrats, including Senators Joseph Biden (D-DE), ranking Democrat on the Senate Foreign Relations Committee, and Jack Reed (D-RI), a West Point graduate who served with the 82nd Airborne, are also criticizing the Administration for mistakes in post-war planning and deployment.
Among senior generals critical of the post-war performance in Iraq is General Anthony Zinni, the former head of the U.S. Central Command who has extensive experience in the Middle East and serves as a consultant to the U.S. State Department.27 The most prominent proponent of a bigger Army and a greater deployment in Iraq is General Eric Shinseki, the recently retired Army Chief of Staff, who called for "several hundreds of thousands of soldiers on the ground" and warned against a "twelve division strategy for the ten division army."28
Even if the actual size of the U.S. Iraqi deployment is not increased, it has to be refocused on intelligence and training of the Iraqi forces, while the number of coalition troops from other countries must go up, according to General John Abizaid, the current head of Central Command.29 This is also the opinion of the pre-eminent British military historian, John Keegan.30 Increased intelligence collection, anti-terrorist operations, and training should become the focus of the U.S.-led force in Iraq.
Protecting Iraqi Oil Revenue
The Bush Administration has issued an executive order barring claims in U.S. courts against Iraqi oil or proceeds from it.31 It has also coordinated with other permanent U.S. Security Council members--the United Kingdom, France, China, and Russia--on the imposition of a moratorium on Iraq's national debt.
The U.S. should further coordinate its actions with companies and sovereign claimants (states) to delay reparations for Gulf War damages and other claims. Iraq needs breathing space in order to restart its cash flow and get its oil industry up and running again.
Providing Security for the
Iraqi Oil Infrastructure
Iraq's oil reserves are the third largest in the world after Russia and Saudi Arabia. However, only 15 of its 73 discovered giant and large fields have been developed.32 Vast parts of the country remain unexplored.
According to current estimates, the investment needed to bring Iraqi production to about 3 million barrels a day will exceed $3 billion over the next two to three years. Over the next 10 years, $35 billion-$40 billion will be needed to boost production from the current 1.2 million-1.4 million barrels per day (MBD) to the pre-1979 production level of 5-6 MBD.
Before serious reconstruction work can begin, however, the physical security of the infrastructure needs to be achieved. To this end, the Bush Administration, including the CPA, and the Iraqi Cabinet should:
Conduct an assessment of security needs to provide for infrastructure protection in conjunction with the Iraqi oil ministry. Before serious reconstruction of the oil industry can begin, the coalition and the Iraqi cabinet must be able to assure physical security of Iraqi energy infrastructure.
Increase the number of Iraqi guards as needed to provide security. However, the rank-and-file and all officers must be adequately screened to root out Saddam's hard-core supporters and Islamic radicals.
Utilize coalition forces, especially the British, to train Iraqi security forces, including pipeline security units. British instructors have earned high marks the world over providing security and military training.
Hire an international security company to administer pipeline security and train the Iraqi security forces tasked with protecting the pipelines to complement military training.
Train the guards for the task at hand; deployment without training is self-defeating. The CPA has cut the training time for Iraqi police from 12 weeks to eight, and the quality of this force leaves much to be desired.33 Similar shortcuts in training for pipeline protection forces could lead to undesirable results.
Develop and conduct a public information campaign explaining to the Iraqis the importance of pipeline security and the resultant oil revenue. Such a campaign should emphasize the direct link between oil revenue and the provision of basic services and the growth in living standards.
Design a technological package to enhance infrastructure security, using satellite imaging, unmanned aerial vehicles/drones, video cameras, and sensors. This package would be integrated with the security provider (state or private).
Provide additional funding to repair the oil infrastructure. The rundown state of the oil infrastructure will require significant investment: up to $3 billion per year to get it up and running again. These funds can be provided on credit to the Iraqi Governing Council or the oil ministry, to be repaid from future oil revenues.
Work with the Iraqi oil ministry leadership appointed by the Coalition Provisional Authority and the Council to intensify the purge of former Ba'ath officials from the oil ministry and the oil industry.
Conclusion
Without adequate security, Iraqi oil will not reach global markets. Rebuilding the Iraqi oil sector through Western investment will not work as long as terrorists and looters are able to target technical personnel, pipelines, power lines, and other assets necessary for restarting oil production.
By liberating Iraq, the U.S. undertook an immense responsibility. Without Iraqi oil, the U.S. taxpayer will have to foot the bill for the occupation and reconstruction of Iraq. U.S. consumers will pay higher prices at the pump, and the U.S. and global economies will endure an indirect tax by paying higher energy prices. The alternative to restoring Iraqi oil production--misery for the Iraqi people and victory for the terrorists--is not an option.
Ariel Cohen, Ph.D., is Research Fellow in Russian and Eurasian Studies in the Kathryn and Shelby Cullom Davis Institute for International Studies at The Heritage Foundation.34
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1. Radio Free Europe/Radio Liberty, "Iraq: Pipeline Fire Costing $7 Million a Day," August 18, 2003, at www.rferl.org/nca/features/2003/08/18082003075830.asp. See also Walter Rodgers, Nic Robertson, and Jason Bellini, "3 U.S. soldiers killed in ambush near Tikrit," CNN.com, September 18, 2003, at www.cnn.com/2003/WORLD/meast/09/18/sprj.irq.main. The most recent explosions occurred on September 8 and 18.
2. This document was translated by the Middle East Media Research Institute in its Special Dispatch Series No. 538, July 17, 2003. Available at http://memri.org/bin/articles.cgi?Page=archives&Area=sd&ID=SP53803
3. Energy Intelligence Group, "Oil Flows at Kirkuk as KBR Begins Damage Assessment," Eye on Iraq, May 1, 2003, at www.energyintel.com/EyeOnIraq.asp (subscription required).
4. Bassem Mroue, "Oil Ministry and U.S. Troops Take Measures to Protect Iraq's Main Pipeline from Thieves and Saboteurs," Associated Press, July 4, 2003, at www.enn.com/news/2003-07-04/s_6207.asp.
5. "Iraq Tribal Sheikh Arrested Over Oil Blasts," Agence France-Presse, August 31, 2003, at www.ptd.net/webnews/wed/cs/Qiraq-oil-blast-sheikh.RMbd_DaU.html.
6. Energy Intelligence Group, "Oil Flows at Kirkuk as KBR Begins Damage Assessment." War damage included the bombing of the K3 pumping station at Haditha and a number of pipelines that crossed the Tigris around Tikrit.
7. John W. Schoen, "OPEC Cuts May Crimp Economy," MSNBC, September 24, 2003, at www.msnbc.com/news/
971120.asp?0sl=-23.
8. George W. Bush, "President Addresses the Nation," September 7, 2003, at www.whitehouse.gov/news/releases/2003/09/
20030907-1.html.
9. Pamela Hess, "CPA Speeding Police Training in Iraq," The Washington Times, September 2, 2003, at www.washtimes.com/
upi-breaking/20030902-012831-9370r.htm.
10. Lamia Radi, "Fires Blaze on Iraq Oil Pipeline After Twin Bomb Attacks: Residents," Agence France-Presse, June 13, 2003, at iafrica.com/news/worldnews/244870.htm.
11. Pacific Disaster Management Information Network, "Iraq Humanitarian Assistance Report," August 11, 2003, p. 3, at www.who.int/disasters/repo/10470.pdf.
12. Douglas Jehl and Dexter Filkins, "Rumsfeld Eager for More Iraqis to Keep Peace," The New York Times, September 5, 2003, at www.nytimes.com/2003/09/05/international/middleeast/05RUMS.html.
13. See also Genaro C. Armas, "Troops Called Not an Answer," Associated Press, August 25, 2003.
14. George W. Bush, "President Addresses the Nation."
15. Secretary Donald H. Rumsfeld and General John Abizaid, "DoD News Briefing," August 21, 2003, at www.defenselink.mil/
transcripts/2003, /tr20030821-secdef0604.html. See also Stephen Schwartz, "Reading Najaf," The Weekly Standard, September 3, 2003.
16. Aparisim Ghosh, "Terror at a Shrine," Time, September 8, 2003, p. 30. See also Tarek Al-Issawi, "Previously Banned Militia Patrols Iraqi Holy City, with Coalition's Blessing," Canadian Press, September 6, 2003, at www.canada.com/news/world/story.asp?id=517B3E75-E27D-42A2-BD33-E47782C941A6. The Badr Brigade was previously disbanded by the coalition, but after the murder of Ayatollah Muhammad Bakr al-Hakim and an earlier attack on his uncle, it is now being allowed to function again.
17. "Iraqi Oil Pipeline Ablaze," News24, at www.news24.com/News24/World/Iraq/0,,2-10-1460_1409548,00.html, and "Iraq Council Makes Security Demands," MSNBC News, August 30, 2003, at www.msnbcnews.com/news/959639.asp?cp1=1.
18. "Iraqi Oil Pipeline Sabotaged," Agence France-Press, August 13, 2003; see also Joseph Logan, "Bomb, Tech Problems Hit Iraq Pipeline," Reuters, August 16, 2003, and Celcan Hacaoglu and Bruce Stanley, "Iraq Resumes Pumping Oil from Northern Oil Fields through Turkish Pipeline," Canadian Press, August 13, 2003, at www.canada.com.
19. Rowan Scarborough, "Joint Chiefs Report: U.S. Rushed Post-Saddam Planning," The Washington Times, September 3, 2003,
p. 1.
20. Armas, "Troops Called Not an Answer."
21. Ibid.
22. Bruce Stanley, "Security the Top Priority for Iraqi Oil Industry As Looting Continues," Oil and Gas Reporter, May 27, 2003, at www.oilandgasreporter.com/stories/052703/ind_20030527006.shtml.
23. Douglas Jehl and Dexter Filkins, "Rumsfeld Eager for More Iraqis to Keep Peace," The New York Times, September 5, 2003.
24. Douglas Jehl, "U.S. Considers Private Iraqi Force to Guard Sites," The New York Times, July 18, 2003, at query.nytimes.com/gst/abstract.html?res=F30C17FC3B580C7B8DDDAE0894DB404482.
25. Amy Fagan and Rowan Scarborough, "Post-Saddam Planning Failures `Unforgivable,' Democrats Say," The Washington Times, September 4, 2003, at washingtontimes.com/national/20030903-115853-1572r.htm.
26. Sig Chrstenson, "Some Republicans Doubt Progress on Iraq," San Antonio Express-News, August 31, 2003, at
news.mysanantonio.com/story.cfm?xla=saen&xlb=180&xlc=1048090.
27. Thomas E. Ricks, "Ex-Envoy Criticizes Bush's Postwar Policy," The Washington Post, September 4, 2003, at
www.washingtonpost.com/wp-dyn/articles/A27846-2003Sep4.html.
28. Mark Thompson and Michael Duffy, "Is the Army Stretched Too Thin?" Time, August 24, 2003, at www.time.com/time/magazine/printout/0,8816,477891,00.html.
29. Rumsfeld and Abizaid, "DoD News Briefing."
30. Jack Kelley, "Troop Strength Debate Ranging," Pittsburgh Post-Gazette, August 23, 2003, at www.post-gazette.com/pg/03235/214252.stm.
31. George W. Bush, "Executive Order Protecting the Development Fund for Iraq and Certain Other Property in Which Iraq Has an Interest," May 22, 2003, at www.whitehouse.gov/news/releases/2003/05/20030522-15.html.
32. Emma Clark, "Iraq `Needs Foreign Oil Companies,'" BBC News, July 24, 2003, at news.bbc.co.uk/2/hi/business/3075521.stm.
33. Pamela Hess, "CPA Speeding Police Training in Iraq," The Washington Times, September 3, 2003, at www.washtimes.com/
upi-breaking/20030902-012831-9370r.htm.
34. The author would like to thank William Schirano, Research Assistant in the Kathryn and Shelby Cullom Davis Institute for International Studies, and Anita Greco and Irene Gorelik, interns at The Heritage Foundation, for their assistance with researching this paper. The author also wishes to thank Heritage Foundation colleagues Peter Brookes, James Phillips, and Jack Spencer, as well as Ed Badolato, Executive Vice President of the Shaw Group, and Dr. Gal Luft, Director of the Institute for Analysis of Global Security, for discussing concepts contained herein and commenting on the paper.
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? 1995 - 2004 The Heritage Foundation
All Rights Reserved.
Bolster Freedom, Not Dependence, in Iraq
by James Phillips and Marc A. Miles, Ph.D.
Executive Memorandum #900
September 19, 2003 | |
President George W. Bush has called on Congress to approve an $87 billion supplemental appropriations request, most of which is earmarked for Iraq. Congress should approve the Administration's request, which is sorely needed to stabilize Iraq, improve security against terrorist attacks, and finance reconstruction. But in the long run, only the Iraqi people can assure the successful transition to a secure and stable Iraq. Thus, Iraqis must be liberated from the restrictive economic system imposed by Saddam Hussein's dictatorship, just as they have been liberated from Saddam's tyrannical political system. As The Heritage Foundation's Index of Economic Freedom shows, countries with free and transparent economies are the ones best able to grow and prosper.
Saddam Stifled Private Enterprise
Saddam's regime inserted a number of restrictions into the Iraqi constitution and legal statutes that stifled private enterprise and assured state domination of the economy. The result was a sluggish economy increasingly dependent on the state-owned oil sector, which served the interests of Saddam's socialist Baath Party. In fact, Article 1 of the 1990 interim constitution, Iraq's most recent constitution, proclaims that the promotion of a socialist system is one of the basic goals of the state. Article 13 prohibits private ownership of natural resources and the "basic means of production." Article 18 prohibits foreign ownership of immovable property (land, buildings, and other permanent structures). Companies Law No. 21 of 1997 requires that all founders, shareholders, and partners of Iraqi companies must be Iraqi nationals or citizens of other Arab countries.
The net effect of these legal restrictions was to suffocate private enterprise, reduce job opportunities for Iraqis, perpetuate state monopolies over many sectors of the economy and discourage private investment. These distortions hurt the interests of the Iraqi people but enabled Saddam Hussein to appropriate Iraq's huge oil wealth to maintain himself in power, reward his supporters, and fund his grandiose ambitions to claim leadership of the Arab world and dominate the Middle East. Iraqis would be far better served by shaking off the dead hand of Saddam's Baathist commissars and undertaking free market economic reforms to jumpstart their limping economy.
Removing barriers to private Iraqi and foreign investment would also lower the burden on American taxpayers for rebuilding Iraq, which is projected to cost $50 billion to $75 billion. While Ambassador L. Paul Bremer, the Administrator of the Coalition Provisional Authority, has taken some steps to move Iraq toward a free market economy, including suspending tariffs and import fees, many laws that severely restrict free enterprise remain in effect.
To energize Iraq's moribund economy and help stabilize Iraq by giving Iraqis hope for a more prosperous future, the United States should:
Immediately abrogate the Iraqi constitution and legal edicts that obstruct economic reforms. The 1990 interim constitution, which was never approved by the Iraqi people through a free vote, was designed to prop up Saddam's Baathist regime by giving it total control over the country's economy. Ambassador Bremer should void the constitution and other harmful laws and strongly encourage the Iraqi committee charged with writing a new constitution to eliminate restrictions on private ownership of property. Setting aside these economic diktats would free Iraqis to own property, engage in private enterprise, and attract foreign investment that will help accelerate economic recovery.
Encourage the development of a modern legal system that recognizes property rights and is conducive to privatization. Protection and enforcement of property rights are important for fostering economic growth and foreign investment. Such guarantees are necessary to encourage Iraqis to take the risks necessary to invest in their own future. Iraqi laws should not discriminate against foreign or non-Arab nationals.
Prepare Iraqis for comprehensive structural reforms and privatization. The United States should encourage the Iraqi Governing Council to hire Iraqi expatriates and Western-educated technocrats who understand the benefits of economic freedom. The emerging Iraqi government should then launch a public information campaign to educate and prepare the people for structural reforms and privatization, particularly in the energy sector, which dominates the Iraqi economy. Suspending tariffs, freeing capital markets, and creating and protecting property rights is not enough. As the Index indicates, the Iraqi government should also sell state-owned enterprises, permit both foreign and local banks to do business with minimal regulation, reduce bureaucratic red tape, minimize labor laws, and implement low, flat taxes. Together, these reforms will create the basis for a strong market economy in Iraq.
Prepare a comprehensive economic reform package. Once the public is educated about reforms, the government must follow through. The U.S. government should continue to work closely with the Iraqi Governing Council to implement systematic economic reforms, including price deregulation; privatization of state assets in the utility, transportation, energy, and other sectors; liberalization of trade policy and seeking entry into the World Trade Organization; and a commitment to keep taxes, tariffs, and inflation low.
Conclusion
For more than three decades, Saddam Hussein's regime imposed severe political and economic restrictions on the Iraqi people. While the Iraqis have been liberated from Saddam's political repression, they continue to be hamstrung by Baathist-inspired economic repression. The United States should void these restrictions immediately and encourage the nascent Iraqi government to advance economic freedom to reinvigorate the economy. The sooner Iraqis are free to own property, invest private capital as they see fit, freely borrow from banks, set up businesses with minimal red tape, and trade products freely across the Iraqi border, then the sooner the Iraqi economy will revive, living standards will improve, and Iraqis will take ownership of their political future.
James Phillips is Research Fellow in Middle Eastern Studies in the Kathryn and Shelby Cullom Davis Institute for International Studies and Marc A. Miles, Ph.D., is Director of the Center for International Trade and Economics at The Heritage Foundation.
--------------------------------------------------------------------------------
? 1995 - 2004 The Heritage Foundation
All Rights Reserved.
The Road to Economic Prosperity for a Post-Saddam Iraq
by Dr. Ariel Cohen and Gerald P. O'Driscoll, Jr., Ph.D.
Backgrounder #1594
http://www.heritage.org/Research/MiddleEast/bg1594.cfm
September 25, 2002 | Executive Summary | |
As the Bush Administration and Iraqi opposition groups plan the future of a post-Saddam Hussein Iraq without its menacing arsenal of weapons of mass destruction (WMD), economic issues loom large. Iraq's economy has been grossly mismanaged for 40 years, and its people desperately need an alternative strategy to supplant the failed policies of its dictator. Sound economics are needed to help them rebuild their lives and their country after two decades of wars and four decades of repression under the current regime.
Saddam Hussein's regime has succeeded in bankrupting the country even though it boasts the world's second largest oil reserves after Saudi Arabia. Gross domestic product (GDP) for 2001, at the market exchange rate, is estimated to be only about one-third the level in 1989.1 Iraq also is hobbled by its $140 billion foreign debt.2 This devastation was wrought by such policies as the nationalization of the country's chief export commodity, oil; extensive central planning of industry and trade; the 1982-1988 war against Iran; and the invasion of Kuwait, which precipitated the 1991 Gulf War. And Saddam still stubbornly refuses to meet the terms for lifting the economic sanctions that the United Nations has imposed on his regime.
Saddam also has succeeded in diverting at least $6.6 billion--primarily in revenues from smuggled oil and kickbacks--to his program to develop nuclear, chemical, and biological weapons and platforms for their delivery. He continues to support terrorist organizations, such as Hamas and the Popular Front for the Liberation of Palestine (PFLP), which the U.S. Department of State includes on its list of state sponsors of terrorism.3 Presumably, a post-war U.S. military presence in Iraq and Iraq's future security forces will ensure that the new Iraqi government does not continue to develop WMD and support terrorism.
The future of Iraq depends not only on the ouster of the repressive regime, but also on the ability of the new Iraqi leaders to reverse the damage through policies that will spur real economic growth. The sooner the threat from Saddam's WMD programs ends and the Iraqi economy recovers, the sooner the United States and the other security forces will be able to depart.
A double strategy of ensuring security and enabling economic growth will need international support. The Bush Administration should help Iraqi opposition leaders to develop an economic reform package for their country. The new post-Saddam federal government should develop a modern legal system that recognizes property rights and is conducive to privatization; create a public information campaign that prepares the people for structural reforms and privatization; hire expatriates and Western-educated Arabic speakers with financial, legal, and business expertise for key economic positions; deregulate prices, including prices in the utility and energy sectors; prepare state assets in the utility, transportation, pipeline, energy, and other sectors for privatization; keep the budget balanced and inflation, taxes, and tariffs low; liberalize and expand trade; and launch an effort to join the World Trade Organization (WTO).
The Tough economic Road Ahead
Iraq's Lifeblood: Oil
As Chart 1 and Chart 2 show, the Iraqi economy is dominated by the oil sector, which provides more than 60 percent of Iraq's GDP and 95 percent of its hard currency earnings.4 The economic sanctions imposed by the U.N. in the past decade to try to force Saddam to give up his weapons of mass destruction not only have not worked, but have helped to depress foreign trade.
According to the U.S. General Accounting Office (GAO), however, oil smuggling and illegal surcharges of 25 cents to 50 cents a barrel on legal oil purchases bolster Saddam's regime. These illegal activities during 1996-2002 have provided unaccounted revenues of at least $6.6 billion,5 which Saddam has been free to spend to develop WMD and support terrorism.6 How much Saddam is actually spending on his deadly arsenal is hard to tell. The lack of information is so pervasive that the international financial institutions (IFIs), foreign government agencies, and private businesses that provide country economic analysis and data do not publish any official economic statistics or estimates for Iraq.7
This means that no recent data on Iraqi government consumption of GDP are available. In 1993, the most recent year for which data are available, government consumption amounted to 13.9 percent of GDP. According to the Economist Intelligence Unit,
Oil revenue has been the mainstay of government income since the 1950s. In 1968 the oil-based nature of the economy was reinforced by the introduction of a centralized socialist system, with the government regulating all aspects of economic life other than peripheral agriculture, personal services and trade.... Meanwhile, the state's centrality to the economy has increased because the vast majority of imports and foreign exchange have been controlled by the government.8
The socialist Ba'ath government has demonstrated gross mismanagement of the oil sector. During the 1960s, exploration stopped and the sector was nationalized, which bred corruption and mismanagement. Oil production has barely increased since 1980. In 2001, oil production stood at approximately 2.8 million barrels a day. Today, Saddam's regime controls oil exploration, extraction, refining, pipelines, ports, and all utilities, but oil export prices are set by the U.N. sanctions regime.
Taxing Imports, But Not Smugglers
The Economist Intelligence Unit notes that direct taxation has never been a preferred means of raising revenue in Iraq.9 As the International Monetary Fund (IMF) reports, "imports are restricted by [U.N.] sanctions. All imports subject to import duty are also subject to a customs surcharge.... Imports of commodities are normally handled by the public sector."10 Although the government of Iraq inspects and regulates all imports, a small private sector is involved in considerable smuggling and black market currency exchange activities.
Tough Investment Environment
Even though Iraq has permitted some foreign investment in its oil industry and private sector, mainly to help it rebuild from the damage of the Gulf War, it discourages most capital inflows. The legal system does not guarantee contracts. Inflation in Iraq remains high. From 1994 to 2001, Iraq's weighted average annual rate of inflation was 80.4 percent; for 2001-2002, the rate has ranged from 60 percent to 70 percent.11
The government controls almost all prices, and rationing is the norm for items like food. The regime continues to distribute imported goods in what is essentially a highly centralized command economy structure, although it does retain the ability to skew the distribution of food and other items as a way to favor cronies.
There is no application of modern property rights protected by legislation and enforced through the courts. The Revolutionary Command Council (RCC) of Iraq holds all executive, legislative, and judicial authority. The RCC's chairman, Saddam Hussein, appoints a council of ministers who are theoretically vested with executive authority, but in fact they are able only to rubber-stamp the decisions of the RCC and its chairman. The judiciary is not independent; consequently, there is no check on Saddam's power to override any court decision.
AFTER Saddam: The outlook for Iraq and World Energy Markets
One thing is clear: Saddam's regime, obsessed with control and coercion, is destroying the wealth of the Iraqi people. After liberation from this regime, it will be important for the Iraqi people to rebuild their economy, especially the oil sector, increase GDP and improve the standard of living, attract foreign investment, and improve government services through privatization.
The Cost of Rebuilding
The cost of rebuilding the country will be high. If Operation Desert Storm reconstruction costs are used as the basis for estimation, the cost of rebuilding Iraq after Saddam's regime falls will be in the $50 billion to $100 billion range.12 Together with repaying the Iraqi foreign debt, the more realistic figure is $200 billion.13 However, as long as structural economic reforms are undertaken, Iraq's vast oil reserves are more than ample to provide the funds needed to rebuild and boost economic growth.
The United States, through its executive directors at such IFIs as the IMF and World Bank, and other international governmental and non-governmental organizations, should begin to advise the future leaders of Iraq's three primary ethnic groups to establish policies that will lead to a thriving modern economy. These policies should be based on "best practices" developed around the world in the 1990s, when the largest government privatizations in history occurred.
During the Iran-Iraq War and the post-Gulf War sanctions period, Iraqi petroleum production declined significantly. Saudi Arabia filled the void, generating a net profit of $100 billion. The funds it generated represent monies that should have benefited the Iraqi people.14 (See Chart 3.)
Following the demise of Saddam Hussein, it is unlikely that the Saudi kingdom would transfer a fraction of its production quota under the Organisation of Petroleum Exporting Countries (OPEC) regime to Iraq to compensate for those lost profits and facilitate its rebuilding. Iraq will need to ensure cash flow for reconstruction regardless of OPEC supply limitations. Combined with the potential privatization of the oil industry, such measures could provide incentive for Iraq to leave the OPEC cartel down the road, which would have long-term, positive implications for global oil supply.
Potential Benefits of Leaving the OPEC Regime
An Iraq outside of OPEC would find available from its oil trade an ample cash flow for the country's rehabilitation. Its reserves currently stand at 112 billion barrels, but according to the U.S. Energy Information Administration, it may have as much as 200 billion barrels in reserve.15 Iraqi officials estimate even more: According to oil minister Amir Muhammad Rashad16 and Iraqi Senior Deputy Oil Minister Taha Hmud, the reserves can be as high as 270 billion to 300 billion barrels, making them equal to Saudi Arabia's.17
Iraq's 1990 output prior to the beginning of the Gulf War stood at 3.5 million barrels a day, while oil discovery rates on a few new projects in the 1990s were among the highest in the world: between 50 percent and 75 percent. Given Iraq's own output projections, it may be capable of pumping as much as 6 million barrels (by 2010) to 7 million barrels (by 2020) a day, more than doubling current production levels.18 (See Chart 4.)
Depending on the dynamics of global economic growth and world oil output, Iraq's increase in oil production capacity could bring lower oil prices in the long term. An unencumbered flow of Iraqi oil would be likely to provide a more constant supply of oil to the global market, which would dampen price fluctuations, ensuring stable oil prices in the world market in a price range lower than the current $25 to $30 a barrel. Eventually, this will be a win-win game: Iraq will emerge with a more viable oil industry while the world will benefit from a more stable and abundant oil supply.
PRIVATIZATION:
Learning from the past
Boosting oil exports and oil industry privatization by itself still may not be sufficient for growth over the long haul. To rehabilitate and modernize its economy, a post-Saddam government will need to move simultaneously on a number of economic policy fronts, utilizing the experience of privatization campaigns and structural reforms in other countries to develop a comprehensive policy package.
Several lessons from other countries' privatization experiences are particularly relevant to Iraq's situation. Specifically:
LESSON #1: Privatization works everywhere
Between 1988 and 1993, 2,700 state-owned businesses in 95 countries were sold to private investors.19 In 1991 alone, $48 billion in state assets were privatized worldwide.20 Privatizations led to higher productivity, faster growth, increased capacity, and cheaper services for consumers.
In one study, the World Bank reviewed 41 firms privatized by public offerings in 15 countries. This review demonstrates that privatization will increase the return on sales, assets, and equity. As privatized firms grow, they often increase their workforces. In another study, the World Bank reviewed 12 privatization efforts in four countries, and its findings also demonstrate why privatization is good for the economy as a whole, no matter where it is implemented.21
LESSON #2: Privatization works best when it is part of a larger structural reform program
Privatization needs to be accompanied by reforms to open markets, removal of price and exchange rate distortions, reductions in barriers to entry, and elimination of monopoly powers. In addition to these policies, governments should enact legislation that protects consumer welfare.22 Such successful structural reform and privatization programs were implemented in the 1990s in Poland, Hungary, the Czech Republic, and the three Baltic States, particularly Estonia.
LESSON #3: Privatization of large enterprises requires preparation
Successful privatizations of large enterprises may necessitate such advance actions as breaking them into smaller competitive units, recruiting experienced private-sector managers, adopting Generally Accepted Accounting Principles (GAAPs), settling past liabilities, and shedding excess labor.23
LESSON #4: Transparency and the rule of law are critical
Opaque privatization and allegations of corruption and cronyism provide political ammunition to the opponents of market-based policies. To eliminate those problems and be successful in its privatization efforts, the government must adopt competitive bidding procedures, objective criteria for selecting bids, and protocols for hiring independent privatization management firms, and establish a privatization authority with minimal bureaucracy to monitor the overall program.24
LESSON #5: A minimal safety net is necessary to support laid-off workers and prevent social unrest
Buyouts of the state-owned enterprise's management and labor force, as well as distribution of some of the privatized firm's shares to its management and labor force, can go a long way toward alleviating social tensions that might undermine public support for privatization.
LESSON #6: Privatization is taking place in the Middle East
Privatization is no longer an affair of affluent or middle-income countries. From Margaret Thatcher's Great Britain, privatizations of state-owned assets and structural reform policies spread to many countries in Africa, Asia, and Latin America, including the Philippines, Malaysia, Jamaica, and Sri Lanka. An internal study of World Bank managers in the Middle East and North African department found that many were enthusiastic in supporting privatization efforts in their regions.25 A number of Middle Eastern states, including Iraq's neighbors Turkey26 and Kuwait,27 are pursuing privatization of their telecommunications, transportation, utilities, and oil sectors and services, while others, such as Iran and Saudi Arabia, have declared their intentions to privatize assets and are in the policy discussion stage.28
Lessons from Oil and Gas Privatizations
Oil privatization remains a politically painful issue in many countries. Economic nationalists claim oil is a "national patrimony,"29 whereas socialists and radical Islamists call private and foreign ownership of natural resources "imperialist" and other such pejoratives. Such rhetoric has one goal: to keep a precious and profitable resource in the hands of the ruling elite, be it a communist party politburo, a dictator, or a group of mullahs.
In fact, oil is a commodity and should be managed according to the laws of economics and best business practices. Even a country as fiercely nationalist as Russia recognizes this and is undertaking the largest oil sector privatization in history. The lessons from past experience in oil privatizations are also positive. Specifically:
ENERGY SECTOR LESSON #1: First "entitize," then privatize
The Conservative government of Margaret Thatcher successfully privatized some British oil assets in the 1980s. In the early 1990s, Russia carved up its state-run oil ministry into regional monopolies. It created joint stock companies, later selling stock to the Russians, first, and then to foreigners. The Ministry of Privatization distributed some stocks to managers and workers in order to smooth the path to privatization. Since privatization, many of these stocks, such as in LUKoil, Tyumen Oil Co. (TNK), and Yukos, have risen in price considerably.
The Russian government did not go all the way, however. For example, it did not privatize Transneft, a company that controls its pipeline infrastructure, or fully privatize some oil companies, such as Slavneft and Zarubezhneft and GAZPROM, the giant natural gas monopoly that boasts the world's largest natural gas reserves and controls a 90,000 km pipeline network.30 The partial privatization effort has led to friction between state-controlled entities and the privatized-publicly held companies over pipeline access.
ENERGY SECTOR LESSON #2: Oil privatization generates high economic efficiency and market capitalization
The results of Russian oil privatization are fascinating: While the privatized Russian oil companies significantly expanded their production and exports and significantly increased market capitalization, GAZPROM did not. The government-controlled pipeline operator also has had difficulty providing adequate pipeline capacity to the quickly developing oil sector.
Meanwhile, privatized Russian companies not only have attracted Western portfolio investment, but also have been more successful than GAZPROM in attracting capital for foreign direct investment. Several leading Russian publicly traded oil companies also transformed their antiquated, Soviet-era accounting practices to the GAAP standard, hired Western managers, and became centers for dissemination of Western management and accounting skills across Russia's industrial sectors. Moreover, Russia's largest oil companies, such as LUKoil and Yukos, are fast becoming major global oil players. LUKoil recently purchased 1,300 Getty gas stations in the United States, and LUKoil and Yukos are selling American Depository Receipts (ADRs) on the New York Stock Exchange.
ENERGY SECTOR LESSON #3: Keep it clean, and keep it profitable
The major problem with the Russian oil privatization effort has been its relative opacity, especially in the early 1990s. Scandals included the oil-for-shares debacle in which Boris Yeltsin's government took loans from banks in exchange for shares of the oil companies. The government never repaid the loans, and the companies became the property of politically connected banks.31 The insider dealing provoked a political row that discredited privatization in the public's eyes.
Other problems in Russia have been privatization through vouchers and the denial of access to foreigners in early privatization stages in order to assuage nationalists in the parliament. These policies resulted in much lower revenues (by as much as a factor of 10) than the government could have received for the privatized assets.
AN ECONOMIC REFORM PLAN FOR POST-SADDAM IRAQ
The Bush Administration should provide leadership and guidance for the future Iraqi government to undertake fundamental structural economic reform. This process should include a massive, orderly, and transparent privatization of state-owned enterprises, especially the restructuring and privatization of the oil sector. These steps would greatly enhance needed access to global capital markets.
U.S. political commitment will be needed to motivate international organizations to provide appropriate expertise and technical assistance. Inter alia, these organizations could include IFIs such as the International Monetary Fund and the World Bank, and would likely encompass such diverse non-governmental organizations (NGOs) as the National Endowment for Democracy, the Center for International Private Enterprise, the American Bar Association, and the AFL-CIO.
In particular, the Bush Administration should convince the future federal government of Iraq to come to an agreement on how oil revenues are taxed and proceeds are distributed to the country's three distinct ethnic regions--Shiite Arabs, the Kurds, and the Sunni Arabs. Successfully privatizing the country's oil fields, refining capacity, and pipeline infrastructure will mean higher efficiencies and higher tax revenues in the oil sector.
What a New Iraqi Government Must Do
The Administration, the IFIs, and other economic decisionmakers should prepare and provide support for a future federal Iraqi government to:
Develop a modern legal environment that recognizes property rights and is conducive to privatization. Protection and enforcement of property rights and access to successful alternative dispute resolution mechanisms are vital policies for fostering economic growth and foreign investment. Iraq also will need to build modern and well-functioning regulatory and supervisory frameworks and institutions in the oil and gas, banking, securities, and financial services areas. Such a legal and business environment should be equitable and non-discriminatory, and it should not distinguish between Iraqi-Arab nationals and foreigners.
The U.S. government, its allies, and international organizations should be ready to provide technical assistance in the legal, economic policy, and public administration areas. Working cooperatively with the United States, the European Union, and the IFIs, the post-Saddam government of Iraq will need to boost the court system and the rule of law. It will need to provide legislation to allow the use of broad alternative dispute resolution mechanisms outside of Iraq, as the local laws may change too quickly (and the local court system too slowly) for local judges to be able to follow and apply new legislation. Education for judges about the latest legal developments in the economic area will also be important. The courts will have to boost the enforcement of court rulings independent of the executive branch. The central government will need to pay judges and court employees adequate salaries to keep corruption in check.
Educate and prepare the Iraqi population for structural reform and privatization through a public information campaign.
Only when the public, including key stakeholders, elites, and the population at large, understand the goals of economic reform will they become more receptive to change and less likely to succumb to the anti-Western demagoguery that undoubtedly will emanate from the remnants of the discredited Ba'ath establishment and Islamic fundamentalists. The new Iraqi government will need to use the media and the educational system to explain the benefits of privatization and the changes to come in order to ensure broad public support.
Hire Iraqi expatriates, as well as other Western-educated Arabic speakers with financial, legal and business backgrounds, for key positions in government.
Examples of this approach in Eastern Europe demonstrate that Western-educated experts can implement economic reforms better than a former socialist bureaucracy can. Younger, well-educated technocrats have an advantage in their ability to communicate effectively with both locals and Westerners, including international providers of technical assistance. In implementing structural reform, the best results are achieved by teams of local and Western experts working together.
Deregulate prices in Iraq, including prices in the utilities and energy sector.
Quick price deregulation will be key to ensuring an adequate supply of goods for consumers and ending rationing. It will contribute to increased exports of oil and gas, which in turn will provide additional earnings and tax revenues for the government to share among the regional and local governments.32
Prepare to privatize assets in the industrial, utility, telecommunications, banking, transportation, port and airport, and pipeline and energy sectors.
The post-Saddam Iraqi government should prepare to privatize government assets by creating government-held companies instead of ministries, issuing stock for these companies, and implementing guidelines that allow for the introduction of modern management practices and GAAP standards. The central government should hire consulting firms to execute comprehensive assessments of companies it wishes to privatize in order to itemize inventory, to take stock of assets and liabilities, and possibly to settle some of their debts in preparation for privatization.
In particular, the Oil Ministry and regional oil companies should be restructured to transform them into attractive government-owned oil companies as an intermediary stage before initial public offering (IPO). For example, one company may focus its work in the southern portion of the country, another in the central region (around Baghdad) and the Western desert, and the third around Kirkuk in the North. Three more companies may be created, one to operate the pipelines, the second to operate the refineries, and the third to develop natural gas.
The stages of preparation for privatization could include:
Taking inventory of assets and liabilities;
Exercising necessary efficiency-improvement steps, such as retraining and layoffs (with compensation);
Introducing GAAP and other modern financial and management practices;
Signing international conventions against nationalization of foreign investments, such as the Convention on the Settlement of Investment Disputes between States and Nationals of other States (the Washington Convention), the World Bank's Convention on the Multilateral Investment Guarantee Agency (MIGA), and the New York Convention on Recognition and Enforcement of Foreign Arbitral Awards (1958);
Issuing company stock;
Running the companies under new, transparent, and efficient management for at least two years; and
Taking companies on road shows and completing IPOs in major financial centers such as New York and London, and floating stock in international markets.
Given adequate implementation of each of these stages, the time frame for this privatization effort could be four to five years after the new government is installed by the people of Iraq. During this time, the U.S. government and the IFIs would have to ensure that the political will for privatization remains intact. Management and accounting consultants hired by the new Iraqi government would have to ascertain that the program is transparent and on track.
Moreover, after privatization, Iraq must demonstrate that it is not losing tax revenue and that the government's oil revenue is distributed among the regions equitably and efficiently, allocated to the worthy causes, and not wasted, looted, or abused, which could undermine the entire economic reform program.
Keep the budget balanced and inflation, taxes, and tariffs low.
International experience demonstrates that lower and flatter taxes (in the range of 20 percent or less), applied uniformly and in a non-discriminatory fashion, are an important investment magnet, especially for a country like Iraq that is rich in natural resources. Moreover, oil revenues will allow Iraq to keep the budget balanced and import tariffs low. Such a stable macroeconomic policy is likely to attract massive investment from a variety of sources, including the Middle East and Asia, not just the West, and boost income and employment.
Liberalize and expand trade, and launch an effort to join the World Trade Organization.
A study by the Council on Foreign Relations has demonstrated that a majority of Middle Eastern countries suffer from high import tariffs, red tape, and corruption--problems that depress GDP growth.33 Elimination of import taxes and tariffs and implementation of trade liberalization would provide an additional economic development engine for Iraq. The Bush Administration should provide technical assistance for trade liberalization and support Iraq's eventual membership in the WTO.
Conclusion
For the Iraqi people, structural economic reform and comprehensive privatization of government assets is necessary to stimulate recovery and provide stability after years of disastrous economic policies under Saddam Hussein. The winning strategy of structural reform and privatization also would benefit the industrial world, the United States and its allies, countries of the Middle East, and the developing world.
Iraq's return to global markets would allow for a more abundant and stable energy supply, a higher cash flow for the Iraqi people, and numerous business opportunities for the region and the world. Iraq's restructuring and privatization of its oil and gas sector could become a model for oil industry privatizations in other OPEC states as well, weakening the cartel's influence over global energy markets.
Ariel Cohen, Ph.D., is Research Fellow in Russian and Eurasian Studies in the Kathryn and Shelby Cullom Davis Institute for International Studies, and Gerald P. O'Driscoll, Jr., Ph.D., is Director of the Center for International Trade and Economics, at The Heritage Foundation.
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1. U.S. Department of Energy, Energy Information Administration, "Iraq: Country Overview," at http://www.eia.doe.gov/emeu/cabs/iraq.html.
2. Ibid.
3. U.S. Department of State, Office of the Coordinator for Counterterrorism, "Appendix B: Background Information on Terrorist Groups," Patterns of Global Terrorism-2000, April 30, 2001, at http://www.state.gov/s/ct/rls/pgtrpt/2000/2450.htm.
4. Energy Information Administration, "Iraq: Country Overview."
5. U.S. General Accounting Office, U.S. Confronts Significant Challenges in Implementing Sanctions Against Iraq, GAO-02-625, May 2002, at http://www.gao.gov/atext/d02625.txt.
6. Alix Freedman and Steve Stecklow, "Secret Pipeline: How Iraq Reaps Illegal Oil Profits," The Wall Street Journal, May 2, 2002.
7. Gerald P. O'Driscoll, Jr., Edwin J. Feulner, and Mary Anastasia O'Grady, "Iraq," in 2003 Index of Economic Freedom (Washington, D.C.: The Heritage Foundation and Dow Jones & Company, Inc., forthcoming).
8. Ibid.
9. Economist Intelligence Unit, "Country Report, July 2002."
10. O'Driscoll et al., "Iraq," 2003 Index of Economic Freedom.
11. Ibid.
12. Bill Gertz, "Tab to Rebuild Iraq, Kuwait Estimated at $100 Billion," The Washington Times, March 4, 1991. More recent estimates confirm this range.
13. Julian Borger, "Post-Saddam Iraq Will Cost You, U.S. Warned," The Guardian, August 2, 2002, at http://www.guardian.co.uk/bush/story/0,7369,767755,00.html. Lawrence Lindsey, Director of the National Economic Council, is quoted as estimating a cost for the Iraq war of between $100 billion and $200 billion. It is unclear what is included in that figure. See Bob Davis, "Bush Economic Aide Says Cost of Iraq War May Top $100 Billion," The Wall Street Journal, September 16, 2002, p. 1.
14. "Round Table on Declining Oil Prices and Its Political Consequences in the Middle East," Middle East Studies, Vol. 6, No. 1 (Spring 1999), pp. 5-36, at http://www.netiran.com/Htdocs/Clippings/Economy/990322XXFE01.html.
15. Energy Information Administration, "Iraq: Country Overview," p. 14.
16. "Iraq's oil reserves bigger than Saudi Arabia, Minister Says," BBC Monitoring, August 6, 2001, Al-Jumhuriyah Web site in Arabic, August 4, 2001.
17. "Iraq's Oil Industry: An Overview," Platts, at http://www.platts.com/features/Iraq/oiloverview.shtml.
18. "Iraq Building E&D Project List for Post-U.N. Sanctions Period," The Oil and Gas Journal, Vol. 95, No. 15 (April 14, 1997).
19. Energy Information Administration, "Privatization and the Globalization of Energy Markets," Energy Plug, at http://www.eia.gov/emeu/plugs/plpgem.html.
20. Madsen Pirie, "Privatization," Concise Encyclopedia of Economics, at http://www.econlib.org/library/encl/privatizaiton.html.
21. World Bank, "Privatization: Eight Lessons of Experience," Policy Views from the Country Economics Department, July 1992, at http://www.worldbank.org/html/prddr/outdeach/or3.htm. For the latest annual update on global privatizations, see Reason Public Policy Institute, "Privatization 2002: Putting the Pieces Together," at www.rppi.org/apr2002.pdf.
22. World Bank, "Privatization: Eight Lessons of Experience."
23. Ibid.
24. Ibid.
25. Ibid.
26. See information at Republic of Turkey, Office of the Prime Minister, Ministry of Privatization Administration, http://www.oib.gov.tr/.
27. Dr. Shafiq Ghabra, "The View from Kuwait," The Middle East Forum, March 18, 2000. For more on Kuwait, see U.S. Department of Commerce, "Commercial Overview," at http://www.arabchamber.com/arab-coutnries/Kuwait/commercial_overview.htm. See also International Monetary Fund, "IMF Concludes Article IV Consultation with Kuwait," Public Information Notice No. 00/27, April 4, 2000, at http://www.imf.org/external/np/sec/pn/2000/pn0027.htm.
28. See Energy Information Administration, "Saudi Arabia," January 2002, at http://www.eia.doe.gov/emeu/cabs/saudi.html. On Iran, see "Round Table," Middle East Studies, at http://www.netiran.com/Htdocs/Clpppings/Feconomy/990322XXFE01.html.
29. Mary Jordan, "Drilling Stakes at Mexico's Heart," The Washington Post, January 25, 2002.
30. The Russian government retained 38 percent of GAZPROM shares.
31. Energy Information Administration, "Russia," at http://www.eia.doe.gov/emeu/pgem/ch4a.html.
32. John C. Hulsman, Ph.D., and James Phillips, "Forging a Durable Post-War Political Settlement in Iraq," Heritage Foundation Backgrounder No. 1593, September 24, 2002.
33. Bernard Hoekman and Patrick Messerlin, "Harnessing Trade for Development and Growth in the Middle East," Council on Foreign Relations, 2002.
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