Iraq’s Failure To Diversify Its Economy

Iraq’s economy has huge potential, but also faces major pitfalls. The country is rich in oil for example, but it only provides money. That revenue needs to be used in a strategic plan to diversify the economy, so that it can have sustainable growth. Otherwise Iraq can fall victim to the resource curse where the economy goes up and down with the international price of oil, while other industries are pushed out. That can also undermine its developing democracy, because it breaks the social contract between the public and the government since the latter does not need the former with all the cash generated from the energy sector. Baghdad has said that it wants to broaden the economy, and develop its private sector, but it is making very little progress so far.

Iraq shows all the signs of falling victim to the resource curse (World Tribune)

Iraq faces two immediate dilemmas, overcoming the resource curse and the state’s leading role in the economy. Democracies put pressure on their leaders to create an economic system that improves living standards. Resource rich countries like Iraq lack that social contract, which makes them less accountable and representative, something known as the rentier thesis. There is little taxation that connects the public with the government, because almost all the state’s revenue comes from the energy sector. In Iraq, 90% of the government’s earnings, and 60% of the Gross Domestic Product come from oil. In comparison, taxes only provide 2% of state revenue. Oil is also capital and technologically intensive, which means that it provides very few opportunities for employment. That leaves people to turn to the government for help. The rent-seeking thesis argues that the political elite uses the vast oil wealth available to it to create jobs, which are distributed in patronage systems to stay in power. Iraq has one of the largest public workforces as a percentage of overall employment in the entire world at 43% in 2008. In 2012 there were just under 4 million people working for the government. Many of these workers are unskilled and unproductive, but maintain their positions, because politicians want their votes. That means many economic decisions are subservient to short-term political gains. Every Iraqi dinar spent upon this vast public sector is money that could be used to develop the country, and in turn hampers the growth of a market economy. Iraq is thus a perfect example of the resource curse with its oil dependency and large state.

The Iraqi government is aware of these problems, and has a strategic plan that is based upon diversification. The National Development Plan for 2010-2014 calls for rapid and sustainable economic growth, developing non-energy sectors of the economy, encouraging the private sector, decreasing poverty, and increasing services. To achieve these goals, the strategy calls for 30% of each budget to go towards capital investments. This has been achieved with the recently passed 2013 budget setting aside 40% for capital outlays. The various ministries and offices have often not been able to spend all of this money however. The development strategy also envisions large private investment. In 2010 there was supposed to be 15.1 trillion dinars and 17.4 trillion in 2011. In that first year, Iraq only received 3.9 trillion in private investment, and 5.5 trillion the next. Part of this is due to politics. The National Investment Commission for example, was created specifically to facilitate foreign capital entering Iraq, but it has limited power due to interference from various ministries. Companies for example have to go through a myriad of offices to get permits to even start work in Iraq. That is why the World Bank has consistently ranked Iraq as one of the worst places in the world to do business in. More outside money is flowing into Iraq. New businesses are appearing as well. That is happening despite the government however, which remains a major impediment to market reforms. It is for that reason that the private sector is so small in Iraq.

Instead, officials have consistently turned to the state to grow the economy. The government is in the lead of almost all of Iraq’s development plans. Its refineries for example, do not meet demand. There is no move to privatize them however, they have had problems attracting foreign interest, and they are still run by the government. The Electricity Ministry wants to meet demand by 2015, but it too has not been able to garner outside investment, which means the Ministry will be the sole financier. The Housing Ministry has done a better job getting companies involved in its strategy, but it remains in charge of planning. Reforms in the Transportation ministry have not happened, and it maintains monopolistic control over government shipments of commodities. It doesn’t have enough trucks for all of the work it does, which requires it to contract out with private companies. The Ministry’s solution to this problem is to buy more trucks, so that it can remain in control. Iraq has had a state-run system for decades. Ministry officials therefore are used to being in charge, and are unwilling to let go. They have resisted reforms, and are an impediment to the National Development Plan.

Iraq has systemic constraints on its economy. The two most pressing are its dependence upon oil and a government that is reluctant to change. Unfortunately, the recent growth of the petroleum industry may mean that officials are becoming less interested in building up the private sector. With huge revenues being generated from the energy field the Iraqi elite and bureaucrats may simply feel that they can continue to rely upon the government. They will therefore be even more reluctant to liberalize the economy. Until there is a real commitment by the leadership to change, there will only be limited growth of free markets. The United States Agency for International Development recently said that Iraq was at a crossroads in its development. If it doesn’t start making smart economic decisions it will continue falling victim of the resource curse.

SOURCES

Ajrash, Kadhim and Razzouk, Nayla, “Iraq’s Oil Law May Be Pushed Till End of 2012, Ghadhban Says,” Bloomberg, 2/2/12

Joint Analysis Policy Unit, “Iraq Budget 2013, Background Paper,” Inter-Agency Information and Analysis Unit, January 2013

Looney, Robert, “Can Iraq Overcome the Oil Curse?” World Economics, January-March 2006

Special Inspector General for Iraq Reconstruction, “Quarterly Report and Semiannual Report to the United States Congress,” 7/30/12

- “Quarterly Report to the United States Congress,” 10/30/12

Tijara Provincial Economic Growth Program, “Assessment of Current and Anticipated Economic Priority In Iraq,” United States Agency for International Development, 10/4/12

World Bank, “Doing Business in the Arab World 2012,” 2012