The Iraqi Economy’s Huge Potential

By Takema Sakamoto

Based on its rich natural resources and huge market potential, Iraq’s economic prospects seem promising.

Its population, currently 32 million, is forecasted to increase by over 3 percent annually, which will create a larger number of future consumers. Its gross national income (GNI) per capita, currently $2,640, is estimated to grow by around 10 percent per year on average. Spending power is expected to grow rapidly.

In order to service this large future market, foreign commercial activities have skyrocketed from around $3 billion in 2007 to nearly $60 billion in 2011. In other words, the amount is twenty times larger than four years ago. Although risks still remain, the security situation has been generally improving, compared with the most chaotic period from 2006 to 2007.

The oil price, hovering at a relatively high level, is also contributing to the expansion of Iraq’s economy. The Iraqi government’s budget for 2012 assumed that oil would be sold for $85 per barrel, but the current market price is over $100.

To date, Iraq is achieving a relatively strong performance of oil production and export. Recently, Iraqi oil production reached over 3 million barrels per day. That figure is higher than Iran’s production, and Iraq has now become the second biggest oil producer among the Organization of the Petroleum Exporting Countries (OPEC), just behind Saudi Arabia.

In addition, oil export facilities in Basra have been completed or are approaching completion. Recently, Iraqi oil exports amounted to approximately 2.6 million barrel per day. Thus, the Iraqi government is receiving oil revenues to fund its budget as expected.

Taking into account all of the above, Iraq is deemed as one of the world’s economies with the highest growth potential today.

The Fragility of the Iraqi Economy

However, at the same time, it is critical to underscore that Iraq’s prosperity is not predetermined, and the country is now at a crossroads.

Enormous budgets for investment, especially for infrastructure, are essential, but the Iraqi government in recent years has faced growing budget deficits. (For example, at the time of drafting each year’s budget, the deficit was envisaged at approximately $13 billion for 2011, $15 billion for 2012, and $19 billion or more for 2013.)

According to Dr. Sami al-Araji, the chairman of the National Investment Commission (NIC), Iraq needs up to $1 trillion over the next 10 years to rebuild its crumbling infrastructure and battered economy. But the question looms: How can the government of Iraq mobilize such gigantic sums of money and build its capacity to execute such a large budget for infrastructure investments?

The volatility of oil prices needs acute attention, too. As we have observed, Iraq has enjoyed the high price of oil recently, but the price fluctuates. In 2009, Iraq had a bitter experience due to the sudden and rapid depreciation of oil prices. The economy suffered severe damage, and the Iraqi government was forced to seek emergency financial support from the International Monetary Fund (IMF) and the World Bank.

In addition, oil dependent economies often face their own unique challenges, such as ‘Dutch disease’ (the decline in competitiveness of non-oil tradables following real exchange rate appreciation caused by the rapid infusion of new income into the country) and ‘the resource curse’ (poor economic governance and management because governments are heavily dependent on resource revenues rather than on taxes from citizens, resulting in a weak chain of accountability between citizens and governments). In short, Iraq’s reliance on oil revenues can be seen as both a blessing and a curse.

A report compiled by the U.S. Agency for International Development (USAID) for the Iraq Prime Minister’s Advisory Commission (PMAC) in October 2012 clearly warned that over-dependence on oil revenues has the potential to create significant economic and market distortions. Oil wealth may hit non-oil exports as a result of exchange rate valuation. Furthermore oil wealth may mask costly economic inefficiencies, including an oversized public sector, and it can create distortions and perverse incentives. The report dared to state that Iraq’s growth path is on a dangerous trajectory that has significant political, economic and societal risks.

Iraq’s Struggle for Private Sector Development and Economic Diversification

Beyond the oil sector, the Iraqi government is struggling to attract private sector investment and to diversify its economy by promoting sectors such as agriculture.

Currently, Iraq is ranked 165 among 185 countries and economies in the World Bank’s ‘Doing Business’ report, which assesses economies in 10 areas of business regulation. If one considers other factors not included in the report (such as service delivery on the ground, security constraints and corruption), Iraq’s ranking might be even lower. It is also worthwhile noting that Transparency International’s 2012 corruption perceptions index ranked Iraq at 169 among 174 countries, although the Iraqi government has complained about the ranking in the past.

In order to promote sustainable development, the Iraqi government must take steps to improve its business environment in order to attract reputable foreign companies. Revitalizing the private sector and attracting foreign investment is also crucial from a job creation perspective. Iraq’s unemployment rate, which is calculated at 16 percent in total, is over 35 percent for youth. Employment opportunities are needed to avoid social disruption and to offer economic prospects.

And the necessity of economic diversification is also apparent when one takes into account the risks of oil dependent economies mentioned above, such as ‘Dutch disease’ and ‘the resource curse.’ Job opportunities in the oil sector are limited.

So what is the most promising sector other than oil? Many believe that the agricultural sector holds the greatest potential for broad-based growth.

There are many reasons why agricultural sector shows promise, including its job absorption capacity, current GDP share, the importance of rural development to reduce economic inequality, and the significance of food security in the MENA region. Also, one must not forget Iraq’s shining history in agriculture, as part of the Fertile Crescent and mankind’s first bread basket. Hence, the agricultural sector is a good place to start to encourage economic diversification.

International Partnership’s Role to Support a Brighter Future for Iraq

In Iraq, the Japan International Cooperation Agency (JICA), the Japanese government’s agency in charge of supporting developing countries, has been acting as a close partner to the government.

To stimulate foreign direct investment and support private sector development, JICA has been working to improve the business environment, through the provision of soft loans and various advisory services. The main business obstacles can be attributed to a shortage of infrastructure and institutional/ human capacity, as well as a lack of internationally standardized business procedures. Belated payments along with vague bidding and contracting operations are the biggest risks pointed out by many private companies.

JICA has also been working jointly with the Iraqi government on economic diversification, especially in the field of agriculture. In dry parts of the country, effective water usage remains the most critical issue. To address this challenge, the establishment of water users associations, promotion of water-saving irrigation, and rehabilitation of devastated irrigation systems are required. In this context, JICA has provided advisory services, such as sharing know-how on both technical and management skills, and physical support for the procurement of goods and construction of irrigation systems to assist the Iraqi government.

Iraq remains an important player in the global economy. Both in terms of its contribution to world energy markets and its role in the Middle East, the international community has a vested interest in seeing Iraq succeed. While the country faces significant challenges, these obstacles must be tackled collectively, with support from the international community, to build a brighter future for Iraq and the world.

Takema Sakamoto Takema Sakamoto, Chief Representative of the Japan International Cooperation Agency (JICA) Iraq Office