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Iraq

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Parliamentary elections are due next year and voters will be asking what the govern-ment has achieved. The answer is not as much as it should have. Even in the oil sector, pro-duction targets are being scaled back.

The security situation is also deteriorating, with 2013 the worst year for violence since 2008. Whether or not Nouri al-Maliki decides to stand again as prime minister, his State of Law Coalition party will face intense competi-tion from smaller parties that better under-stand the needs of individual provinces. It is likely the elections will prove inconclusive once again and a period of political impasse follows as it did in 2010, when it took 10 months to form a coalition government.

Thousands took to the streets in Anbar and Ninevah earlier this year

to demonstrate their frustration at the contin-ued inadequate provision of basic services in Iraq, some 10 years after the US-led inva-sion to oust leader Saddam Hussein.

The power crisis is the clearest symbol of the Iraq government’s failure to carry out much-needed infrastructure investment.

Generating capacity is currently less than half peak demand and much of the country has only intermittent access to electricity. This is despite government revenues rising rapidly on the back of oil production and billions of dollars spent on new turbines.

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Contents24 GovernanCe Prime Minister

Nouri al-Maliki’s party has lost support in key Shia provinces

26 eConomy Rapid economic growth is masking serious underlying challenges

28 enerGy Iraq will need to launch a huge drilling campaign to meet its production targets

31 IntervIew Majid Jafar, head of Crescent Petroleum, on Iraq’s energy potential

32 Power Private-sector participation will be crucial to resolve the power crisis

23 SR Cover.indd 23 05/09/2013 16:38

www.meed.com 6-12 September 2013 | MEED | 27

the non-oil sector, which is primed to play the main role in generating jobs for Iraqis, is a long-term project. Only by 2018 does the IMF expect the non-oil sector to exceed more than half of GDP, growing at about 5.6 per cent a year. The oil sector too faces a slow rehabilitation. Although the government had expected pro-duction to exceed Saudi levels by 2017, a more realistic assessment suggests Iraq can only expect output to grow by 400,000-500,000 b/d annually in the five years up to 2018.

The IMF says a solid institutional framework is needed to ensure oil revenues are put to pro-ductive use in a transparent fashion. The finan-cial system needs significant attention, given its state of underdevelopment. Total banking assets in Iraq are estimated at 77 per cent of GDP, com-pared with an average of 130 per cent in the Middle East and North Africa.

Elections are due in 2014, which may pro-vide some hope of dealing with the political paralysis that has done much to obstruct eco-nomic decision-making. “No major decisions in parliament are being passed in terms of budget spending, the oil law or the investment law,” says Najjar.

Investment crucialAlthough the next few years should see contin-ued economic growth, analysts warn that unless the authorities start using the money to build infrastructure and create a viable non-oil economy that can create jobs, the picture in three years time will not be as benign.

Once Iraq reaches its full oil production capacity, it will be more exposed to price fluc-tuations. “At the moment, it can offset the fluc-tuations by increasing production, but in a few years, the government will no longer have that option,” says Najjar. “My concern is that Iraq could end up like Saudi Arabia in the late 1990s, when the oil price went down to $10 a barrel and all the Gulf states had massive budget deficits. The picture is good now, but they have to think about tomorrow.”

Iraq has accomplished much in the past five years. At the height of the country’s bloody civil conflict in 2006, few would have expected the likes of Damac and the US’ Citibank to set up shop in Iraq. Low inflation, healthy fiscal and current accounts, and strong GDP growth are yielding significant gains for many Iraqis.

But unless the government is able to shake off the dysfunction that is preventing it from play-ing a more active role in supporting capital projects and engaging in structural reforms to lay the groundwork for a functioning private sector, Iraqis are likely to look back on this phase as a missed opportunity.

and yet we’re not doing anything with it. We’re still suffering electricity shortages and the unemployment rate is high.”

Reforms are needed. An IMF Article IV report on Iraq issued in July noted the coun-try’s high vulnerability to oil price volatility. With a budget breakeven oil price of $102 a barrel, it is more dependent on crude revenues than any other Middle Eastern Opec member state. The report stressed the need for Baghdad to build fiscal buffers and further strengthen the institutional framework, urging the author-ities to step up reforms to develop the private non-oil sector to help generate employment and inclusive growth.

Rationalising current spending – including public employment, energy subsidies, the Pub-lic Distribution System and transfers to state enterprises – is needed to create space for prior-ity social spending and public investment, and to accumulate buffers, said the IMF report.

Woeful performanceThat Iraq’s government must improve its eco-nomic management is widely acknowledged. “The government’s economic performance has been woeful,” says Sethna. “The good things that are happening are happening despite the government’s efforts, not because of them.”

The IMF provides ample evidence of the government’s underperformance. It says fiscal discipline weakened over the past couple of years, with poor budget planning and execu-tion, large off-budget spending (3 per cent of GDP in 2012), low investment execution rates, and serious deficiencies in fiscal reporting. The authorities have continued the practice of directing loans from state-owned banks Rash-eed and Rafidain to unviable state-owned enterprises, mostly to pay for salaries. The total stock of these loans reached 3.5 per cent of GDP at the end of 2012, says the IMF.

According to Sethna, the government is weighed down by a lack of institutional capac-ity. “Part of the problem is the lack of leader-ship and part of it is lack of capacity within the bureaucracy. They are overwhelmed and

don’t have the accounting or administrative skills to run large projects, so you end up with many ministries not spending their annual budgets. The cardinal rule of a bureaucracy is to spend money, otherwise you don’t get the budget again,” she says.

In the near term, Iraq needs to restore oil pro-duction back to the levels seen in the first half of 2013. Recent months have seen production and exports decline. Infrastructure and security problems have reduced output and could limit average production this year to below 2.9 mil-lion b/d, compared with a target of 3.7 million b/d outlined at the Opec meeting in December 2012. July marked the third straight month of declines in Iraq’s oil production and exports, with output at 2.8 million b/d.

“It’s clear that instability has increased and the clearest example of this is the 30-plus bombings of the Kirkuk-Ceyhan crude pipeline, which meant exports have declined for the first time in a couple of years,” says Sethna.

The decline in oil production has been one dampener on the economy, while the spillover effects from the Syria crisis – in the form of a flood of refugees and spikes in violence – will also be felt in Iraq. A further cause for concern is the downturn in religious tourism to the Shia holy cities of Najaf and Karbala, the chief cause of which is the sanctions on neighboring Iran, which is preventing large numbers of pilgrims making the annual journey. This has hurt employment in hotels, restaurants and the wider hospitality industry in the south.

Looking to the medium term, the government has a number of challenges to meet. Developing

“The good things that are happening are happening despite the government’s efforts, not because of them”Zaab Sethna, Northern Gulf Partners

iraq key economic indicaTors

GDP=Gross domestic product; f=Forecast. Sources: IMF; World Bank; MEED

2008 2009 2010 2011 2012 2013f 2014fPopulation (millions) 30.4 31.2 31.7 32.7 33.7 34.8 35.9

Nominal GDP ($bn) 131.6 111.7 135.5 180.6 212.5 233.3 253.7

GDP per capita ($) 4,328 3,575 4,278 5,529 6,305 6,708 7,074

Real GDP growth (annual change, %) 6.6 5.8 5.9 8.6 8.4 9 8.4

Total government debt (gross, % of GDP) 73 84 52 40 34 17 14

Current account balance (% of GDP) 12.8 -8.3 3 12.5 7 3.6 2.9

Inflation (%) 2.7 -2.2 2.4 5.6 6.1 4.3 5.5

26-27 SR Economy.indd 27 05/09/2013 16:36

www.meed.com24 | MEED | 6-12 September 2013

Special Report Iraq

Iraq’s recent provincial elections provide an insight into the potential outcome of the 2014 parliamentary vote, with Prime Minister Nouri al-Maliki’s party losing support in key areas

Sectarianism will remain a key influence in the 2014 elections, but Sunni leaders such as parliamentary speaker Osama Nujaifi, who leads the Mutahidun party, will need to main-tain their relations with the Sadrists and other Shia parties in order to oust Al-Maliki, should he choose to run for a third term.

Many hope that focusing the election on the government’s poor record in providing basic services for Iraqis could help ease the current sectarian tension, which is seen as the cause of increasing violence in 2013. However, this would take a major shift in the mindset of the country’s political elite. Regional dynamics, in particular the ongoing civil war in Syria, will also play a role in keeping the focus on sectar-ian divisions between Iraq’s Sunnis and Shias.

A report by the Brussels-based International Crisis Group (ICG), published in mid-August, sums up the challenge: “With the 2014 parlia-mentary elections on the horizon, the prime minister and the political class as a whole seem inclined to invest in identity politics as a way of shoring up their rank and file, suggest-ing a continuation of the same toxic dynamics in the months to come.”

Negotiating ceasefiresAl-Maliki’s approach of subduing unrest through the deployment of troops and using special forces to arrest political leaders and intimidate whole swathes of the population is unlikely to yield the results he is looking for. A better starting point, according to the ICG, is to engage with the new provincial councils to negotiate ceasefires.

“This would entail restraint on the part of government security forces that have been prone to escalation,” says the report, but the return would be a more cooperative attitude from local officials. Efforts will also be needed to restore the confidence of disillusioned Sunnis.

It remains to be seen whether the State of Law party will be able to turn the results around by the time of next year’s election. Notwithstand-ing the coalition’s fate, going by the long delays seen following the March 2010 poll, there is

Iraq’s provincial elections, held this year, provide an early guide as to how the 2014 parliamentary polls may pan out.

Prime Minister Nouri al-Maliki’s State of Law Coalition won majorities in nine out of 13 provinces. The Shia-led party took more than 1.7 million votes out of just over 7 million and maintained control of the holy city of Kar-bala and other areas in central Iraq. The elec-tions earned the party 109 seats out of 444, compared to the Citizen’s Alliance with 61 and the Moqtadr al-Sadr-led Liberal Coalition with 44 seats, according to the Independent High Electoral Commission (IHEC).

Al-Maliki lossesWhat appears to be success for the prime minis-ter must be put in context, however. His party unsurprisingly lost out in the Sunni-dominated Anbar and Ninevah provinces, where polls had been delayed following protests in March that Al-Maliki put down with force, as well as in Salahuddin.

More importantly, the party lost out in Najaf and Missan in the southeast of Iraq, where Shias account for more than 90 per cent of the population. In Missan, the Liberal Coalition won 90,000 votes against Al-Maliki’s 77,000. In Najaf, the loss was even greater: the State of Law Party won only 76,000 votes, compared with 118,000 for the Loyalty to Najaf party out of a total of 413,000 voters. This suggests local issues such as poor services were more impor-tant than national ideological issues.

The election results were certainly different to those of the previous provincial vote held in 2009, landing a major blow to the State of Law party, which had gained control of huge swathes of southern Iraq and Baghdad. Even in provinces where the party was successful, it faced tough competition. Al-Maliki’s support in the capital has dwindled, as well as in the key oil producing regions of Basra and Wasit. Bas-ra’s new governor, elected on 12 June, is Majid al-Nasirawi of the Islamic Supreme Council of Iraq (ISCI).

Part of the challenge to Al-Maliki’s domi-nance has come from the ISCI and Sadrists, two rival Shia parties that were previously allied to the prime minister. Despite having brought other Shia parties under its umbrella, the State of Law Coalition received just 34 per cent of Shia seats – much less than in previous polls.

Al-Maliki has also faced a challenge from smaller parties in the provinces where Sunnis are in a majority. Votes were split along regional, tribal and ideological lines. Protests have spread across Sunni Arab provinces since December last year, following the arrest of Rafee Issawi, the Sunni former finance minis-ter, and a number of his body guards, accusing them of corruption and terrorism.

The Sunni protest movement has evolved from calls for greater inclusion in governance and the repeal of the de-Baathification laws, to fully-fledged demands for autonomy. Only then, Sunnis believe, will they have equal rights. This solution, however, leaves out Sunnis living as minorities in other prov-inces, such as Baghdad, where they will face greater marginalisation.

AdAl MirzA

Al-Maliki loses support in Shia provincesgovernance

“al-Maliki’s support in the capital has dwindled, as well as in the key oil producing regions of Basra and Wasit”

key fact

Shias make up more than 90 per cent of the population in southeast Iraq

Source: MEED

24-25 SR Gov.indd 24 05/09/2013 16:37

www.meed.com 6-12 September 2013 | MEED | 25

Muthana

Basra

Dhi Qar

Missan

Wasit

Najaf

BabilKarbala

Anbar

Salahuddin

Kirkuk

Sulaimaniyah

Erbil

Ninevah

Dohuk

Qadisiyah

Baghdad

Diyala

IRAQ

TURKEY

SYRIA

JORDAN

SAUDI ARABIA

KUWAIT

IRAN

likely to be a major impact on government decision-making and spending.

That election did not yield a clear winner, with Al-Maliki and former prime minister Iyad Allawi almost tied. It took more than 10 months after that for Al-Maliki to form a coalition gov-ernment, during which project spending ground to a halt. The 2014 poll could suffer a similar fate with a similar knock-on effect on tenders and awards for infrastructure that Iraq requires to get its reconstruction going.

During his two terms, Al-Maliki has gone to considerable lengths to consolidate the levers of power in Iraq, assuming control of the min-istries of interior and defence, and targeting political opponents. Many have dubbed him a new dictator and attempts have been made to remove him from power. In June 2012, a politi-cal crisis unfolded in Baghdad as a coalition of parties tried to unseat Al-Maliki through a par-liamentary no-confi dence vote.

Relinquishing powerThe truest test of these claims of authoritarian-ism will be whether Al-Maliki is willing to let go of power at the end of his second term. The clearest sign of his desire to remain in the prime minister’s offi ce came on 25 August, when the Supreme Court struck down a law passed in parliament earlier in the year that had attempted to block his third term. It is unclear what argument was used in the court. Al-Maliki’s supporters claim that according to the constitution, there are no explicit term lim-its on the premiership.

“There is still a chance that Al-Maliki will run for a third term, although this will depend on whether the State of Law party or the National Alliance nominate him,” says an Iraqi commentator, who recently fl ed the country fol-lowing a kidnapping attempt, a stark reminder of its increasingly fragile security climate. “But this time he may face competition within the National Alliance. He will never win the sup-port of the Kingmakers [the Kurds] without get-ting rid of Hussain al-Shahristani [Iraq’s current deputy prime minister for energy affairs], even though the latter is his key partner in the State of Law party. Hence, the recent bickering between the two on lack of electricity services.”

The support of Iraq’s Kurds will be critical for the prime minister either way. They have so far refused to join a Sadrist-led coalition against him and his relationship with Kurdish president, Nechirvan Barzani, appears to be improving. Al-Shahristani, however, remains a bugbear due to his disregard for Kurdish oil deals and Iraq’s woeful performance in the provision of electricity.

In June 2013, Iraq’s parliament passed a number of revisions in the 2008 Provincial Powers Law, granting new powers to governorates. Among the most important revisions is Article 7-4, which states specifi cally for the fi rst time that a gover-norate’s policy should prevail in any area of shared competency with the central government. It also hands the governorates greater power in picking the top offi cials for government depart-ments. Currently, this is limited to choosing gover-nors and councils.

Article 44 of the constitution states a governo-rate’s revenues must be specifi ed by law, rather than just through Iraq’s annual budget alloca-tions. This includes the $5 payment to the gover-norate for each barrel of oil produced in its terri-tory (or $5 a barrel of oil equivalent in gas). The Basra governorate, for example, could earn more than $10m a day from its share of oil production. This adds up to more than $3.5bn a year in addi-tional revenues, a portion of which can be spent on capital projects to address power, water and housing shortages.

The new legislation will go some way to allay concerns about the increasingly centralised power enjoyed by Prime Minister Nouri al-Maliki

in Baghdad, which has been a major cause of consternation for the governorates that complain about their lack of input in decision-making affect-ing their populations. There are also potential new taxes that the governorates can levy on inter-national companies.

The concessions have been seen as a safe-guard against calls for the creation of more fed-eral regions like Iraqi Kurdistan. However, a number of analysts have argued that the law effectively creates a confederation system, with the governorates now having more say in spend-ing and project planning. It is unclear how this will be applied to the oil and gas sector, which until now has largely been the sole preserve of Baghdad. In any case, Al-Maliki is intent on chal-lenging the amendments in the Supreme Court.

The prospect of Iraq disintegrating into com-peting provinces battling over a diminishing cen-tral budget will only exacerbate existing sectarian and ethnic tensions. Its long-term future as a sin-gle, unifi ed entity is also open to doubt since many Kurds still aspire for full independence. However, for now at least, Kurdish authorities continue to speak of their administration within the terms of a federal Iraq.

PROVINCIAL LAW REVISIONS EMPOWER GOVERNORATES

IRAQ PROVINCIAL ELECTION RESULTSState of Law Coalition

Mutahidun

Diyala’s National Coalition

Liberal Coalition

Loyalty to Najaf

Brotherhood and Coexistence

Alliance of Iraqi People

Other/not voted

Source: Independent High Electoral Commission

24-25 SR Gov.indd 25 05/09/2013 16:37

www.meed.com26 | MEED | 6-12 September 2013

Special Report Iraq

While Iraq’s economy has been expanding rapidly on the back of rising oil production, the lack of investment and non-hydrocarbons development is storing up trouble for the future

Prime Minister Nouri al-Maliki’s govern-ment clearly has much to be positive about. Below the surface, however, deeper concerns emerge about Iraq’s economic management and the longer-term prospects of realising its full potential.

The China-paced GDP growth is a case in point; the near-double digit annual increases look impressive, but in reality they largely reflect the fact that the economy is more or less starting from scratch. The huge spurts in growth – the 8.4 per cent last year and the 9 per cent this year forecast by the Washington-based IMF – say more about the hollowing out of the Iraqi economy in the latter years of the Saddam Hussein regime.

“Basically, you have a country of 33 million consumers who have been cut off from the out-side world for a generation,” says Zaab Sethna, founding partner of Baghdad-headquartered investment firm Northern Gulf Partners. “Their needs have never been met before.”

Troubling signsThe growth obscures more troubling signs that could leave a lasting mark on the economy. “The non-oil industry is almost non-existent, as is the agriculture sector,” says Suha Najjar, a partner at UK-headquartered investment adviser Akkadia Partners, which is preparing to launch an investment fund targeted at Iraq. “There is religious tourism and pockets of investment in the south and the north, but a government this rich in revenues should have done much more to invest.”

One significant challenge is the dominance of current expenditure in the state budget. Wages and subsidies constitute almost 70 per cent of budget outlays, which is hardly surpris-ing given that the public sector accounts for more than 50 per cent of Iraqi employment. This leaves little for investment spending.

“If we were spending what we should be spending on infrastructure, our external bal-ances would look a bit less healthy,” says Naj-jar. “This confirms the negative aspect about Iraq’s economic story: we have so much money

A cursory glance at the latest figures would suggest all is well with Iraq’s economy. Growth this year is fore-cast at a healthy 9 per cent, inflation

is down by half since 2011 to just 3.6 per cent, and foreign reserves held at the central bank stand at a robust $70bn. A fiscal surplus of 4 per cent of gross domestic product (GDP) recorded in 2012 reflects the revenues that have resulted from an increase in oil exports over the past year.

To put this in a global context, Iraq is on course to beat China as the world’s fastest-growing economy in 2013 – a feat it also achieved last year.

High confidenceOn the ground, residents of Baghdad, Basra and Najaf can feel the impact of an expanding economy, with vast Gulf-style malls opening up and large middle-class housing develop-ments being rolled out. Security problems remain a challenge and electricity shortages continue to frustrate, but consumer spending is on the increase and business confidence is gen-erally high. Even Western banks are knocking on Iraq’s door, looking to establish a presence in a market where 10 years ago, few were will-ing to tread.

The entry of major foreign investors such as Dubai developer Damac, which is building a 26-storey luxury residential tower in Baghdad – the first of its kind in Iraq – along with foreign branded retail outlets and cinemas, suggests a change in the country’s fortunes.

The root cause of this is Iraq’s hydrocar-bons bounty. Even if underutilised – as many critics contend its oil and gas sector is – production of more than 3 million barrels a day (b/d) of oil still gives the country a major advantage in generating income that will drive broader economic activity. Whereas other post-conflict economies such as Leba-non and Vietnam were hamstrung by massive debt burdens, Iraq’s ability to sell more than 2 million b/d of its oil from the outset has left it deficit-free.

Furthermore, with the agreement of the Paris Club sovereign debtors, much of Baghdad’s debt owed to foreign countries has already been written off. The government is under no pres-sure to borrow. Rather, it faces a problem in dis-bursing the funds that it has – a prominent fac-tor behind the repeated budget surpluses.

James Gavin

Rapid growth masks challengesECONOMY

“If we were spending what we should … on infrastructure, our external balances would look a bit less healthy”Suha Najjar, Akkadia Partners

kEY fACt

Iraq recorded a fiscal surplus of 4 per cent of gross domestic product in 2012

Source: MEED

IrAq StAtE ExpENdIturE

(Idbn)

e=Estimate; f=Forecast. Source: IMF

140

120

100

80

60

40

20

0

2010

2011

2012e

2013f

2014f0

20

40

60

80

100

120

140

Current expenditure Investment expenditure

26-27 SR Economy.indd 26 05/09/2013 16:36