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Credibility, Priorities and Sustainability of Budget 2023-2025 of the Government of Iraq

July 27, 2023

The Government of Iraq has for the first time in history passed a 3-year budget for fiscal years 2023, 2024, and 2025. Law 6 of 2019 had a provision to this effect but wasn’t utilized thus far. This is indeed a very big achievement for the government and the country which will no longer have to wait for the budget to be passed by the House of Representatives before incurring expenditure. This is a game-changer since Iraq has not only been slow at passing budgets, but three out of the past nine years saw no budget passed at all – in 2014, 2020, 2022.

However, the budget law does not make an estimation of resources for the 3-year period. Nor does it make a projection of the level and composition of public expenditure. The spending agencies do not have the assurance about the resources they are likely to receive over the medium term. Neither has their inputs sought in preparing medium-term budget for their ministries. Hence, this Budget remains primarily an annual budget of the fiscal year 2023, more than half of which has already passed.

The budget for 2023 stipulates an Expenditure of 199 trillion Iraqi Dinar (IQD) ($153 Billion) and Revenues of 135 trillion IQD ($104 Billion), with an overall projected deficit of 64 trillion IQD ($49 Billion). While 87 percent of the total revenues are oil revenues, 13 percent are non-oil revenues including from tax, customs, and duties. Of the total expenditure, 75 percent is proposed to be on current expenditure and 25 percent on investment expenditure.

The Budget 2023 has made a specific allocation of 49.4 trillion IQD ($ 38 billion) for investment programs. This is a major increase from the previous years’ allocations for investment spending and shows the government has a high priority for the government investment program projects, licensing contracts, regional development projects, port projects. It has made a significant provision for the projects that are financed by foreign loans. The government has also made a significant allocation for the Iraq Fund for Development, Poverty Alleviation Strategy, and Poverty Projects. It is unclear what the basis of this allocation is. There is no evidence of the investment budget being linked to the national development priorities laid out in the National Development Plan.

Among the current expenditures, the public sector salaries comprise the most (39.5 percent), followed by social welfare (18.7 percent), grants, subsidies, and foreign assistance (16.2 percent), and goods and services (14.7 percent). Owing to the pressure from the employees and public at large, the government decided to add 607,650 new employees to be funded by the state budget. This is a significant 21.6 percent increase over 2022 level and leads to a total of 3,426,822 employees in the public sector. This has increased the public sector wage bill to 59 trillion IQD ($45.4 billion), which is 29.6 percent of the total budget. This when combined with Pension, the total spending on salary and pension become 75 trillion IQD ($57.7 billion) which is 37.6 percent of the total budget.

The Budget Law does include any information on sector-wise allocation of budget. Nor has the Ministry of Finance published the allocations by functional classifications. It is, nevertheless, clear that government lays highest priority on the energy sector, followed by Services, Defence, and Municipalities. The allocation on Health and Education is far below the needs and international benchmarks.

The budget proposal includes a budget allocation to the Kurdistan Region of Iraq (KRI) of 16.2 trillion IQD ($12.4 billion), representing 8.1% of total spending, while its contributions are 13.3 trillion IQD ($10.2 billion) from oil export revenues. Tensions between KRI and the federal Government of Iraq has erupted over Articles 13 and 14 of the Federal Budget Law 13 of 2023 which detail the management of the Kurdistan Region’s oil income, and potentially impacts sovereignty of KRI from their perspective.

The 2023 budget is an expansionary budget. The estimated total expenditure of 199 trillion IQD ($153 billion) is a 70 percent increase over the highest ever level of expenditure reached in 2022. However, the budget execution in the current fiscal year, until April 2023, has been only 30.9 trillion IQD ($23.8 billion), which is only 15.5 percent of the total budget estimate (the execution of investment budget is only 7.3 percent in contrast). Also, the average budget execution during the past 8 years has been only 74 percent. This reflects the poor absorption capacity and a very low probability of achieving the 2023 budget estimate for expenditure.

The estimation of oil revenues, on the other hand, is realistic based on its production capacity, international price and the exchange rate assumed in the budget. It is based on oil exports of 3.5 million barrels per day, whereas Iraq’s production capacity of crude oil is between 4.5 million to 5 million barrels per day. The oil price is set to $70 per barrel, whereas the current price is $75.42 per barrel, and the average price during past one year has been $80.11 per barrel. The conversion rate of 1300 Iraqi Dinars (IQD) to $1 is assumed, whereas the current exchange rate is 1$ equals to 1309 IQD and the average rate over the past year has been 1$ equals to 1458 IQD.

However, the estimation of non-oil revenues of 17.3 trillion IQD ($13.3 billion) seems unrealistic as it sees a sudden jump of 106 percent from 8.4 trillion IQD in 2022 and is the highest ever in history. The estimated 277 percent increase in the customs tariffs and 45.9 percent in Direct Taxes look highly ambitious and unrealistic. There is no mention of a domestic resource mobilization strategy in Budget Law that explains how this increase would happen.

Based on the reality check on the achievement of non-oil revenues targets set in the budget and executing the expenditure budget, especially the investment budget, and based on Iraq’s absorption capacity reflected in its budget execution in the past, the budget looks highly incredible.

Article 6 (iv) of the Federal Financial Management Law number 6 of 2019, sets out the upper limit of fiscal deficit at 3 percent of the GDP. The estimated budget deficit in Budget 2023 is 64.4 trillion IQD, which is 18.7 percent of the GDP (with the non-oil primary fiscal deficit being 78.3 percent of the non-oil GDP). These break the deficit ceiling set by law and are the highest ever fiscal deficits in history caused by an unprecedented expansionary budget. It will be very difficult to sustain them with the given level of resources. Considering the volatility of international oil prices, the risk to sustainability is even higher. Following the fiscal rule targeting a gradual reduction of the non-oil primary fiscal deficit and building a fiscal stabilization buffer would help to carefully balance the goals of improving resilience to oil price volatility and long-term sustainability.

Iraq’s public debt had declined sharply from its 2020 peak, with the debt-to-GDP ratio more than halved between 2020-22. This drastic improvement was owed to a range of factors including sustained high oil prices and rising domestic inflation. Following a 25-percentage point drop in 2021, the government debt-to-GDP ratio declined further to 43 percent of GDP in 2022. However, an unprecedented budgetary deficit of 18.7 percent of the GDP in 2023 will have a significant impact on the debt sustainability. In addition to a high public debt, guarantees and other contingent liabilities pose significant risks to debt sustainability. Service guarantees, mostly in the electricity sector, were estimated at over $21 billion in 2017 (7.8 percent of the 2022 GDP) but were not included in public debt.  The state budget of 2023 includes several guarantees including mostly on the electricity sector.

Iraq is among the countries most vulnerable to climate change shocks both in physical (temperature rise, water scarcity, extreme events) and financial terms. Iraq’s dependence on oil revenues would leave it vulnerable to new economic risks amid the global transition towards a decarbonized world, wherein oil as a commodity loses its role in fueling the global economy. As part of the Paris Agreement, Iraq has made unconditional and conditional commitments to reduce greenhouse gas (GHG) emissions by 1-2 and 13 percent, respectively, relative to the business-as-usual baseline. The bulk (over 90 percent) of Iraq’s current GHG emissions originate in the energy sector, and over a half of them represent fugitive emissions due to gas flaring.

Preliminary estimates of the cost of achieving Iraq’s adaptation and mitigation goals point to significant investment needs.The World Bank’s Country Climate Development Report (2022) estimates that $223 billion in total investments will be needed by 2040 to address climate adaptation and mitigation challenges while closing the development gap. The Budget 2023 is silent on government’s priority to climate change and to what extent it has included a spending provision to mitigate and adapt to climate change as per its commitment in the NDC in 2021.

The House of Representatives has made several changes to the Budget presented by the government in an unprecedented manner. Of major significance is the addition of 220,000 new job positions in the government sector and removing ceilings on several job categories which will lead to an increased burden on the exchequer. The second major change is the addition of new investment projects to the budget as per proposals of the Members of the House of Representatives. This alters investment priorities set by the government and adds to the financial burden on limited resources. The Prime Minister has moved a petition in the Federal Supreme Court to quash the changes made in the budget by the House of Representatives on grounds of their unconstitutionality and government’s unaffordability. The matter is still pending a hearing in the Federal Supreme Court.

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