Iraq has devalued its local currency by a fifth as it battles a deep financial crisis triggered by the collapse in the global oil price.
The Central Bank of Iraq (CBI) announced on Saturday that it was scrapping an official exchange rate of ID1,182 to the dollar, and resetting the price the central bank will pay the Ministry of Finance for $1 at ID1,450 — a devaluation of more than 20 per cent. The CBI will sell dollars on to local banks for ID1,460.
Although the CBI is independent, the government has been pushing for this devaluation, Iraq’s biggest since 2003, to help it pay dinar-denominated salaries to about 3m state employees.
OPEC’s second-largest crude oil producer depends on hydrocarbon exports, and Baghdad’s revenues have been in effect cut in half by the oil price crash. That has left the government unable to cover its costs — the IMF forecasts Iraq’s fiscal deficit widening to 20 per cent of gross domestic product this year.
The slashed oil revenues are squeezing the CBI’s foreign currency reserves, which the World Bank has said had fallen to about $50bn by September, and forced the government to borrow heavily in order to pay salaries. Iraq’s public sector has trebled in size since the 2003 invasion, and the government is easily the country’s biggest employer. But it was late paying staff and pensioners in November, causing social unrest.
With the World Bank expecting poverty to rise sharply as its oil-dependent economy shrinks, war-fatigued Iraq’s financial situation is so grave that Iraq is in talks with the IMF for support.
Devaluation “sends a signal to the IMF and others about how desperate the situation has become and Iraq is ready to take some of these painful steps” towards more fiscal austerity, said Sajad Jiyad, a Baghdad-based fellow with the Century Foundation.
Continuing to protect an overvalued exchange rate has “been an indefensible position for a while,” added Mr Jiyad. “Financially, it doesn’t make a huge amount of sense to use up valuable cash reserves when the currency is not sustainable at that peg any more.”
But as Iraq relies on imports, weakening the dinar is likely to spark inflation. Prices have so far remained low partly because Iraq’s two biggest trade partners, Iran and Turkey, have had their own currency depreciations.
“For the general population there’s a worry that food prices will increase, we still import most of our foodstuff,” said Mr Jiyad.
Further erosion of living conditions is a potentially unpopular side-effect for Prime Minister Mustafa al-Kadhimi’s government, which took office after mass protests toppled the previous administration and has pledged fresh elections as early as June next year.
Finance minister Ali Allawi has warned that Iraq must take serious measures to reform its spending, which has ballooned as politicians used public hiring to buy votes and loyalty. The IMF this month advised the Iraqi government to use its 2021 budget to prioritise “reversing the unsustainable expansion of wage and pension bills, reducing inefficient energy subsidies, and raising non-oil revenues”.