Understanding Iraq’s Economy over the last 3 Plus Decades
Why hasn’t the Iraqi Dinar (official currency of the Republic of Iraq) grown as their wealth has over the last 10 years, since the US and its Allies removed one of the worst dictators since Hitler from power?
You could buy the Iraqi dinar in 2004 for 1477 per 1 US$dollar and today the official Central Bank of Iraq (CBI) exchange rate is 1166 per 1 US$, a difference of only 311 dinars per 1 US$dollar in 10 years. Most of this growth was from 2007 thru 2009 and from there it hasn’t grown in value except once.
As you can see it has appreciated in value but nothing compared to their Hard Currency Reserves. Since 2009 the reserves have gained the most, so just by looking at this in itself, it would make sense that it should be much higher.
The hard currency reserves alone have grown over $20 billion in less than two years.
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On top of this, the dinar has stayed unbelievably stabile in the local market until a few months back and in 2012 the CBI adjusted the rate by revaluing it another 4 dinars to where it is now from 1170, a token rate according to the Inspector General’s Report to the US Congress August 31, 2012.
I love the way they used the word token, a small part representing the whole, this is only a token of what we hope to accomplish.
Is the CBI intentionally keeping their own currency undervalued? Wouldn’t they want the Iraqi dinar to keep appreciating even higher since 2009? Now that they are out of 23 years of UN Sanctions shouldn’t they want to let it gain its real value again?
To answer these questions we need to look at the history of the economics of Iraq and do this we must look at what type of monetary system Iraq had before the UN imposed sanctions in 1990 (before Saddam chose to invade Kuwait). What monetary system they choose after the US and its Allies liberated them and how it really works.
From 1982 to 1998: Iraq officially maintained either a peg to the dollar or a managed float against the dollar. The problem with that though was foreign currency was not widely available at these rates to the general public.
This caused a black market not much different than what Iraq is undergoing now in which dollars were widely available only at high premium relative to the official posted rate.
2003: Even though Iraq was very similar to Kuwait and Saudi Arabia as being oil exporters their current situation was quite different because Iraq was still under sanctions from the invasion of Kuwait in post-War 1990.
So it only made sense that the most desirable monetary regime would differ from those countries. Remember that post-war Iraq was facing a very high debt load, some economist had this estimate as high as $300 billion.
It would take an estimated 35 years for Iraq to pay this off using 50% of the future export income. This debt was 3 times as much as Germany post World War 1, but as we know now, they have managed to reduce this debt to around $20 billion today.
But back then they had no idea that this could be done, so picking the right monetary regime was a must.
Other economic areas facing Iraq post-war was the cost of rebuilding their infrastructure, an even bigger burden on their finances. On top of all that, emerging markets like Iraq would face fiscal deficits and they tend to be accompanied by inflation in the long run.
Another thing I found in researching all of this is the fear that the CBI would give into pressure and further devaluing the dinar would lead to a loss of confidence in the fixed or managed peg regime and that would increase the nation’s cost to borrow money. That would accelerate budgetary issues and lead to inflation spinning way out of control and the collapse of their exchange rate peg as it was.
They needed to pick a monetary regime that would combat all these issues giving them time to work out of this big hole that the former regime had done to their country.
It is not uncommon that speculative attacks on exchange rate regimes
take place really made it necessary to find the right solution.
Iraq choose to maintain a peg under the control of a currency board. A currency board is a monetary regime that is commissioned to maintain a fixed exchange rate peg to the dollar but would also be in a basket of hard currency, such as SDRs (special drawing rights from the International Monetary Fund).
This is much different than a simple peg, with this board in place, the board is obligated to hold reserves that exceed outstanding domestic currency, this way they have the capacity to redeem all outstanding currency at the announced peg.
With fully backed currency board in place, the holders of the Iraq currency would know that as long as the government was committed to maintenance of the exchange rate peg, they would be able to convert their claims at the announced peg.
There is a cost to maintaining this board and Iraq would need to hold adequate foreign reserves which they have proven to do.
The other thing Iraq choose to do was establish an inflationary target regime along with the currency board which gave them an explicit inflation target as a goal to their monetary policy.
We have seen this because the IMF on more than one occasion told Iraq not to let their inflation go over 10% because they would not be able to make their move into their next phase. These were great but a great burden was placed on the government willingness to maintain it.
Maliki tested this system many times and thank goodness he didn’t achieve it and this in my opinion is why Dr. Shabibi was forced out, he wouldn’t give into Maliki wanting to use the reserves for infrastructure projects.
Folks, now we see why there are a lot of countries interested in the success of Iraq because they have a vested interest in the success of Iraq, they are a part of this currency board and they all will gain because of their holdings.
They were all a part of the debt reduction, they are all a part of the rebuilding of Iraq, the resources that they are extracting from Iraq and the ability to prosper along with the Republic of Iraq and the people of Iraq if they were successful and we know now that they have been and this is all contributed to the exchange rate regime they chose.
Understanding how the daily auctions work and the way they keep the dinars value down.
By educating myself and all of you of where Iraq was and how it got to where it is today, it is important to know that there was a master plan in keeping the value of the dinar down as long as they could until the time was right.
The bottom line, the Central Bank of Iraq regulates all of this by the way they control the flow of money through controlled auctions. By the way, this is not a normal way of monetary systems. They are running an artificial economy in my opinion and it has served its purpose well but it is coming to an end.
All over the world money can be easily exchanged into a number of currencies at any time and whenever someone needs too. The currency and its exchange rate are able to move freely depending on supply and demand, interest rates and so on but not in Iraq.
They use these auctions to keep their rate way undervalued, their inflation under control but all signs from their people, politicians and business owners are telling their government and the CBI that they want change.
Every day since 2004, the CBI has held an auction of which the US dollars are sold to banks, companies and traders in exchange for evidence of import and transaction receipts. The auctions aim to prevent market speculation and stabilize the exchange rate of Iraqi dinars to the US dollar.
This has worked well but now that they are getting ready to re-enter the international markets this too will end and all the supporting currency board members should be in a win, win position as well as us currency speculators.
The auctions have been a way of controlling the exchange rate of the IQD to the USD and the amount of USD circulating in Iraq. This helps transactions of imports, securities and so on.
By doing this the CBI control, the USD in direct relations controlling their own currencies value.
But Folks, we are seeing on a daily bases that this will change, we see that there is a since of urgency now to get it done, we read in January that the currency board of directors gave Turki the OK to implement currency reform when the time was right and according to his years of knowledge in this regard.
Will these auctions go on after Iraq changes their momentary regime once again to suite their new internationally status? I believe they will because all petrodollar countries must sell off the dollars.
This question will be the subject for another Blog for another time as my research on this is yet complete.
Once again I hope this Blog wasn’t to long for you to read and have a great day.