C O N F I D E N T I A L SECTION 01 OF 02 BAGHDAD 003453

SIPDIS

E.O. 12958: DECL: 08/23/2015
TAGS: EFIN EPET PGOV IZ
SUBJECT: MINISTER OF FINANCE ON GOI 2006 BUDGET AND 2005
SUPPLEMENTAL

Classified By: Deputy Chief of Mission David M. Satterfield for reasons
1.4 (b) and (d).


1. (C) Summary. On August 21, Finance Minister Allawi told us
how he plans to structure the GOI 2006 budget and address
food and fuel price subsidies within that budget. Allawi has
withdrawn his request for a 2005 supplemental, and will use
emergency funding to meet 2005 spending needs. He plans to
discuss these issues with the IMF and with us at next month's
mini-JCRED meeting in Washington. End summary.


2. (C) Mission Iraq's Treasury Attache, A/ECON Counselor, and
IRMO/Financial and Fiscal Affairs Advisor met with Finance
Minister Allawi and Chief of Staff Al Kateeb on August 21 to
discuss the Joint US/GOI Financial and Fiscal Task Force, the
JCRED to be hosted by the U.S. Treasury in Washington, DC on
September 22, the 2005 GOI supplemental budget, and the 2006
GOI budget. The Treasury Attache told Allawi of Washington
impressions that there seems to be flexibility in the IMF's
position on subsidy reform. The Attache also said the Fund
plans to discuss certain aspects of the Article IV
consultations at the next meeting in Amman, as well as the
2006 budget.

No 2005 Supplemental
--------------


3. (C) Regarding the 2005 supplemental, Allawi said he has
rejected the idea of putting it forward without subsidy
reforms. The government does not have the will or the desire
to undertake such reforms, he said. Consequently, it is
better to focus on the '06 budget than the '05 supplemental.
The Ministry of Finance will manage the expected deficit
through increased cash flow from higher oil prices, increased
exports through the northern pipeline, and reduced capital
spending. He is prepared to meet the government's funding
requirements for the remainder of '05 by allowing ministries
to reallocate funds within their budgets, by reallocating
funds among ministries, and by drawing from a $1 billion
emergency fund. Acknowledging that the Ministry of Interior
will need additional funding for salaries, Allawi said he is
willing to provide the necessary funding.

Preparing the 2006 Budget
--------------


4. (C) Allawi said the 2006 budget process has begun. A
draft should be ready for the IMF meeting, but the definitive
2006 budget will not be ready by the October 10 deadline for
submission to the TNA. He stressed that the budget process
needs to be top down rather than bottom up and that the
budget should be a strategic document. The oil sector will
receive additional funding in 2006 since it is the single
largest source of GOI revenue. The government needs to focus
on revenue generation and subsidy reform. He will propose a
plan to repeal fuel and other subsidies concomitant with the
establishment of social welfare safety net. Another measure
will be the direct distribution of $1 billion to the
provinces based on population in lieu of mandatory revenue
sharing. As part of a second phase to create regional
development banks, the GOI will invest $500 million in the
banks over three years. The Ministry of Finance will propose
that the 2006 capital budget of all ministries except the oil
and the security ministries be augmented by 15 percent
relative to 2005. Since Allawi realizes that USG funding of
the security forces will decrease in 2006 and that the GOI
will have to provide the required funding, funding for the
Ministry of Oil will rise substantially. Allawi expects most
ministries will continue to underspend their capital budgets
in 2005, thus allowing the unspent funds to the tune of a
billion dollars to be transferred to the Ministry of Oil in

2006.

A Long-Term Strategy for the 2006 Budget
--------------


5. (C) Allawi said he wants to reduce government subsidies
beginning with the 2006 budget. He plans to introduce
subsidy-spending limits of 85 percent of 2005 actual
spending, the goal being 75 percent of actual 2005 spending.
This reduction is intended to be the first of several phases
within a four-year plan. He suggested that the GOI will
establish a safety net for the disadvantaged during the
period. Expected investment in the oil sector will lead to
the export of 1.8 million b/d beginning in 2006 and 2.2
million b/d by the end of 2006. Allawi said he wants to
promote foreign investment in the sector to increase
production from existing fields and new fields. The plan to
do this envisions technical assistance and training, as well
as capital.


6. (C) Allawi shared an informal draft strategy paper on the
2006 budget with Mission officials (emailed to Treasury and
NEA/I/ECON). The strategy would raise or impose new taxes on
mobile phones, automobiles, firearms, as well as increase
customs duties from 5 percent to 10 percent. Allawi said he
intends to improve the capability of the Ministry's personnel
to collect taxes, fees and duties. Its capacity-building
program foresees hiring of foreign nationals to fill key
posts within the ministries, mentoring of Iraqi personnel,
and creation of an academy to provide formal management
training.

7. (C) Allawi said he is committed to the GOI's honoring its
international agreements. He is prepared to begin debt
negotiations with the UAE, Kuwait and Saudi Arabia. He
prefers to negotiate with the Saudis after he has completed
the arrangements with the UAE and Kuwait.


8. (C) Allawi also said he believes "the budget is a major
tool to meet the economic, financial, and social targets of
the government." He intends to use it to pursue:

- real GDP growth of 10 percent,
- unemployment of 10 percent of the active labor force by
2010,
- inflation not to exceed 10 percent,
- reform and restructuring of state-owned enterprises, and
- modernization of GOI administrative processes and
procedures.


9. (C) Mission officials gave Allawi and his chief of staff a
copy of a draft 2006 budget predicated on the IMF Article IV
consultations for their markup. They asked that the Ministry
share with the Embassy what it will pull together so that it
can in turn share this product with U.S. Treasury for
follow-up with IMF.


10. (C) Allawi agreed to participate in Embassy's proposed
US/GOI joint task force on budget and fiscal issues. He made
it a point, however, to note that the task force will not be
a joint policy-making mechanism.
Khalilzad