IRAQI DINAR CASH CRUNCH: TIGHT BUT MANAGEABLE

C O N F I D E N T I A L SECTION 01 OF 02 BAGHDAD 002854

SIPDIS

E.O. 12958: DECL: 09/01/2018
TAGS: ECON EFIN PGOV IZ
SUBJECT: IRAQI DINAR CASH CRUNCH: TIGHT BUT MANAGEABLE

REF: A. BAGHDAD O/I 8/11/2008

B. BAGHDAD 2431

Classified By: Economic Counselor Michael Dodman for reasons 1.4(b) and
(d)


1. (C) Summary: Iraq's vastly increased public spending
combined with bureaucratic delays in the purchase of new cash
supplies by the Central Bank of Iraq, an antiquated and
not-yet interconnected banking sector, and continued reliance
on cash payments for government salaries has caused a cash
crunch in Iraq. Based on current rates of disbursement, we
believe that the banks have a sufficient supply of vault cash
Iraqi Dinars to meet government payrolls and other demands
for the next two weeks. The Central Bank is expecting a new
cash shipment to arrive in September, but some provincial
bank branches are reporting that their dinar supply is
dangerously low. Intervention by the Embassy's Public
Finance Management Action Group helped to avert a crisis with
the Ministry of Defense, ensuring that sufficient funds were
available to meet payroll needs for the security services
going into the month of Ramadan. End Summary.

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Enough Cash -- But Not Where it's Needed
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2. (SBU) Based on information from the Central Bank of Iraq
(CBI),we believe that based on current expenditure levels,
banks have a sufficient supply of Iraqi Dinars (IQD) to meet
government payrolls until at least mid-September. Banks in
Iraq currently hold approximately IQD 1.7 trillion (USD 1.4
billion) in vault cash. This far exceeds the IQD 400 billion
needed to meet the banks vault cash reserve requirements.
Despite the banking system overall having sufficient dinar
notes, certain bank branches have indicated that their
cash-on-hand is not enough to meet their customer demands.
This is a particular problem for Iraq since GOI payrolls, for
the most part, are paid in cash, and it comes at a time when
many Iraqis increase their spending in celebration of the
beginning of Ramadan. The situation is tight, but manageable.


3. (SBU) Highlighting this problem was a September 1 report
from PRT Diyala that there had been no cash shipment from
Baghdad to Diyala since August 6. As a result, the five
central Diyala Rafidain bank branches have been forced to
postpone almost all cash disbursements, including the large
numbers of end-of-month government employee and teacher
salaries as well as payments to pensioners. Diyala
Supervisor-General for Banks Salih Rasheed told the PRT that
the Rafidain headquarters in Baghdad claimed that it also had
no reserves, but expected replenishment from the CBI by next
week.

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Payroll System Compounds the Problem
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4. (SBU) The Government of Iraq's payment system continues to
be cash-based. Government payroll rosters are compiled at
the local accounting offices of each ministry and then passed
on to a main accounting office such as the Governorate
Treasury or an Accounting Department of a ministry branch.
At this level the rosters are aggregated and sent to the
headquarters of the Ministry of Finance (MoF). The MoF then
orders a cash transfer, which is done with physical cash by
vehicle, to the branch of either the Rafidain Bank or Rasheed
Bank nearest to the local accounting office of the ministry.
In the case of the Ministry of Defense, cash transfers are
made to the Rafidain Bank branch at the Ministry of Defense
in Baghdad and collected there monthly by regional military
paymasters who then transport the cash back to their units.


5. (SBU) A more efficient system of transferring funds among
banks has not yet been adopted by most state-owned banks
though some private banks are now transferring funds
electronically and using ad hoc interbank borrowing
facilities. To overcome the current payroll crunch,
state-owned banks are just beginning to transfer cash between
their own branches in order to meet needs in various
geographic areas. This effort is piece-meal, however and not
always sufficient to meet needs.

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Budget Expenditures Also Play a Role
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6. (SBU) Data from the Ministry of Finance indicate that the
GOI spent over (IQD) 4 trillion (USD 3.7 billion)
domestically in both May and June, and over IQD 3 trillion
(2.5 billion) in July. Yet current account balances at the
CBI remain high as it continues to remove IQD from the

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economy by appreciating the dinar against the dollar through
its foreign exchange (FX) auctions. To keep inflation in
check, the CBI has soaked up IQD 17.9 trillion (USD 15.1
billion) through FX auctions so far in 2008; over the same
period, the GOI has transferred IQD 17.9 trillion for
domestic expenditures.

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New Money is Coming -- But Not Fast Enough
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7. (C) As reported Ref A, delays in the CBI's printing of new
banknotes and a failure to calculate the increased demand for
cash caused by recent civil service pay increases and more
aggressive GOI domestic spending have exacerbated this cash
crunch. Lacking dinar cash, Iraqi banks have increased their
disbursement of the USD notes that they also maintain as
vault cash. CBI data also show a significant spike in USD
sales in July and August, somewhat undercutting its previous
efforts in "de-dollarizing" the Iraqi economy.


8. (C) The CBI, which had injected IQD 8 trillion (USD 6.7
million) worth of new dinar notes earlier in 2008, informed
us that it expects a cash shipment of IQD 800 billion (USD
670 million) to arrive shortly. This shipment will consist
of 32 million IQD 25,000 (USD 21) denomination notes and be
sufficient to meet roughly one week of cash demand. The CBI
has ordered a total of approximately IQD 3 trillion (USD 2.5
billion). (Note: TREASATT advocacy and efforts with the CBI
led to the GOI being willing to accept currency printed at
DeLaRue's Nairobi, Kenya facility, which has spare line
capacity. This should allow regular cash shipments to begin.
End note.)


9. (C) The CBI reported on September 4, that it has been able
to meet cash demands on a daily basis -- roughly IQD 20-30
million -- because private banks are continuing to deposit
cash in the CBI's vaults. Private banks offer a higher
average rate of interest on retail deposits than the
state-owned banks.

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Close Call at the Ministry of Defense;
PFMAG to the Rescue
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10. (C) The cash crunch, when combined with bureaucratic
squabbles between the MoF and the Ministry of Defense (MoD)
over the MoF's desire for the MoD to close out its FY 2006
and 2007 books created conditions where there was real doubt
whether there would be sufficient cash available at the MoD's
Rafidain Bank branch for August wage payments. The Embassy's
Public Finance Management Action Group (PFMAG),through
intervention with the MoF, MoD, CBI and the Rafidain Bank,
secured an agreement from the CBI to supply IQD 25 billion
(USD 21 million) in cash shipments for security ministries
payments. This averted what would have been a real crisis as
military paymasters were unwilling to return back to their
units without cash for salaries during the lead-up to Ramadan.

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Comment
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11. (C) Iraq's antiquated and inefficient reliance on cash
for all nearly transactions, and especially cash for
payrolls, pensions, and many other types of government
spending, when combined with state-owned banks whose branches
are not inter-connected makes the flow of new bank notes from
the Central Bank's vaults a fiscal jugular vein. Political
dangers exist when banks used for public salaries and
disbursements run low on cash. Yet there are some steps that
Iraqis could take fairly easily. For example, individual
Iraqi bank branches could meet their own cash needs by
issuing short-term certificates of deposit or other
incentives to encourage the depositing of some of the
approximately IQD 20 trillion (USD 17 billion) cash estimated
to be in circulation. The good news is that Iraqis are not
strangers to this type of problem and have developed coping
mechanisms such as running up tabs at local shops. The
Embassy's Public Finance Management Action Group (PFMAG) will
continue to closely monitor this problem and seek to both
address the underlying causes and symptoms of this problem.

BUTENIS