FALLING OIL PRICES FORCE TOUGH IRAQI BUDGET

C O N F I D E N T I A L SECTION 01 OF 02 BAGHDAD 003478

NOFORN
SIPDIS

E.O. 12958: DECL: 11/02/2028
TAGS: EFIN ECON PREL EPET EINV IZ KU
SUBJECT: FALLING OIL PRICES FORCE TOUGH IRAQI BUDGET
DECISIONS

REF: A. BAGHDAD 2944

B. BAGHDAD 3364

C. BAGHDAD 3417

Classified By: Economic Minister Counselor Marc Wall for reasons 1.4(b)
and (d)


1. (C/NF) Summary: Given the sharp fall in the price of oil
and declining exports, Iraq's budget situation had radically
changed and cuts would be made to both Iraq's FY 2009 capital
expenditures and operating costs, according to Minister of
Finance Bayan Jabr in an October 27 meeting with EMIN. Given
that the bulk of GoI operating costs are salaries, and salary
increases were just put into effect in 2008, most of the
budget cuts will fall on the capital budget. The revised
budget baseline would emerge from talks with the IMF later in
the week, said Jabr. While funds to pay the Kuwait Airlines
debt had been in the initial budget proposal, Jabr was not
sure it would be in the final budget sent by the Council of
Ministers to the Council of Representatives. The GOI was
waiting for the Kuwaiti Prime Minister to visit Iraq before
reengaging on bilateral debt issues. End summary.


2. (SBU) EMIN and Treasatt discussed the upcoming USG-GOI
Dialogue on Business and Investment Climate, Kuwaiti debt
issues, and Iraqi budget problems with Minister of Finance
Bayan Jabr on October 27. Jabr opened the meeting by
discussing how interested Iraqi media was in the effects of
the international financial crisis on Iraq. Jabr believes
that the only effect on Iraq will be the impact falling oil
prices has on Iraq's budget process.

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Debt Issues: Waiting on Kuwait
--------------


3. (C) In response to a question about any developments on
debt issues with Kuwait, Jabr responded that there was
"nothing new with Kuwait." The Iraqis were waiting for the
promised, but not yet planned, Kuwaiti Prime Minister visit
to Iraq. Jabr noted that there had been funds in the
original 2009 budget to pay for the Kuwait Air claim (ref A).
However, given the budget upheaval Iraq has faced with the
sharp decline in oil prices, he was no longer certain that
such funds would be in the final budget.


4. (C) Returning to a theme he raised in September (ref A),
Jabr noted that Kuwait and Iraq "should be" natural allies in
this region due to the fact that they are: (1) both friends
of the United States, (2) neighbors, and (3) Iraqis owe a
debt to the Kuwaitis for allowing the United States to
liberate Iraq through Kuwait. Without the help of the
Kuwaitis, he said, "we would still be in opposition and
Saddam would still be in power." "Illiterates and peasants"
believe that there is a natural enmity between Iraq and
Kuwait due to propaganda "during the Saddam time" that Kuwait
was the 19th Province of Iraq. Actions by the Kuwaitis such
as placing liens on Iraqi aircraft only feed this mindset in
Iraq. The Kuwaitis should be "careful not to take advantage
of Iraq's weakness now. They need to look to the future when
Iraq will be strong again," he warned and asked that this
message be passed by the USG to the Kuwaiti Government.

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Upcoming Dialogue on Business and Investment Climate
-------------- --------------


6. (C) Noting that he was pleased that the upcoming U.S.-Iraq
Dialogue on Business and Investment Climate was being held in
Baghdad, Jabr said that "it is a very positive sign" that
Treasury Deputy Secretary Kimmitt is coming and bringing U.S.
investors with him (ref B). "It is very important for
American companies to come and invest in Iraq. They should
not wait while investments are being made with companies from
other countries. If they are concerned about the security
here, they should enter into joint ventures with Iraqis." He
observed that the recently established correspondent
relationship between Citibank and Iraq's Al Warka Bank is an
"excellent development." (ref C)

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Budget Woes: Falling Oil Prices, Declining Production
-------------- --------------


7. (C) Jabr said that the FY 2009 Iraqi budget process had
begun when oil was at USD 150 per barrel and Iraq was
exporting about 2 million barrels per day (bpd). However
given the fall in oil prices and Iraq's declining oil
exports, Jabr said that Iraq's budget assumptions at the
moment called for exports of 1.7 million bpd and a price of
USD 50 per barrel. (Note: This amounts to revenue of roughly

BAGHDAD 00003478 002 OF 002


USD 31 billion about half the USD 61 billion in the original
FY 2009 budget projections. End note.) Jabr is traveling to
Amman, Jordan for budget discussions with the IMF on October
30 and said that the outcome of these meetings will determine
the size and shape of Iraq's FY 2009 budget.


8. (C) "The price of oil is not the real problem," said Jabr.
"The real problem is the fact that our oil production is
falling." "If we could produce more, it would not matter
what the price was," he emphasized. Jabr blames falling oil
production on "technocratic oil ministers" who have wasted
five years trying to fix the problems themselves, he said,
"they should have allowed private companies to solve their
problems; government cannot."

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Cutting Capital Expenditures Easier than Salaries
-------------- --------------


9. (C) Jabr prefaced his remarks on the current state of FY
2009 budget negotiations in the Council of Ministers by
stating that "Operating expenses cannot be reduced, only the
investment budget will be affected." The USD 60 billion
operating budget is "politically difficult" to cut given that
the majority of this budget is used for salaries. That being
said, he had identified about USD 3-4 billion in cuts that he
could make from the operating budget: USD 1 billion from
salary increases for state owned enterprise employees since
"they are not real civil servants and don't do that much
work;" USD 1-1.5 billion in a "civil service salary surplus
fund" to hire new government workers, meaning that the budget
would allow for an increase of only roughly 30,000 new
employees, not the original 140,000; and roughly USD 1
billion from reducing provincial capital expenditure
(investment) budgets from the original USD 6 billion to USD 5
billion. Jabr added that it was also likely that USD 500
million could be cut from the Public Distribution System
budget given the fall in food prices on the international
market. Jabr was not concerned about cutting provincial
budgets since they have money left over from previous budget
years that they have not yet spent.


10. (C) Jabr said that he intended to cut FY 2009's
ministerial investment budgets, or capital expenditures,
funds by 20 percent across the board. He anticipated that
this would cause consternation amongst the ministers who have
become accustomed to Jabr approving every budget request they
have placed before him. "I know the ministers will fight me,
but this is a tough time so I will be tough," he said
smiling. Adding, "We will take painful measures in the next
budget to protect the budget of Iraq." That being said, Jabr
did not anticipate problems meeting Iraq's capital
expenditure needs in 2009.


11. (C/NF) Jabr said that there were approximately USD 22
billion in the Development Fund for Iraq (DFI) account at the
Federal Reserve Bank of New York, and an additional USD 5
billion of MoF funds on deposit with the CBI (typically,
these are held for conversion into Iraqi Dinar),and these
could be used to fund any deficit spending in the 2009
budget. Jabr also raised the possibility of selling bonds to
the Central Bank of Iraq in order to utilize Central Bank
reserves to finance capital expenditures, but such a move
could be expected to raise serious objections from the IMF
and others.


12. (C) In response to a question from Treasatt, Jabr said
that he had authorized USD 2 billion for expenditures on
Provincial Investment Councils (PICs) in the FY 2008 budget.
"This money is available, all they have to do is ask for it."


13. (C/NF) Comment: Iraq's failure over the past five years
to address its oil production and export infrastructure
needs, when coupled with declining oil prices, will have a
significant impact how it shapes its 2009 budget. Jabr is
prepared to make substantive budget cuts to bridge the gap
between revenues and expenses, however the bulk of the cuts
will have to occur in Iraq's capital budget at a time when
there are pressing needs to continue the rebuilding of the
country. Moreover, Jabr indicated that he is prepared to
spend from GOI reserves held in the DFI, as well as at the
Central Bank. If the situation deteriorates too badly, we
may see attempts to utilize the CBI's substantial reserves to
finance the budget deficit. However, this would be
inconsistent with the CBI statutory independence, and it
would undermine the value of the IQD by reducing the reserves
that back the currency. We will report septel on Planning
Minister Baban's reaction to the likely capital budget cuts.
End comment.
CROCKER