Middle East Economic Survey
VOL. XLVIII
No 26
Economic Freedom Criteria And Iraq’s Economic Policies
By Sabri Zire Al-Saadi
This article was written for MEES by economic advisor Sabri Zire al-Saadi, a UN former employee, who held senior economic posts in Iraq. Email: sabri_saadi@hotmail.com.
The following views are based on our assessment of current economic policies in Iraq1 and motivated by recent research aimed at quantifying and interpreting globalization criteria as they relate to the country -- economic freedom indices for evaluating and promoting economic growth2. Our conceptual evaluation of such economic quantification and interpretation arises from their likely application in Iraq, although no attempt was made to undertake an empirical study. Given the US dominance in Iraq’s politics and economy3, the similarity of objectives and methodology of the proposed comparative measures of freedom (ie political rights and civil liberties) support such reality4. The prospect and pace of Iraq’s economic reforms should, however, be determined mainly by indigenous factors and not be influenced greatly by such views as the use of the Economic Freedom Index (EFI) to gauge a country’s chances of economic success5. Indeed, testing this index in the case of Iraq may reveal the limits of these criteria in guiding national economic strategies and policies.
In theory, it is always useful to quantify the magnitude of economic phenomena and problems, and refer to standard indices for comparison. However, in practice this aim is hardly achievable. While in many cases, GDP statistics are used to assess economic growth rates for comparison, economic freedom is a concept less easily expressed by one aggregate index for all countries.
EFI Advocates
EFI advocates say it “is more than a databank based on empirical study; it is a conceptual theoretical analysis of the factors that most influence the institutional setting of economic growth”6. It aims to identify the institutional factors that, if taken together, will determine the response of the economies to the changes in the circumstances of the international market. The index reflects the institutional environment that promotes economic freedom and prosperity7. In reality, however, there are many factors, including economic liberties, which promote economic growth and influence its path. The advocates identify key groups, with each representing many ingredients, ie low tax rates, tariffs barriers, regulations, government intervention, strong property rights, open capital markets, and monetary stability. Technically, the index identifies 10 institutional factors that determine economic freedom, namely, corruption, non-tariff barriers, the fiscal burden of government, the rule of law, regularity burdens, restrictions on banks, labor market regulations, and informal market activities.
Since each group of factors has the same weight in the index compound value, the index adds another distortion element to the average value of the 10 main groups included. Added to this, value judgment has to be used in quantifying the detailed institutional factors included8. Therefore, EFI does not measure how much each factor of the many institutional (50) factors included in the index contributes to economic growth9. More important, economic growth, especially in developing countries like Iraq, is a process that has many social and political dimensions and is determined by the existing physical, institutional, social, technological, and environmental infrastructural of the country.
Freedom Means Growth?
In our view, less intervention by government institutions, and lowering taxes and minimizing trade protection are not necessarily productive at this stage of Iraq’s economic development. In Iraq, it is essential to qualify the ideological notion that “more economic freedom means, by definition, higher economic growth”, as explicitly suggested by EFI advocates. Two extreme examples can be mentioned to caution against such a proposition.
First, in highly developed countries, the reverse process of the assumed causal relationship between economic freedom and economic growth, ie the state of shrinking economies or recession phase of a business cycle, can not be explained only by the government failure to maintain economic freedom practices. Second, in oil producing countries, like Iraq, if oil prices and revenues were to rise, then GDP would also increase, ie higher economic growth has nothing to do with the government’s economic and fiscal policies. This was the case in Iraq during 1974-79 when the average economic growth rate was estimated at about 14% and the expansion of the physical infrastructure and public utilities, eg roads, dams, buildings, electricity and water, and social infrastructure (education, health, and employment) were at their highest ever level of development. However, the state’s economic intervention was at its highest level too, meaning control of the oil industry, monopoly of foreign trade, prohibition of foreign investment, and control of wages and prices. Furthermore, government expenditures contributed the highest percentage to GDP, and the public sector contributed more to the economy in terms of production and investment than the private sector.
EFI Criteria In Iraq Today
If, for the sake of argument, EFI criteria are applied to Iraq today one sees that official policies and regulations encourage free foreign trade and the free flow of foreign capital, there is no minimum wage and or control on prices, while there is an independent liberal monetary policy, freedom of property ownership except in the oil sector, and a low level of government fiscal burden on the citizens. Given these facts, set against the current high level of government economic intervention in terms of expenditures and contribution to GDP, our estimated value of EFI at this point would be 2.010. This hypothetical result places Iraq at the rank of 18 in the list of 155 countries considered by the advocates of this index11. Does this rough assessment mean that the current economic policies and regulations have the potential for higher economic growth? In our opinion, the answer is no. It is our judgment that unless the present policies are changed or modified, the economic revival of Iraq will not be realized efficiently. Specifically, it is essential for Iraq to consider the following:
Foreign trade
policy needs to introduce timely and limited protections in terms of tariff
and indirect subsidies for agriculture and infant industries.
Fiscal burden on
government requires measures to increase corporate, income, and inheritance
taxes from one side, and gradual decrease of government expenditures from the
other.
Lessening
government intervention in terms of government expenditures in GDP. This is a
long-term policy. In the short and medium-run, the value added of oil to GDP
remains high and may be increased because of the necessity of increasing oil
revenue strategy to meet urgent domestic financial needs. It is expected that,
by this criterion, government intervention will continue as long as
reconstruction of the infrastructure is required.
Independence of
monetary policy from fiscal policy is artificial in the present circumstances.
However, keeping a low level of inflation and sustaining economic growth
should be considered as the main criteria for the monetary policy of the
independent Central Bank of Iraq12.
Banks and
financial markets need to be developed, free from administrative barriers, and
there must be proper regulations to maintain transparency.
Prices must be
free from government intervention in principle. Direct and indirect price
subsidies financed by government must be abolished gradually. However, a
minimum wage index should be set up as a yardstick to protect workers from
falling into the poverty trap.
Property rights
should be free with limited government intervention to regulate the
utilization of national natural resources, eg oil and air space for
telecommunication.
Economic
regulations should be very limited.
Informal economic activities should be encouraged by the government to turn into a formal sector. For this purpose, a program and measures should be prepared as part of tax reform.
Conclusions
In Iraq, the dominance of oil revenues in public finance, the increasing political awareness and spread of democratic practices, widespread poverty, and social security demands will sustain the state’s economic role in the short and medium term. However, the pace of required economic liberalization and the increasing contribution of the private sector to GDP will depend on successful application of a strategic economic plan consisting of well-defined objectives, effective policies and far-reaching structural reforms. Therefore, any future attempt to use EFI or apply the definition of an economic freedom concept as a guide to assess the prospect for economic progress and policy relevance should take into account Iraq’s state of economic, social and environmental conditions and the role of the prevailing strategic elements; oil, development and democracy.
1. Sabri Zire Al-Saadi, “Economic Liberalization and Oil Policy: Vision and Priorities”, MEES, 21 July 2003. “The Iraqi Economy 2003-2004” (Arabic) published in “The Gulf Economic Report of 2003-2004”, Dar-Alkhaleej publishers, Sharqa, United Arab Emirates, November 2003. “Analytical Vision for Iraq’s Economic Prospects”, published in: “Tasawarat Hawla Waqi and Mustaqbal Al Iqtisad Al Iraqi”, (Arabic), Ahmed Kawaz (ed), Arab Planning Institute in Kuwait, March 2004.
2. Heritage Foundation and the Wall Street Journal “2005 Index of Economic Freedom”, the Heritage Foundation and Dow Jones and Company, Inc 2005. R Looney, “Corruption in the Middle East: Challenges Posed for United States”, Strategic Insights 3, No 11 November 2004.
3. See: The Washington Institute for Near East Policy, “Security, Reform, and Peace”, Report of the Presidential Study Group, 2005.
4. See: Freedom House, “Freedom in the World 2005”, www.freedomhouse.org/research/survey2005. It is interesting to notice that Freedom House has classified freedom rating of Iraq in 2004 as a non-free country. Ibid.
5. Heritage Foundation and the Wall Street Journal “2005 Index of Economic Freedom”, preface p6.
6. Executive summary, p1, Heritage Foundation and the Wall Street Journal, Ibid.
7. Heritage Foundation and the Wall Street Journal, Ibid, Ch 5 pp 57-78.
8. “each factor is graded according to a unique scale from 1 to 5”. “ the four broad categories of economic freedom in the index are: Free, countries with an average overall score of 1.99 or less; Mostly Free, countries with an average overall score of 2.00 to 2.99; Mostly Unfree, countries with an average overall score of 3.00 to 3.99; Repressed, countries with an average overall score of 4.00 or higher.” Heritage Foundation and the Wall Street Journal, ibid. Chp 5 p 59.
9. Heritage Foundation and the Wall Street Journal, ibid Ch 5 p 58.
10. For this hypothetical assumption, I have followed the same score system of measuring EFI and gave one point (full free country) to the following groups; trade policy, fiscal burden of government, foreign investment, banking and finance, wages and prices, and property rights. Two points (mostly free country) were given to the monetary policy, and the state of regulation groups, while five points (repressed country) were given to the current state of government high intervention and to the dominance of informal market.
11. Heritage Foundation and The Wall Street Journal, ibid.
12. On this issue, see; Sabri Zire Al-Saadi, “Oil Revenues and Foreign Exchange Regime in Iraq”, MEES, 6 September 2004.