In recent years, Iraq’s relationship with the US dollar has been under significant scrutiny, with regulatory and political arrangements being a focal point. The trajectory of the relationship between the US dollar and its local usage in Iraq has become increasingly complex, intertwining economic requirements with diplomatic and political relations. This dynamic reveals the delicate balance between policy and economy. The journey of the dollar didn’t start in 2003; the previous regime unofficially encouraged local traders to use the dollar to achieve a certain level of stability in living conditions in Iraq. Post-2003, the United States leveraged the dollar to stabilize security and living conditions, using it as an international currency to maintain stability and gain societal approval in Iraq. This included distributing salaries in dollars and awarding projects and contracts in dollars, which encouraged Iraqis to use it as a reliable currency against fluctuations and devaluation. Furthermore, Iraq’s fragile economy and heavy reliance on imports made its market dependent on the circulation of dollars and easy access to them.
The goal of the Coalition Provisional Authority and the US Treasury Department was to reestablish the currency as quickly as possible to avoid inflation by stabilizing the exchange rate and creating the technical infrastructure and regulatory framework for the Iraqi banking sector. They established a currency auction, encouraged by the US Treasury with the help of the United Nations. Subsequently, the “Development Fund for Iraq” was created to manage Iraq’s economic activities and monetary transactions. Over time, the roles of the Development Fund for Iraq were reduced until it became an inheritor account collecting Iraqi oil export revenues. In July 2003, the Coalition Provisional Authority established the Trade Bank of Iraq (TBI) to create a commercial credit system to facilitate trade, managed initially by a consortium of international banks led by J.P. Morgan. The letters of credit issued by the bank were guaranteed by the United States until the new national currency was issued in Iraq. The US Treasury’s goal in leveraging Iraqi funds from oil sales was to support economic recovery and reconstruction, financial regulation and oversight, and the development of diplomatic relations, along with debt relief and directing international financial support to Iraq, followed by imposing sanctions and financial restrictions on adversaries of the United States.
Iraq, a country rich in oil reserves and undergoing post-conflict reconstruction, relies heavily on international trade and financial transactions to support its economy. The US dollar has traditionally been the dominant currency in global trade, including oil transactions, making it crucial for Iraq’s economic stability and international financial interactions. As a nation heavily reliant on global trade and foreign currency transactions, Iraq’s decision to regulate the use of the US dollar, especially in its banking sector, has sparked local debate and international interest.
The New York Federal Reserve began restricting the supply of dollars to Iraq in November 2022, in line with US Treasury policy. For years, the Treasury had demanded that the Iraqi government adhere to an electronic submission system to ensure transparency in dollar transactions and curb money laundering and dollar smuggling to other countries. As a result of these restrictive measures, nearly 80% of dollar transfer requests in Iraq were rejected. Consequently, the value of the dinar in the foreign exchange market fell at the end of January 2023, with the dollar reaching 1,650 dinars, a 17% deviation from the official rate set by the Central Bank of Iraq.
The sudden rise in the dollar’s value against the dinar, due to the New York Federal Reserve’s restrictive policy, had immediate economic impacts on Iraq, including reduced commercial activity, increased inflation on imported goods, heightened social tensions, disturbances, and diminished public confidence in the political system. In reality, the ramifications of this financial crisis are the most severe since 2003, extending beyond the economy to other dimensions.
In response to these financial pressures, the Central Bank of Iraq launched an electronic currency auction platform, which gradually became operational. Initially, most suppliers refused to use it because they did not want to disclose their identities or those of their clients. Simultaneously, the Ministry of Finance tightened verification procedures for import documents, requiring proof of the existence and quality of imported goods, and imposed sanctions on banks and intermediaries that did not issue letters of credit or provide transparent transfer statements. This tightening of US monetary policy towards Iraq serves as an incentive for financial and economic rationalization, aiming to eliminate the informal business practices, access to informal markets, scrutinize the nature of goods entering Iraq, and increase Iraqi state revenues through precise fees and proper implementation of customs tariffs, and border control.
Additionally, these restrictions are part of broader efforts to enhance transparency and accountability within the Iraqi banking sector. By imposing restrictions on the use of the US dollar, the Iraqi government aims to exercise greater control over its financial infrastructure while addressing concerns about fund misuse and ensuring compliance with international banking standards. The Central Bank of Iraq has implemented measures to prevent many Iraqi banks from dealing in US dollars due to concerns about compliance with international financial regulations, money laundering, and potential links to illicit activities. These measures aim to strengthen the integrity of the Iraqi financial system, align it more closely with global standards, and reduce exposure to risks associated with illicit financial flows.
However, the decision to limit the use of the US dollar by Iraqi banks is not without challenges. Among the considerations for Iraq’s international financial transactions, particularly for private sector activities, is the use of correspondent banks to transfer Iraqi funds to banks based in Amman and Dubai, which then conduct financial transfers to commercial parties by purchasing dollars from Iraq and settling its financial transactions instead of Iraqi national private banks. Some view this as a process that exposes Iraq’s financial balances and exploits the dollar rather than creating local economic opportunities that contribute to job creation in the Iraqi market.
Critics argue that such measures could hinder Iraq’s ability to conduct smooth international transactions, potentially affecting trade flows and foreign investment. Furthermore, there are concerns about the practical implications for businesses and individuals accustomed to using the US dollar in their daily financial activities.
Given these risks, the Central Bank of Iraq must adopt precautionary measures to mitigate the high impact of decisions made by international parties on the use of local currency. Particularly, there are reports that the Central Bank of Iraq has been prevented by the US Federal Reserve from using the Chinese yuan for financial transfers, prompting the Central Bank to seek clarification from Washington about the possibility of using the yuan and easing the ban on private banks that faced restrictions on using the US dollar. These factors necessitate looking to the future, as the future of Iraq’s policies regarding the US dollar remains uncertain but is a pivotal issue for the Iraqi economy. The country must balance its goals of financial independence and regulatory compliance with the practical aspects of international trade and economic integration. Ongoing banking sector reforms, alongside efforts to enhance transparency and combat financial crimes, are likely to fortify Iraq’s currency use in the coming years. However, this requires additional steps and other pathways. While Iraq seeks to regulate the use of the US dollar by its banks, reflecting its evolving economic priorities and regulatory ambitions, the country can avoid policies that disrupt economic conditions related to dollar usage by seeking alternatives to dependence on the US dollar, such as considering the use of other currencies or conducting foreign trade in local currencies, thereby reducing reliance on the dollar.
Given Iraq’s heavy dependence on foreign trade, particularly with international partners in East Asia, there is a need to foster new economic cooperation patterns with those countries that have good relations with Iraq and negotiate trade exchanges in local or other non-dollar currencies. Additionally, diversifying financing channels and banks, and seeking banks and financing channels that allow transactions in other currencies instead of the US dollar is crucial. Strengthening economic independence through the development of local industries and diverse economic sectors contributing to self-sufficiency can help reduce reliance on imports requiring the dollar.
Iraq needs to develop negotiation approaches and economic diplomacy to negotiate with the United States and seek settlements or exemptions from sanctions, particularly for transactions that serve Iraq’s general economic interests without triggering negative reactions from the United States. It is necessary to formulate a picture of the harm caused to the Iraqi economy, especially the emerging private sector, by the restrictive policies followed by the US Federal Reserve, which ultimately employs a shock approach. A primary consideration should also be to focus on investing in financial infrastructure and developing local financial infrastructure to support transactions in local currencies and local banks. In summary, avoiding restrictive US Treasury policies requires multiple strategies and international cooperation.