## 1irqea2023003 - 1.  Pension vs. Wage Income – Illustrative Example

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---

### Background and recent legal changes
- Post-2003 system: emergency flat payments financed by the government budget; gradual restoration with key changes in 2006, 2009, 2014, and 2019-20.
- Unified Pension Law of 2007 (amended December 2007) split public sector pensions into:
  - Legacy pensions: payments to public sector employees who retired before January 17, 2006, paid from the government budget and managed by the National Board of Pensions (NBP).
  - New contributory PAYG defined benefit scheme for retirees after January 17, 2006, administered by the State Pension Fund (SPF) under the NBP.
- Contribution parameters and pension rules evolution:
  - Initial contributory rates: contributions to the SPF set at 7 percent of employees’ earnings with the government contributing 12 percent.
  - Under the Unified Pension Law (Law 9/2014): contributions increased to 10 percent for employees and 15 percent for the state; minimum pension almost doubled to ID 400,000; survivors’ pensions introduced for retirees’ survivors without private income.
  - January 2020 amendments: lowered mandatory retirement age from 63 to 60; early retirement relaxed from 20 years and minimum age 50 to 15 years and minimum age 45; minimum pension raised from ID 400,000 to ID 500,000.
- Private sector scheme: regulated by Law No. 39 of 1971 (amended 1979); lower benefits and contributions; covers effectively only 6 percent of private sector workers.

### Structure and coverage
- Total beneficiaries in pension system for public sector workers and budget-financed schemes: almost 3.1 million.
- SPF (contributory) beneficiaries: 0.6 million (405 thousand primary beneficiaries, 199 thousand dependents).
- Budget-financed pension beneficiaries: over 2.5 million.
  - Legacy pension recipients: 1.96 million (those retired prior to the 2006 reform).
- Budget-financed pension expenditure in 2021: over 13 trillion ID (4.4 percent of GDP).

### Fiscal implications of budget-financed schemes
- Growth and persistence:
  - Legacy pension recipients increased by 17.5 percent between 2010 and 2021, from 1.7 million to almost 2 million.
  - Legacy pension spending exceeded 10 trillion ID (3 percent of GDP).
  - Martyr’s fund primary beneficiaries rose from 139,469 in 2013 to 176,884 in 2021.
  - Beneficiaries categorized as victims of terrorism reached an estimated 298,460 in 2021.
  - Beneficiaries deemed victims of political persecution increased ninefold to 100,000 between 2011 and 2021.
  - Liabilities under the three budget-financed schemes (martyrs, victims of terrorism, political persecution) amounted to more than 3 trillion ID in 2021 (1 percent of GDP).
- Risks:
  - Budget-financed schemes show significant persistence due to extensive survivor benefits.
  - Potential worsening of the security situation could increase claimants under martyrs and victims of terrorism schemes, raising fiscal pressures.

### Financial sustainability of the contributory SPF
- Historical reserves and revenue drivers:
  - SPF reserve fund exceeded ID 12 trillion at end-2018 (4.5 percent of GDP).
  - SPF surpluses were partly driven by rapid growth of the government payroll.
  - Public sector payroll reached 19.8 percent of GDP in 2020 (almost half of all current spending); three-year average wage bill during 2019-2021 was 16.2 percent of GDP.
- Recent erosion and current deficits:
  - 2020 pension law amendments expanded eligibility, lowered retirement age, and increased benefits, reducing aggregate contributions and eroding SPF sustainability.
  - SPF deficit reached ID 1.6 trillion (0.5 percent of GDP) in 2021.
  - Baseline projections indicate SPF reserves could be depleted by end-2024, requiring significant and increasing budgetary financing thereafter.
- Projection scenarios and outcomes:
  - Baseline projection (assumes percentage of working age population entering civil service decreases from 12 percent to 8 percent in the long term, but overall payroll continues to grow due to population growth):
    - SPF deficit expected to widen to about 4 percent of GDP over the next two decades and more than 6 percent of GDP by 2080.
  - Accelerated wage bill reform / transition to private sector (modeled as attrition of government workforce to almost half its current size by 2080):
    - SPF deficit projected to widen and peak at around 4 percent in the 2050s, then gradually decline.
    - Early fewer contributors lead to larger deficits relative to baseline in the near term, but lower long-term pension liabilities and lower deficits after 2050 relative to baseline.

### Design shortcomings and adequacy concerns
- Generosity and incentives:
  - Average benefit ratio (average pension as percentage of average wage of contributors) rose from 196 percent in 2013 to 253 percent in 2019.
  - Retirement age of 60 years is one of the lowest in international comparison.
  - High individual replacement rates due to:
    - Use of only the last three-year average salary for pension calculations.
    - High accrual rate.
    - Numerous allowances boosting overall payout.
  - These rules can lead to pension income often exceeding pre-retirement income for public sector workers.
- Survivor benefits:
  - Survivor eligibility is broader than international norms (covers single/widowed/divorced daughters, parents, single sisters, etc.) and typically provides 100 percent of deceased’s entitlements, compared with common international caps of 50 to 70 percent.
  - Survivor entitlements are not time-bound in many cases and may lack age limits or minimum marriage duration requirements used elsewhere.

### Policy recommendations and reform contours
- Overarching principles:
  - Reforms should balance equity, efficiency, and financial sustainability while ensuring adequacy and broad-based coverage.
  - Move toward an equitable, sustainable, and adequate unified pension system with similar rules and benefits across beneficiaries to minimize distortions and encourage labor mobility.
- Short- to medium-term priorities (gradual, politically feasible steps):
  - Prioritize rationalization of parameters of the pension scheme for public sector workers and equalize pension system parameters across public and private sectors to improve financial sustainability early in the reform process.
  - Phase-in reforms gradually due to political economy and capacity constraints.
- Specific measures to contain fiscal burden of budget-financed schemes:
  - Strengthen eligibility verification with clear and transparent criteria to ensure benefits are paid only to truly eligible individuals.
  - Limit survivor entitlements to immediate family members and make survivor benefits time-bound rather than lifelong, bringing them closer to international best practice.
- Considerations for contributory SPF reforms:
  - Recalibrate retirement age, accrual rates, pension base (e.g., broader salary averaging), and allowances to reduce excessive replacement rates.
  - Align contribution and benefit parameters with sustainability goals and labor market objectives.
  - Coordinate civil service payroll reforms with pension parameter changes to manage short-term funding pressures and long-term liabilities.

### Box 1 — Illustrative calculation of pension benefit
- Assumptions for the example:
  - 3-year salary average = ID 1,200,000
  - Career average salary = ID 900,000
  - Years of services = 30
  - Educational attainment = Master’s degree
- Pension formula (basic pension, without allowances):
  - Basic Pension = (3-year salary average x accrual rate x (# of service months/12))/100
  - Basic Pension = (1,200,000 x 2.5 x 30) / 100 = ID 900,000
- Allowances:
  - Livelihood allowance = 30% (1% for each year of service)
  - Education-related allowance = 15% (Master’s degree, Article 35 in law 9)
  - Total Allowances Factor = 30% + 15% = 45%
- Final pension calculation:
  - Final Pension = Basic Pension x (1+Allowance Factor) = 900,000 x 1.45 = ID 1,305,000

### Box 1 — Reform options, impact, and required contributions
- Suggested parametric reforms:
  - Eliminate regressive livelihood and education allowances
  - Reduce accrual rate from 2.5 to 2 percent
  - Gradually extend the base used for pension calculations to include the entire career
  - Increase the retirement age to 65 for new entrants to the public sector (with subsequent increases linked to life expectancy)
  - Apply actuarially fair factors for pension reductions in case of early retirement
- Rationale and fiscal timing:
  - Reserves are expected to be exhausted by 2024 in the baseline
  - Reforms applied to all employees – new entrants and future service of current employees – will extend the life of SPF reserves by two years to 2026 (2025 if reforms are applied only to new entrants)
  - Implementing parametric reforms for all members of the public sector will contain required budgetary support at around 1 percent of GDP for the next three decades, gradually decreasing thereafter
- Required contribution rates to balance the SPF under current rules (noted as infeasible):
  - 48.4% for next 10 years
  - 64.3% for next 20 years
  - 78.9% for the next 30 years

### Box 1 — Measures to improve adequacy and predictability
- Proposed measures to improve protection for the most vulnerable:
  - Automatic cost-of-living adjustments based on CPI
  - Link minimum pensions to the minimum wage and establish a mechanism to maintain such a ratio as a floor (example floor level cited: 60 percent of the minimum wage)
  - Current practice criticized: setting the minimum pension in nominal terms and providing ad-hoc periodic cost-of-living adjustments
- Specific proposed minimum-pension design:
  - Current minimum pension = 500,000 ID (Note: Min wage as of 04/20/2022 is ID 350,000, so min. pension is 143% of min. wage)
  - Proposed: 50% of minimum wage with 15 years of contribution, increasing to 80% of minimum wage with 30 years of contribution
- Other proposed indexation and rules:
  - Post-retirement indexation: Automatic indexation to inflation (current law: Not specified in law (ad hoc))
  - Rules for early retirement: Apply actuarially fair factors for pension reductions for early retirement (current law allows disabled and women taking care of children to retire early without penalty)
  - Rules for delayed retirement: Mandatory retirement at age 65 (current: Mandatory retirement at 60 with some exceptions)

### Box 1 — Proposed parameter changes summarized
- Retirement Age:
  - Current Law: 50 (mandatory age 60)
  - Reforms: Increase to 65 – for new entrants - and eventually link to life expectancy
- Incremental Replacement Rate (Accrual Rate):
  - Current Law: 2.5%
  - Reforms: 2%
- Number of Last Years for Wage Base Calculation:
  - Current Law: Last three years
  - Reforms: Entire career average wage (gradual transition)
- Livelihood allowance:
  - Current Law: 1% of the pension per year of service
  - Reforms: None
- Education-related allowances:
  - Current Law: Additional boost of 5% (diploma), 10% (bachelors), 15% (masters), or 20% (doctorate)
  - Reforms: None
- Survivor benefits:
  - Current Law: 80% for 1 eligible survivor; 90% for 2 eligible survivors; 100% for 3 or more survivors
  - Reforms: Spouse and children (Category A): 60% for one survivor, 70% for two, 80% for three or more. If no Category A dependents, then 10% goes to each Category B survivors (siblings, parents, etc.) up to a maximum of 20%

### Transition, political economy, and implementation considerations
- Transition planning:
  - A well-crafted, gradual transition aligned with international social security standards and best practices will help loosen political economy constraints
  - Reforms can be implemented gradually with partial application of rule changes to current members to recognize acquired rights and political feasibility, but such strategies trade off with intergenerational equity
- Stakeholder buy-in:
  - Ensuring buy-in across bureaucracy, political leadership, and employees will increase credibility and protect reforms from political pressures during electoral cycles
- Joint considerations:
  - Long-term sustainability must account for the evolution of the civil service path, private sector growth, and the private sector pension system
  - Impact of pension reforms on incentives to join the civil service and the impact of civil service reform on SPF sustainability should be jointly considered

*Source: 1irqea2023003 - 1.  Pension vs. Wage Income – Illustrative Example.*

---

### 1irqea2023003 - 10.  To supplement public investments, the government has attracted private sector

### Private sector participation and imports
- Private sector participation gained traction mainly in generation; several attempts were made across the value chain but faced political and business opposition (pilot for private distribution management in Baghdad initially succeeded but was overturned).
- Between 2018 and 2021, 5 GWs in gas and fuel generation capacities were commissioned by 7 IPPs. The majority of IPPs are contracted on a take-or-pay basis and are supplied subsidized fuel by the Ministry of Oil (MoO).
- Growing gas deficit and stagnating domestic supply prompted imports of Iranian gas starting in 2017 and electricity imports through four cross-border high voltage transmission lines.
- The federal government purchases electricity from private producers in the KRI and announced plans to import electricity from Turkey, the GCC countries, Jordan, and liquefied natural gas (LNG) from Qatar.

### Costs, revenues, and fiscal impact
- Explicit operational costs are often 10 times the sector’s revenues or higher.
- 2019 figures:
  - Total explicit operational costs: ID 11.0 trillion ($9.3 billion or 4.0 percent of GDP).
  - Revenues were less than ID 1 trillion (explicit revenue shortfall implied).
- Fuel and electricity purchases are the largest cost components in 2019:
  - Gas imports: 26 percent of explicit costs.
  - Domestic fuel (subsidized): 21 percent of explicit costs while underpinning 63 percent of generated electricity.
  - Electricity purchases: IPPs 11 percent; electricity imports 6 percent.
  - Wages (compensation of employees): 11 percent.
- 2020 revenue composition (supply valuation and collections):
  - Sector supplied electricity valued at ID 4.2 trillion at prevailing tariff rates (including non-metered consumption).
  - Billed to consumers: about ID 1.7 trillion.
  - Collected: less than half of billed, ID 0.8 trillion.
- The budget has increasingly financed the sector:
  - In 2019 the budget covered ID 6.7 trillion or 60 percent of the electricity sector’s explicit costs, up from 9 percent in 2015.
  - Spending on electricity represented 7.7 percent of the government’s current expenditure envelope in 2019, up from 1.3 percent in 2015.
  - Purchases of gas and electricity represented 82 percent of the total purchases of goods envelope in the budget.
  - Since 2017, an average of 5 percent of the government’s total expenditures were directed to the electricity sector.
- Arrears and cross-sector financing:
  - Cumulative arrears to the oil sector reached around ID 23 trillion in 2021 (7.7 percent of GDP).
  - Since 2019 the sector has been incurring arrears to Iran and IPPs; past stock of arrears was settled in 2022 using allocations from the Emergency Law for Food Security and Development, but new arrears accumulated due to insufficient allocations.

### Implicit subsidies and total costs
- MoO sells domestically produced fuels to the electricity sector at highly subsidized prices (fixed in Iraqi dinar):
  - Natural gas: equivalent of $1.0/MMBTU (down from $1.3 before the dinar devaluation in 2020).
  - Crude: equivalent of $5.5/barrel (down from $6.7 before devaluation).
  - Fuel oil: equivalent of $19/barrel (down from $23.5 before devaluation).
- In 2019 these prices represented 16, 11 and 46 percent of their respective international prices, implying an additional implicit subsidy cost of ID 6.4 trillion.
- Including the implicit subsidy, total cost of the electricity sector in 2019 amounted to ID 17.4 trillion (6.3 percent of GDP).
- When accounting for the implicit subsidy, domestic fuel becomes the largest cost item at 50 percent of total cost.

### Risks from continuing past strategies and scale-up requirements
- Closing the supply-demand gap with additional fuel-based generation (IPP or MoE) would multiply technical and financial losses:
  - Meeting growing demand would require more than doubling 2021 supply by adding 19 GW over the medium term.
  - This would lower the share of gas in the fuel mix from 54 to 35 percent and reduce plant productivity and fuel efficiency.
  - Increased liquid fuel consumption would more than double to 0.9 mbd, crowding out oil exports.
  - Without significant upgrades, transmission and distribution networks may not handle increased volumes; weak metering and bill collection would make cost recovery difficult.
  - Result: losses could more than double to ID 55 trillion by 2027 (12.6 percent of GDP) from ID 19 trillion in 2021 (6.5 percent of GDP).

### Authorities’ plan and gaps
- Authorities’ US$31 billion reform and investment plan:
  - Envisions adding 28 GW to supply to close the demand gap and build a strategic surplus buffer.
  - Supply additions: efficiency enhancing investments (13 GW) and new power stations (25 GW), of which 3.5 GW would be based on solar energy.
  - Plan envisages spending US$ 11.5 billion over the medium term to upgrade transmission and distribution networks to reduce technical losses.
  - Domestic natural gas production will be significantly boosted through gas capture projects.

### Policy recommendations and priorities
- Maximize productivity of existing assets and fuel allocations through targeted investments and regular maintenance:
  - Reduce underutilization of existing generation capacity and excess technical losses.
  - Prioritize allocations for maintenance and targeted investments (examples: installing coolers, converting single-cycle turbines to combined cycle).
  - Upgrade transmission and distribution network to reduce technical and commercial losses and improve metering and collection.
- Accelerate gas capture plans:
  - Capturing flared gas can potentially add more than 4 GW in power supply, free up oil for exports, and reduce import dependence.
  - Streamline and standardize gas capture agreements; invest in capture, storage, transportation, and treatment infrastructure.
- Leverage private resources and renewables:
  - New generation capacity should primarily come from renewable energy; Iraq has high solar potential.
  - Rapid technological advances have lowered renewable costs to levels competitive with fuel-based generation.
  - Solar can be deployed at scale from large IPP solar parks to small rooftop cells to reduce reliance on neighborhood generators.
  - Formulate clear regulatory and contractual frameworks, streamline land allocation and offtake agreements with IPPs, and develop net metering schemes.
  - Consider fiscal and monetary incentives for purchase and financing of solar panels and energy efficient equipment (Central Bank of Iraq program: lending support for green investments in the amount of ID 1 trillion).
- Strengthen demand management and energy efficiency:
  - Combat non-metered consumption and electricity theft; accelerate distribution network upgrades and roll-out of smart meters.
  - Revise tariff structure to maintain low-cost lifeline service for vulnerable groups while tariffs for high consumption tiers reflect economic cost of service.
  - Introduce time of day and day of week charges to shift non-essential and industrial consumption to non-peak hours.
  - Promote energy efficient lighting, appliances, and building materials.
- Strengthen public financial management and intergovernmental coordination:
  - Centralize monitoring of all sector costs and liabilities (including implicit costs borne by MoO) at the Ministry of Finance.
  - Develop transparent financing plans and consolidation policies; sequence and prioritize investments and frontload those with significant efficiency gains.
  - Coordinate among ministries of finance, planning, oil, and electricity for cost allocation, arrears resolution, fuel provision, gas capture, and renewables.
  - Improve public communication and explicit recording of the sector’s true cost in the budget to inform societal debate and increase public buy-in.

### Scenario estimates and projected impact
- Staff scenario (policy package including demand management, efficiency investments, renewables, gas capture, and tariff increases):
  - Such policies would allow a gradual reduction of the electricity sector’s annual cost by an additional 2.6 percent of GDP over the medium term.
  - The increase in supply would primarily come from efficiency enhancing investments; renewable energy would add 6 GW in this scenario.
  - Demand projections in this scenario assume an annual 10 percent increase in tariffs starting 2024 with a demand elasticity of -0.2.
  - Resulting sector deficit can be contained at ID 29 bn by 2027 (6. 7 percent of GDP).
  - Note: Iraq’s Nationally Determined Contribution (NDC) envisages adding 12 GW in renewable energy capacity by 2030.

*Source: 1irqea2023003 — IMF staff calculations and national authorities (source content).*

### 1.  Pension vs. Wage Income – Illustrative Example __________________________________________ 10

### 1.  Pension vs. Wage Income – Illustrative Example

### Background and recent legal changes
- Post-2003 system: emergency flat payments financed by the government budget; gradual restoration with key changes in 2006, 2009, 2014, and 2019-20.
- Unified Pension Law of 2007 (amended December 2007) split public sector pensions into:
  - Legacy pensions: payments to public sector employees who retired before January 17, 2006, paid from the government budget and managed by the National Board of Pensions (NBP).
  - New contributory PAYG defined benefit scheme for retirees after January 17, 2006, administered by the State Pension Fund (SPF) under the NBP.
- Contribution parameters and pension rules evolution:
  - Initial contributory rates: contributions to the SPF set at 7 percent of employees’ earnings with the government contributing 12 percent.
  - Under the Unified Pension Law (Law 9/2014): contributions increased to 10 percent for employees and 15 percent for the state; minimum pension almost doubled to ID 400,000; survivors’ pensions introduced for retirees’ survivors without private income.
  - January 2020 amendments: lowered mandatory retirement age from 63 to 60; early retirement relaxed from 20 years and minimum age 50 to 15 years and minimum age 45; minimum pension raised from ID 400,000 to ID 500,000.
- Private sector scheme: regulated by Law No. 39 of 1971 (amended 1979); lower benefits and contributions; covers effectively only 6 percent of private sector workers.

### Structure and coverage
- Total beneficiaries in pension system for public sector workers and budget-financed schemes: almost 3.1 million.
- SPF (contributory) beneficiaries: 0.6 million (405 thousand primary beneficiaries, 199 thousand dependents).
- Budget-financed pension beneficiaries: over 2.5 million.
  - Legacy pension recipients: 1.96 million (those retired prior to the 2006 reform).
- Budget-financed pension expenditure in 2021: over 13 trillion ID (4.4 percent of GDP).

### Fiscal implications of budget-financed schemes
- Growth and persistence:
  - Legacy pension recipients increased by 17.5 percent between 2010 and 2021, from 1.7 million to almost 2 million.
  - Legacy pension spending exceeded 10 trillion ID (3 percent of GDP).
  - Martyr’s fund primary beneficiaries rose from 139,469 in 2013 to 176,884 in 2021.
  - Beneficiaries categorized as victims of terrorism reached an estimated 298,460 in 2021.
  - Beneficiaries deemed victims of political persecution increased ninefold to 100,000 between 2011 and 2021.
  - Liabilities under the three budget-financed schemes (martyrs, victims of terrorism, political persecution) amounted to more than 3 trillion ID in 2021 (1 percent of GDP).
- Risks:
  - Budget-financed schemes show significant persistence due to extensive survivor benefits.
  - Potential worsening of the security situation could increase claimants under martyrs and victims of terrorism schemes, raising fiscal pressures.

### Financial sustainability of the contributory SPF
- Historical reserves and revenue drivers:
  - SPF reserve fund exceeded ID 12 trillion at end-2018 (4.5 percent of GDP).
  - SPF surpluses were partly driven by rapid growth of the government payroll.
  - Public sector payroll reached 19.8 percent of GDP in 2020 (almost half of all current spending); three-year average wage bill during 2019-2021 was 16.2 percent of GDP.
- Recent erosion and current deficits:
  - 2020 pension law amendments expanded eligibility, lowered retirement age, and increased benefits, reducing aggregate contributions and eroding SPF sustainability.
  - SPF deficit reached ID 1.6 trillion (0.5 percent of GDP) in 2021.
  - Baseline projections indicate SPF reserves could be depleted by end-2024, requiring significant and increasing budgetary financing thereafter.
- Projection scenarios and outcomes:
  - Baseline projection (assumes percentage of working age population entering civil service decreases from 12 percent to 8 percent in the long term, but overall payroll continues to grow due to population growth):
    - SPF deficit expected to widen to about 4 percent of GDP over the next two decades and more than 6 percent of GDP by 2080.
  - Accelerated wage bill reform / transition to private sector (modeled as attrition of government workforce to almost half its current size by 2080):
    - SPF deficit projected to widen and peak at around 4 percent in the 2050s, then gradually decline.
    - Early fewer contributors lead to larger deficits relative to baseline in the near term, but lower long-term pension liabilities and lower deficits after 2050 relative to baseline.

### Design shortcomings and adequacy concerns
- Generosity and incentives:
  - Average benefit ratio (average pension as percentage of average wage of contributors) rose from 196 percent in 2013 to 253 percent in 2019.
  - Retirement age of 60 years is one of the lowest in international comparison.
  - High individual replacement rates due to:
    - Use of only the last three-year average salary for pension calculations.
    - High accrual rate.
    - Numerous allowances boosting overall payout.
  - These rules can lead to pension income often exceeding pre-retirement income for public sector workers.
- Survivor benefits:
  - Survivor eligibility is broader than international norms (covers single/widowed/divorced daughters, parents, single sisters, etc.) and typically provides 100 percent of deceased’s entitlements, compared with common international caps of 50 to 70 percent.
  - Survivor entitlements are not time-bound in many cases and may lack age limits or minimum marriage duration requirements used elsewhere.

### Policy recommendations and reform contours
- Overarching principles:
  - Reforms should balance equity, efficiency, and financial sustainability while ensuring adequacy and broad-based coverage.
  - Move toward an equitable, sustainable, and adequate unified pension system with similar rules and benefits across beneficiaries to minimize distortions and encourage labor mobility.
- Short- to medium-term priorities (gradual, politically feasible steps):
  - Prioritize rationalization of parameters of the pension scheme for public sector workers and equalize pension system parameters across public and private sectors to improve financial sustainability early in the reform process.
  - Phase-in reforms gradually due to political economy and capacity constraints.
- Specific measures to contain fiscal burden of budget-financed schemes:
  - Strengthen eligibility verification with clear and transparent criteria to ensure benefits are paid only to truly eligible individuals.
  - Limit survivor entitlements to immediate family members and make survivor benefits time-bound rather than lifelong, bringing them closer to international best practice.
- Considerations for contributory SPF reforms:
  - Recalibrate retirement age, accrual rates, pension base (e.g., broader salary averaging), and allowances to reduce excessive replacement rates.
  - Align contribution and benefit parameters with sustainability goals and labor market objectives.
  - Coordinate civil service payroll reforms with pension parameter changes to manage short-term funding pressures and long-term liabilities.

*Source: 1irqea2023003 - 1.  Pension vs. Wage Income – Illustrative Example.*

### Box 1. Pension vs. Wage Income – Illustrative Example

### Box 1. Pension vs. Wage Income – Illustrative Example

### Illustrative calculation of pension benefit
- Assumptions for the example:
  - 3-year salary average = ID 1,200,000
  - Career average salary = ID 900,000
  - Years of services = 30
  - Educational attainment = Master’s degree
- Pension formula (basic pension, without allowances):
  - Basic Pension = (3-year salary average x accrual rate x (# of service months/12))/100
  - Basic Pension = (1,200,000 x 2.5 x 30) / 100 = ID 900,000
- Allowances:
  - Livelihood allowance = 30% (1% for each year of service)
  - Education-related allowance = 15% (Master’s degree, Article 35 in law 9)
  - Total Allowances Factor = 30% + 15% = 45%
- Final pension calculation:
  - Final Pension = Basic Pension x (1+Allowance Factor) = 900,000 x 1.45 = ID 1,305,000

### Reform options to strengthen long-term sustainability and intergenerational equity
- Suggested parametric reforms:
  - Eliminate regressive livelihood and education allowances
  - Reduce accrual rate from 2.5 to 2 percent
  - Gradually extend the base used for pension calculations to include the entire career
  - Increase the retirement age to 65 for new entrants to the public sector (with subsequent increases linked to life expectancy)
  - Apply actuarially fair factors for pension reductions in case of early retirement
- Rationale and fiscal timing:
  - Reserves are expected to be exhausted by 2024 in the baseline
  - Reforms applied to all employees – new entrants and future service of current employees – will extend the life of SPF reserves by two years to 2026 (2025 if reforms are applied only to new entrants)
  - Implementing parametric reforms for all members of the public sector will contain required budgetary support at around 1 percent of GDP for the next three decades, gradually decreasing thereafter
- Required contribution rates to balance the SPF under current rules (noted as infeasible):
  - 48.4% for next 10 years
  - 64.3% for next 20 years
  - 78.9% for the next 30 years

### Measures to improve adequacy and predictability
- Proposed measures to improve protection for the most vulnerable:
  - Automatic cost-of-living adjustments based on CPI
  - Link minimum pensions to the minimum wage and establish a mechanism to maintain such a ratio as a floor (example floor level cited: 60 percent of the minimum wage)
  - Current practice criticized: setting the minimum pension in nominal terms and providing ad-hoc periodic cost-of-living adjustments
- Specific proposed minimum-pension design (Table 1 proposals):
  - Current minimum pension = 500,000 ID (Note: Min wage as of 04/20/2022 is ID 350,000, so min. pension is 143% of min. wage)
  - Proposed: 50% of minimum wage with 15 years of contribution, increasing to 80% of minimum wage with 30 years of contribution
- Other proposed indexation and rules:
  - Post-retirement indexation: Automatic indexation to inflation (current law: Not specified in law (ad hoc))
  - Rules for early retirement: Apply actuarially fair factors for pension reductions for early retirement (current law allows disabled and women taking care of children to retire early without penalty)
  - Rules for delayed retirement: Mandatory retirement at age 65 (current: Mandatory retirement at 60 with some exceptions)

### Reform items addressing distortions and sectoral equity
- Align public and private sector pension parameters to:
  - Balance incentives and reduce labor-market distortions that favor public sector employment
  - Strengthen portability of benefits between public and private sectors
  - Encourage later retirement and longer economic participation through incentive design (examples: higher benefits for later retirement, reduce obstacles to retain or hire older workers, increase employability of older workers)
- Coverage for the uninsured:
  - Authorities should explore options to better assist old-age persons who are not covered by any of the pension schemes (mechanism designs to be explored in a forthcoming IMF-ILO-World Bank joint policy paper)

### Fiscal and revenue considerations
- SPF revenue sources and constraints:
  - Two revenue sources: (1) employer-employee contributions, and (2) returns on invested reserves
  - Current contribution rates: 10 percent for employees, 15 percent for employers
  - Increasing employee share may face political economy constraints; increasing employer share reallocates expenditure from pensions to wages in the budget
  - Protection of SPF reserves from market volatility implies need for low-risk investments, limiting potential returns
  - Therefore, focus of reforms should be on eligibility and benefit rules to ensure equity, adequacy, and sustainability

### Proposed parameter changes summarized (from Table 1)
- Retirement Age:
  - Current Law: 50 (mandatory age 60)
  - Reforms: Increase to 65 – for new entrants - and eventually link to life expectancy
- Incremental Replacement Rate (Accrual Rate):
  - Current Law: 2.5%
  - Reforms: 2%
- Number of Last Years for Wage Base Calculation:
  - Current Law: Last three years
  - Reforms: Entire career average wage (gradual transition)
- Livelihood allowance:
  - Current Law: 1% of the pension per year of service
  - Reforms: None
- Education-related allowances:
  - Current Law: Additional boost of 5% (diploma), 10% (bachelors), 15% (masters), or 20% (doctorate)
  - Reforms: None
- Survivor benefits:
  - Current Law: 80% for 1 eligible survivor; 90% for 2 eligible survivors; 100% for 3 or more survivors
  - Reforms: Spouse and children (Category A): 60% for one survivor, 70% for two, 80% for three or more. If no Category A dependents, then 10% goes to each Category B survivors (siblings, parents, etc.) up to a maximum of 20%

### Transition, political economy, and implementation considerations
- Transition planning:
  - A well-crafted, gradual transition aligned with international social security standards and best practices will help loosen political economy constraints
  - Reforms can be implemented gradually with partial application of rule changes to current members to recognize acquired rights and political feasibility, but such strategies trade off with intergenerational equity
- Stakeholder buy-in:
  - Ensuring buy-in across bureaucracy, political leadership, and employees will increase credibility and protect reforms from political pressures during electoral cycles
- Joint considerations:
  - Long-term sustainability must account for the evolution of the civil service path, private sector growth, and the private sector pension system
  - Impact of pension reforms on incentives to join the civil service and the impact of civil service reform on SPF sustainability should be jointly considered

*Source: Box 1. Pension vs. Wage Income – Illustrative Example (IMF-ILO-World Bank joint policy paper, forthcoming).*

### 10.      To supplement public investments, the government has attracted private sector

### 1irqea2023003 - 10.      To supplement public investments, the government has attracted private sector

### Private sector participation and imports
- Private sector participation gained traction mainly in generation; several attempts were made across the value chain but faced political and business opposition (pilot for private distribution management in Baghdad initially succeeded but was overturned).
- Between 2018 and 2021, 5 GWs in gas and fuel generation capacities were commissioned by 7 IPPs. The majority of IPPs are contracted on a take-or-pay basis and are supplied subsidized fuel by the Ministry of Oil (MoO).
- Growing gas deficit and stagnating domestic supply prompted imports of Iranian gas starting in 2017 and electricity imports through four cross-border high voltage transmission lines.
- The federal government purchases electricity from private producers in the KRI and announced plans to import electricity from Turkey, the GCC countries, Jordan, and liquefied natural gas (LNG) from Qatar.

### Costs, revenues, and fiscal impact
- Explicit operational costs are often 10 times the sector’s revenues or higher.
- 2019 figures:
  - Total explicit operational costs: ID 11.0 trillion ($9.3 billion or 4.0 percent of GDP).
  - Revenues were less than ID 1 trillion (explicit revenue shortfall implied).
- Fuel and electricity purchases are the largest cost components in 2019:
  - Gas imports: 26 percent of explicit costs.
  - Domestic fuel (subsidized): 21 percent of explicit costs while underpinning 63 percent of generated electricity.
  - Electricity purchases: IPPs 11 percent; electricity imports 6 percent.
  - Wages (compensation of employees): 11 percent.
- 2020 revenue composition (supply valuation and collections):
  - Sector supplied electricity valued at ID 4.2 trillion at prevailing tariff rates (including non-metered consumption).
  - Billed to consumers: about ID 1.7 trillion.
  - Collected: less than half of billed, ID 0.8 trillion.
- The budget has increasingly financed the sector:
  - In 2019 the budget covered ID 6.7 trillion or 60 percent of the electricity sector’s explicit costs, up from 9 percent in 2015.
  - Spending on electricity represented 7.7 percent of the government’s current expenditure envelope in 2019, up from 1.3 percent in 2015.
  - Purchases of gas and electricity represented 82 percent of the total purchases of goods envelope in the budget.
  - Since 2017, an average of 5 percent of the government’s total expenditures were directed to the electricity sector.
- Arrears and cross-sector financing:
  - Cumulative arrears to the oil sector reached around ID 23 trillion in 2021 (7.7 percent of GDP).
  - Since 2019 the sector has been incurring arrears to Iran and IPPs; past stock of arrears was settled in 2022 using allocations from the Emergency Law for Food Security and Development, but new arrears accumulated due to insufficient allocations.

### Implicit subsidies and total costs
- MoO sells domestically produced fuels to the electricity sector at highly subsidized prices (fixed in Iraqi dinar):
  - Natural gas: equivalent of $1.0/MMBTU (down from $1.3 before the dinar devaluation in 2020).
  - Crude: equivalent of $5.5/barrel (down from $6.7 before devaluation).
  - Fuel oil: equivalent of $19/barrel (down from $23.5 before devaluation).
- In 2019 these prices represented 16, 11 and 46 percent of their respective international prices, implying an additional implicit subsidy cost of ID 6.4 trillion.
- Including the implicit subsidy, total cost of the electricity sector in 2019 amounted to ID 17.4 trillion (6.3 percent of GDP).
- When accounting for the implicit subsidy, domestic fuel becomes the largest cost item at 50 percent of total cost.

### Risks from continuing past strategies and scale-up requirements
- Closing the supply-demand gap with additional fuel-based generation (IPP or MoE) would multiply technical and financial losses:
  - Meeting growing demand would require more than doubling 2021 supply by adding 19 GW over the medium term.
  - This would lower the share of gas in the fuel mix from 54 to 35 percent and reduce plant productivity and fuel efficiency.
  - Increased liquid fuel consumption would more than double to 0.9 mbd, crowding out oil exports.
  - Without significant upgrades, transmission and distribution networks may not handle increased volumes; weak metering and bill collection would make cost recovery difficult.
  - Result: losses could more than double to ID 55 trillion by 2027 (12.6 percent of GDP) from ID 19 trillion in 2021 (6.5 percent of GDP).

### Authorities’ plan and gaps
- Authorities’ US$31 billion reform and investment plan:
  - Envisions adding 28 GW to supply to close the demand gap and build a strategic surplus buffer.
  - Supply additions: efficiency enhancing investments (13 GW) and new power stations (25 GW), of which 3.5 GW would be based on solar energy.
  - Plan envisages spending US$ 11.5 billion over the medium term to upgrade transmission and distribution networks to reduce technical losses.
  - Domestic natural gas production will be significantly boosted through gas capture projects.

### Policy recommendations and priorities
- Maximize productivity of existing assets and fuel allocations through targeted investments and regular maintenance:
  - Reduce underutilization of existing generation capacity and excess technical losses.
  - Prioritize allocations for maintenance and targeted investments (examples: installing coolers, converting single-cycle turbines to combined cycle).
  - Upgrade transmission and distribution network to reduce technical and commercial losses and improve metering and collection.
- Accelerate gas capture plans:
  - Capturing flared gas can potentially add more than 4 GW in power supply, free up oil for exports, and reduce import dependence.
  - Streamline and standardize gas capture agreements; invest in capture, storage, transportation, and treatment infrastructure.
- Leverage private resources and renewables:
  - New generation capacity should primarily come from renewable energy; Iraq has high solar potential.
  - Rapid technological advances have lowered renewable costs to levels competitive with fuel-based generation.
  - Solar can be deployed at scale from large IPP solar parks to small rooftop cells to reduce reliance on neighborhood generators.
  - Formulate clear regulatory and contractual frameworks, streamline land allocation and offtake agreements with IPPs, and develop net metering schemes.
  - Consider fiscal and monetary incentives for purchase and financing of solar panels and energy efficient equipment (Central Bank of Iraq program: lending support for green investments in the amount of ID 1 trillion).
- Strengthen demand management and energy efficiency:
  - Combat non-metered consumption and electricity theft; accelerate distribution network upgrades and roll-out of smart meters.
  - Revise tariff structure to maintain low-cost lifeline service for vulnerable groups while tariffs for high consumption tiers reflect economic cost of service.
  - Introduce time of day and day of week charges to shift non-essential and industrial consumption to non-peak hours.
  - Promote energy efficient lighting, appliances, and building materials.
- Strengthen public financial management and intergovernmental coordination:
  - Centralize monitoring of all sector costs and liabilities (including implicit costs borne by MoO) at the Ministry of Finance.
  - Develop transparent financing plans and consolidation policies; sequence and prioritize investments and frontload those with significant efficiency gains.
  - Coordinate among ministries of finance, planning, oil, and electricity for cost allocation, arrears resolution, fuel provision, gas capture, and renewables.
  - Improve public communication and explicit recording of the sector’s true cost in the budget to inform societal debate and increase public buy-in.

### Scenario estimates and projected impact
- Staff scenario (policy package including demand management, efficiency investments, renewables, gas capture, and tariff increases):
  - Such policies would allow a gradual reduction of the electricity sector’s annual cost by an additional 2.6 percent of GDP over the medium term.
  - The increase in supply would primarily come from efficiency enhancing investments; renewable energy would add 6 GW in this scenario.
  - Demand projections in this scenario assume an annual 10 percent increase in tariffs starting 2024 with a demand elasticity of -0.2.
  - Resulting sector deficit can be contained at ID 29 bn by 2027 (6. 7 percent of GDP).
  - Note: Iraq’s Nationally Determined Contribution (NDC) envisages adding 12 GW in renewable energy capacity by 2030.

*Source: 1irqea2023003 — IMF staff calculations and national authorities (source content).*

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_Source: https://www.imf.org/-/media/files/publications/cr/2023/english/1irqea2023003.pdf_