Speech

Meeting on the International Compact with Iraq, Statement by Takatoshi Kato, Deputy Managing Director of the International Monetary Fund, United Nations Headquarters

March 22, 2007

As Prepared for Delivery

Mr. Secretary-General, Vice President Mahdi, Deputy Secretary Kimmitt, ladies and gentlemen, I am very pleased to address this meeting on the International Compact with Iraq. In my comments, I will focus on the relations of Iraq with the International Monetary Fund, in particular under the Stand-By Agreement, and on recent economic developments.

The Fund has been closely engaged with Iraq since 2003. Following the Emergency Post Conflict Assistance provided by the Fund in 2004, a Stand-By Arrangement was approved in December 2005. The First and Second Reviews of the program were completed in August 2006. I am pleased to report that the IMF Executive Board completed the Third and Fourth Reviews at the beginning of this week, on March 12, 2007. The IMF Board also approved an extension of the Stand-By Arrangement for six months, through September 2007. This extension will allow more time for the program to reach its objectives.

In their summing up of these reviews, the IMF's Executive Directors commended the Iraqi authorities for keeping their economic program on track despite the extremely difficult political and security circumstances. They stressed, however, that, while progress is being made in strengthening economic policies, improved security conditions will be crucial for achieving the objectives of the program. Directors therefore welcomed the government's commitment to stabilize the situation and its work on initiating an International Compact for Iraq to develop, with the support of the international community, a medium-term framework for political, security, and economic reform.

While the program has been largely on track, economic growth in 2006 was below target because oil production did not increase as projected. This reflected interruptions caused by the insurgency and by lower than planned investment, also related to the ongoing violence. The successful execution of the investment budget for 2007 and a resumption of growth in the oil sector will be heavily dependent on the evolving security situation.

High inflation also remains a concern. Annual consumer price inflation reached 66½ percent in January 2007, before dropping sharply to about 37 percent in February. In February, consumer prices actually fell by 7 percent. While the decline is a welcome development, inflation needs to be reduced further. Like the low growth rate, the high inflation rate is explained in large part by the ongoing violence, which is causing widespread shortages of key commodities, especially fuel products, and driving up prices.

The main focus of the just-completed program review was therefore on measures to help bring inflation down. With the economy highly dollarized and dominated by cash transactions, monetary policy in Iraq has limited effectiveness in influencing inflation at the present time. The central bank has raised interest rates and allowed the exchange rate to appreciate with the intention to arrest dollarization (and thereby improve the monetary policy transmission mechanism), and this may also help push inflation down.

The government is supporting its anti-inflationary policy by exercising strict control of government current spending, in order to ease spending pressures on the non-oil economy. At the same time, in order to alleviate fuel product shortages, the government has liberalized private imports of gasoline, while also stepping up government imports of gasoline (which will be sold domestically at unsubsidized prices so as not to compete with private imports).

It is important to note that the Iraqi authorities have continued their program of increasing domestic petroleum product prices. This policy is a key part of the process of removing distortions in the refined products market and reducing incentives for smuggling. It will also help improve fiscal sustainability over the medium term. The latest round of price increases went into effect on March 5, 2007.

I will not go into the details of the IMF-supported economic program for Iraq today, because these are available in documents published on the IMF website. The documents related to the most recent program reviews are currently available to IMF Executive Directors, and will soon also be published on the IMF website. A Press Release has been issued.

Let me conclude by saying that the Fund will continue to support the International Compact with Iraq. Our contribution will continue to be based on the economic program supported by the Stand-By Arrangement, in particular by working with the authorities to provide the medium-term macroeconomic framework for the Compact.