On the Way to Market
Economic Liberalization and Iraq's Invasion of Kuwait
Iraq’s debt and deteriorating economy have been regularly cited as causes for the invasion of Kuwait in August 1990, but they almost always take second place to explanations that stress Baghdad’s regional ambitions. In fact, the economic crisis that deepened through the early months of 1990 was the primary force behind the invasion. After ending its eight-year war with the Islamic Republic of Iran, the Iraqi government introduced a massive economic liberalization and privatization program, involving all sectors of the economy. Iraq’s reforms were dramatic and sudden, but were not accompanied by any kind of political liberalization. By the summer of 1990, these reforms, coupled with pressures from international creditors, plunged the economy into such chaos that not even the experienced repressive apparatus of the Baath Party could guarantee domestic political stability.
The most immediate cause for the failure of the reforms involved Iraq’s desperate need for foreign exchange. In 1990, debt payments, continued military spending and the termination of both US credits and other sources of financing ate into foreign exchange that was urgently needed to expand domestic production. The Iraqi leadership’s single-minded pursuit of alternative sources of foreign exchange began with the institution of the unsuccessful Arab Investment Law of 1989, designed to attract direct investments from the wealthy Gulf states, then moved to the successful campaign of July 1990 to enforce OPEC production quotas and raise oil prices, and ended with the invasion of Kuwait.
Recession and Liberalization
As oil revenues declined in the 1980s, all oil exporters attempted to liberalize their economies by withdrawing subsidies, cutting state spending and encouraging the private sector to assume a larger role in the industrial, trade and agricultural sectors. In the “market” economies of Saudi Arabia and the United Arab Emirates, these efforts failed because of opposition from the state’s clients in the private sector; in the “socialist” countries of Libya and Algeria, they were blocked through the concerted efforts of labor, ruling party cadre and bureaucrats. In contrast, Iraq emerged from its eight-year war with Iran to implement the most wide-ranging privatization program in the developing world. 
Iraq was no better prepared than other oil exporters to introduce market reforms. As with other oil exporters, Iraq’s heavy reliance on external capital inflows conditioned domestic institutions and the formation of social classes in ways that were antithetical to market reform.  The inflow of oil revenues in the preceding decade had forestalled the development of legal, regulatory, financial and administrative institutions necessary to define property rights, cut transaction costs, enforce contracts and promote competition. The oil boom of the 1970s diminished the extractive, regulatory and information-gathering capacities of the state bureaucracies of all oil exporters, while expanding the distributive and productive capacities of the state. In addition, the largely Shi‘i domestic entrepreneurial group of Iraq had either fled at some juncture of the Baathist consolidation, or had been eliminated during the war with Iran through mass deportations.
On the eve of the reforms, the Iraqi government directly owned and almost completely controlled manufacturing and played a dominant role in foreign and domestic trade and agriculture. By 1987, when the reforms began in earnest, 96 percent of the industrial work force was employed in state-owned factories, which produced more than 84 percent of total industrial output. Government control of foreign trade was complete, and its part in retailing was substantial. Similarly, the government owned banking, insurance and other major services. The construction sector alone was the preserve of the private sector.
Feeble attempts to divest state-owned farms and agricultural projects had begun in 1983, but serious privatization began in 1987 and gained momentum in the fall of 1988, after the ceasefire with Iran. The most dramatic changes occurred in the agricultural sector. The steady decline in agricultural yield since the mid-1970s had generated a soaring food imports bill and encouraged widespread rural-to-urban migration.  New agricultural policies reflected a radical shift in emphasis from equity to efficiency, based on production targets set by the Ministry of Planning.  In 1983, a new law allowed individuals to rent state farms for grain production and introduced a variety of subsidies to encourage vegetable and fruit production on privately owned farms. 
Following the agrarian reform of the 1960s, the government had directly owned some 50 percent of all agricultural lands. Between 1959-1974, only 3.7 million acres of the nationalized holdings been distributed. Distribution accelerated in 1983: under Law 117. By 1988, the total land distributed grew to 10.78 million dunams. By January 1989, 53 percent of land was privately owned; 46 percent was rented from the state by private investors; the remaining 1 percent was state-held.  By late 1989, the total agricultural land rented by large grain farmers exceeded 14 million dunams, or about 60 percent of the total farming area. Most of this land had previously been managed by state-owned agribusinesses.  Production subsidies to private agricultural producers departed from previous policies, which had held purchase prices down. In addition to renting lands and selling state farms and agribusinesses at extremely favorable prices, the government doubled production subsidies for wheat, rice, barley, corn and tobacco in 1989, bringing the total subsidies for grains alone to over 300 million Iraqi dinars for that year. 
A variety of very large poultry, dairy and fishing enterprises were sold to the private sector outright. By 1989, 19 of the state’s 29 poultry farms, six of the large poultry feed projects, six of the 10 large dairy farms,  three of the four large government fisheries, and subsidiary services, such as mills and bakeries, had been sold to private investors. 
Privatization of state-owned industries during 1989 was also significant. Whereas Egypt’s widely publicized infitah policy resulted in the privatization of exactly two factories over 15 years, in a single year the Iraqi government sold 70 large factories in construction materials and mineral extraction, food processing and light manufacturing to the private sector.  In addition, the government privatized parts of the service sector, such as small hotels, and leased gas stations to the private sector.
In addition to divestment, the government adopted a number of policies to remove existing barriers to large industrial investments that had been in place since the nationalizations of 1964. In 1983, investment ceilings were raised to 2 million dinars for solely owned and 5 million dinars for limited share companies. In 1988, the ceiling was lifted completely and private investors were permitted for the first time to invest in any sector. The law against cross-sectoral investment was abolished, allowing for the development of large, vertically integrated industrial, trading and agricultural conglomerates. Most important, tax laws which had claimed up to 75 percent of profits and forced large private industries to pay 25 percent of the remaining profits to social security funds for workers were abolished. In 1987, the maximum tax on industrial profits was lowered to 35 percent; in 1989, all industries were given a ten-year tax holiday. Changes in foreign trade regulations were equally dramatic.
Privatization and liberalization were accompanied by trimming the bureaucracy and dissolving labor unions. Over two hundred general directors and their staffs were dismissed. Other changes included worker incentives, greater management autonomy and production bonuses. As a result, production in state-owned factories increased by 27 percent between 1987 and 1988, and labor productivity jumped by 24 percent.
Dramatic as they appear, though, the reforms of the 1980s did not signal a fundamental change in the balance between public and private shares in the economy outside agriculture. The state’s share in manufacturing kept pace due to large investments in heavy industries. Total private industrial licenses for 1989 amounted to only 33 million dinars ($109 million at the official rate; $9.2 million at the “black” market rate) for 117 new industrial projects. In contrast, government investment in downstream petrochemical projects alone was $3 billion that year. At no point did the state’s share of industry fall below 76 percent. Thus, the most important aspect of the privatization and liberalization program was not a decline in the role of the state in the economy but rather a change in the activities that the government decided to reserve for itself.
The government’s role in pricing policy remained significant. Only ten basic food products had fixed prices after the 1989 reforms, but the government twice resorted to temporary price fixing and emergency imports of foodstuffs in that year in response to excessive profiteering. The state retained control of the “feed” projects for agribusinesses; private dairy farms, ranches, fisheries and poultry farms remained dependent on the state for inputs of all kinds. Agricultural production more than doubled between 1988 and 1989. In the industrial sector, efficiency rose, owing to cuts in labor costs, improvements in production methods and, in many cases, substitution of local for imported inputs. Overall, though, levels of industrial production actually declined due to shortages in imported raw materials. 
Despite early successes, these policies soon produced high levels of inflation, unemployment, shortages in basic goods, growing and highly visible economic inequality, and the emergence of a brisk black market in foreign currencies. Before analyzing the immediate and structural causes for the failure of the reforms, it is best to describe their effects on important domestic groups.
The government strove to neutralize social opposition to the reforms, in the process undercutting its traditional sources of support among labor, low-income consumers and the bureaucracy. In 1987 Saddam Hussein dissolved the labor union which had included both private and state sector workers. Workers remaining in public-sector enterprises became regular members of the civil service. Private-sector employees formally had the right to reconstitute labor unions, but only in establishments with over 50 workers, a category which covers only 8 percent of the total industrial work force, about 8,000 workers. Furthermore, labor’s bargaining position was undercut completely by industry’s right to import Arab labor freely under the laws of the new Arab Cooperative Council formed with Egypt, Jordan and Yemen. Membership in the General Union of Iraqi Labor plummeted from 1.75 million in 1988 to a total possible membership of only 7,794 in 1989.
In short, the government began its program by completely undercutting the bargaining power of labor, removing minimum wages and opening up the domestic labor market to Arab labor at a time when some 200,000 members of the armed forces were returning to the civilian work force.  Unlike Egypt and Algeria, where state enterprise workers have been a dominant factor in forestalling privatization, Baghdad did not hesitate to give Iraqi industrialists full power to restructure employment. Not surprisingly, the first act of almost all of the new owners of industries and agribusinesses was to dismiss between 40 and 80 percent of their work forces.
The second major source of opposition to privatization, the bureaucracy, was similarly neutralized before the reforms began. The regime dissolved over 200 “General Directorships,” including their entire staffs. By merging the Ministry of Industry with the Ministry of Military Industries, the state signaled its resolve to maintain ownership of strategic and heavy industries.
Unlike labor and the bureaucracy, consumers lacked organization as well as a formal representative body. The government’s privatization and imports policy allowed the prices of all but a few basic goods to rise unchecked, creating inflation of over 60 percent by the end of 1989. These sudden changes shocked a population long accustomed to stability in consumer goods and to relatively equitable income distribution. Previously, the state set prices by selling imported and local goods directly in the market through retail outlets which were well stocked and open to all citizens. In 1989, the government restricted access to these shops to bureaucrats and the army, and goods stocked by government retail stores narrowed to a few basic items available under a quota system. By the winter of 1989, shortages were so severe that the Baghdad metropolitan area, usually the best supplied in the country, had black markets in eggs and chickens, as well as in foreign currencies. The comments this rising inequality drew from average Baghdadis reminded this writer why the main contenders for political power in Iraq had traditionally been communists, not economic liberals.
The privatization of agriculture transformed the social organization of rural Iraq. In the 1970s and 1980s, the distribution of nationalized agricultural land had been restricted to those farmers who joined cooperatives. The reforms of 1983 delinked land grants from the requirement to join cooperatives; lending to cooperatives through the Agricultural Cooperative Bank plummeted from 21.5 million dinars in 1985 to 91,000 dinars in 1988. 
Unlike their counterparts in the Soviet Union, Poland, Syria, Egypt and Algeria, the Iraqi regime felt no compulsion to solicit a public mandate for these policies, or even to publicly revise its pronouncements on its redistributive philosophy. In many Gulf states, recent attempts to expand stock markets cite the government’s explicit desire to attract small investors and give them a “stake in the system,” but Iraq made no attempts to design policies that would expand ownership. The total number of shareholders trading on the Iraqi stock market remained small. Shares in the lucrative “mixed sector” plants, which had access to government foreign exchange and boasted annual profit rates of between 30 and 90 percent, were used for political patronage.  Not surprisingly, ownership of newly privatized enterprises was highly concentrated. Thirteen of the 70 privatized factories, for example, were bought by the al-Bunniyya family. Not counting agricultural projects, this same family owns 36 of the very largest private industries and over 45 million square meters of land. Many of the new importers, as well as the investors that bought and leased the large government holdings in agriculture and industry, were not traditional private sector elites but had made their fortunes in contracting. Some smaller investors, particularly in agriculture, were retired army officers. Unlike the old commercial elite, the new private sector that emerged had strong political, financial and kinship ties with the regime.  The continuing government role in determining access to foreign exchange, raw materials and spare parts ensured that the emerging private sector would have to maintain close contact with the bureaucracy.
Failure of Iraqi Reforms
None of the conventional explanations for liberalization and privatization measures -- fiscal considerations, external pressure and the “coming of age” of the local bourgeoisie -- explain the timing or the substance of Iraq’s reforms. The government had no immediate profit motive: the total sale price for the 70 privatized industries was only 305 million dinars. In most cases, the prices paid barely covered the market cost of the land the factories were built on. The government required only a down payment of 40 percent, to be transferred in increments.
Neither do these reflect a learning process in economic planning and management, coupled with advances in the skills and resources of the private sector. In contrast to substantial capital stores enjoyed by the old commercial, landed and industrial elite prior to 1958, since 1968 the state had confined the activities of the traditional private sector to retailing, wholesale, transportation and small artisan industries and crafts. 
Finally, international donors and agencies played a negligible role. Despite its foreign debt, estimated to be about $30 billion to Western creditors, Iraq strictly controlled the scope of external influence in the economy, dealing with each creditor separately and avoiding lender consortia. Indeed, Iraq’s refusal to make public its borrowing history increased the reluctance of international banks to extend more credit in 1989 and 1990.
Iraq’s economic policies in the late 1980s embody rather stark distributional decisions. The regime’s choices were strictly circumscribed by the aim of achieving military parity with Israel and strategic superiority over Iran. This was not, in itself, evidence of expansionist ambitions; rather, Iraq sought to become strong enough militarily to forestall aggression from any regional power.
The state’s choices suggest a rather unique formula of economic transformation, in which all political pacts could be altered in the quest for military invulnerability. The government took the clearest path to achieve savings in foreign exchange by turning over consumer imports and non-strategic parts of the economy to the private sector. The speed with which the policies were undertaken, and the sheer impunity with which they were enforced, testified to the capacity of the regime’s repressive apparatus to override any opposition.
The most immediate source of the crisis, then, was a foreign currency shortage resulting directly from outlays for military industries. But there were deeper causes. The administrative problems of monitoring the private sector were far more difficult than anticipated. To ensure that bread reached consumers at fixed prices, for example, the government subsidized producers and consumers alike, but as the farms, mills, bakeries and retail outlets were divested, price fixing began to require substantial administrative resources. There were no direct links between either local producers and processing industries or between exporters and producers which could have alleviated this administrative burden.
Ironically, the very factors that guaranteed the initial ease with which these measures were undertaken presaged their failure. Opposition from labor, consumers and the bureaucracy could be repressed, but the market reforms required the confidence of local and Arab investors as well as that of the large contingent of Iraqis abroad whom the regime was encouraging to return. Investors, though clearly the most favored group, lacked confidence in the regime’s long-term commitment to private enterprise, and responded to this uncertainty by pricing goods at the highest possible level. Attempts to attract serious long-term investments, such as the sale of the large government-owned luxury hotels, failed due to investors’ lack of confidence in the regime’s commitment to upholding property rights. The government’s desire to retain shares and representation on the boards of directors increased this apprehension.
Even in the mushrooming foreign trade sector, importers of luxury goods responded to the new policy with caution; while new import regulations allowed merchants to use externally held funds, the law prescribing the death penalty for holding foreign currency abroad was not formally repealed. In addition, the government’s promise to review the free imports policy after three years engendered uncertainty among importers and led to hoarding among consumers.
Contradictions in the trade liberalization policies included the prohibition against the repatriation of profits to fund more imports. Designed to encourage fixed capital investments, this restriction led to a brisk black market in currencies (which the death penalty provision had earlier suppressed). Instead of forcing profits into local investment, though, this policy led traders to transport Iraqi dinars to Kuwait, putting increasing pressure on the exchange value of the Iraqi currency.  Access to dollar-denominated oil revenues protected the government from the effects of this deteriorating exchange rate, but Iraqi industrialists and importers using the black market were forced to pass on costs to consumers.
The government allowed exporters to use 100 percent of foreign currency earnings for capital investments and up to 30 percent for raw material imports, but privatized factories were geared toward supplying domestic, not foreign markets. When most food processing and agricultural enterprises were turned over to the private sector, the government stopped providing raw materials and drastically curtailed state imports of foodstuffs. Foreign exchange shortages, which prohibited capacity expansion, raw material imports and even access to spare parts, were an important reason for large-scale shortages in basic goods.
The costs of the transition were clearly borne by fixed income groups, consumers and labor. In the winter of 1989, many fondly recalled the war years as times of certainty and plenty. Private-sector elites were given wide privileges, but their reluctance to use their own foreign reserves, and the government’s tight control of oil revenues, left them without foreign exchange to meet domestic demand. Furthermore, they saw few of the institutional and social changes necessary for them to gain enough confidence to invest. Like other Third World entrepreneurial elites, Iraqi investors perceive free repatriation of capital as the only true guarantee for investments -- a measure the regime was unwilling to take.
Finally, the reforms failed to introduce domestic competition. Investors designed new projects to gain control of all upstream and downstream activities in a particular product. The sale of industries to the private sector did not unleash competitive forces, but instead transformed public monopolies into private monopolies.
For many of the same reasons, foreign capital shied away from Iraq. British and American businesses clamored for entry into the Iraqi market, and General Motors and Mercedes began construction of joint venture plants with the government, but other non-Arab foreign investment remained strictly prohibited.
The Arab Investment Law of 1989 gave unprecedented benefits to Arab investors, including capital repatriation, guarantees against nationalization and unrestricted labor import rights, yet failed to lure any investors from the rich Gulf states. Palestinian, Lebanese and Jordanian businessmen, because of their high levels of mobility and their experience with making quick investments, used the laws to make quick, lucrative transactions in trade and services. Neither industrial investments nor investments in the large state-owned hotels, slated to be privatized in 1989, materialized.
A characteristically Machiavellian aspect to the government’s choices made investors even more uneasy. By widely publicizing its withdrawal from the economy and divesting itself of those industries that catered specifically to general consumer needs, the government freed itself from direct responsibility for inflation, shortages and the mushrooming black market in goods, currencies and services. Stepping out of its role in mediating between consumers and labor on one hand and producers on the other, the state in effect placed the blame for economic hardships squarely on the shoulders of the newly affluent private industrialists and businessmen. It did not escape the attention of businessmen that the mushrooming resentment of the consumers, bureaucrats and workers who shouldered the burden of these policies became a political tool that the state could use with impunity against the new entrepreneurs at any time.
Thus liberalization and privatization clearly benefited the new business group in the short term, but contradictory economic policies lay open to question the extent to which it is a true and protected client of the regime. By the end of the decade, consumers were directing their discontent against the new industrial and commercial elites. As the crisis deepened, the economic disaster became a political crisis. Civil order in Baghdad began to break down, particularly as large segments of the army were demobilized and returned to find themselves without employment in a highly inflationary environment.
Business and State in Iraq
Did Iraq’s new policies reflect a fundamental shift in the Baathist government’s view of the role of the private sector? Business-government relations in Iraq have historically been marked by dramatic confrontations between the state and the private sector. In the Baathist period, these struggles took on a sectarian color, starkly represented in the different composition of the bureaucracy and the merchant class. The historical lineage of these relationships lays open to question the widely accepted notion that Iraq has always had a “weak bourgeoisie” and the “strong state.”
In the pre-revolutionary period, Iraq’s business elite was not weak either in relation to the government or in relation to labor. Under the British mandate, the domestic merchant class was allied with foreign companies who held legal monopolies and wielded much political power through the British administration.  In contrast, the regulatory and administrative capacities of the Iraqi state have historically been weak. Parliament under the monarchy was dominated by a landed elite that controlled virtually all the productive farmland and had a keen interest in preserving the monopolies which collected, packaged and transported Iraq’s substantial agricultural exports. Business-government relations were marked by dramatic confrontations related to the state’s unsuccessful attempts to enforce price fixing and curtail profiteering.
Social cleavages between business and state elites in Iraq were complex. Until 1950, when the British arranged to airlift the vast majority of Iraqi Jews to Palestine, commerce and banking were dominated by a small Jewish minority who collaborated with British companies in trade, finance and service monopolies.  After 1951, a mix of Persian and Kuwaiti merchant families, the vast majority of whom were Shi‘i, settled in Basra and filled the gap in finance and commerce left by the exodus of the Jewish merchants.  Unlike the Hijazi commercial class, whose activities were confined to a small commercial enclave centered around the annual pilgrimage, the power of these two groups and their foreign patrons extended into all aspects of Iraq‘s economy.  With the replacement of the Jewish merchant communities, Shi‘is dominated the ranks of both the landed and merchant elite, while the civil service and the army remained in the control of the Sunni Arab minority. 
Rather than being a plan to “develop” or “catch up,” the direct entry of the state into the economy was a response to a recalcitrant and monopolistic private sector dominated by minorities or a small group of monopolists, a pattern not unique to Iraq. The same fundamental trends led to nationalization in Turkey, Egypt, Syria, Pakistan and several East African counties. In Iraq, as elsewhere, the deep cleavages between the state and business meant that the regulation of business was tightly entwined with pressing issues of national integration and state building. Owing to Iraq’s colonial legacy and the strength of the private-sector conglomerates, these were expressed in a particularly stark form.
During ‘Abd al-Karim Qasim’s tenure (1958-1963), private investors, largely of the Shi‘i south, withheld industrial investments and created shortages in basic commodities in attempts to destabilize a regime which was seen as being too close to the Communist Party. Despite Qasim’s proclaimed support of local industry, his populism was based on economic measures that could hardly have won the support of the commercial classes, such as limits on profits for consumer goods, cuts in prices and rents, and land reforms.  The series of coups that followed Qasim’s regime saw the ascendancy of the army and a subsequent purging of Shi‘i elements within the Baath Party. In 1964, under the guise of preparing for economic and political union with Nasser’s Egypt, the regime of ‘Abd al-Salam ‘Arif nationalized all agricultural lands, industry, banking, insurance and services, virtually eliminating the top layer of the largely Shi‘i commercial elite.
Following incremental and sporadic entry into commodity markets and banking, coupled with episodes of unsuccessful regulation, after 1964 the Iraqi state finally began to manage all aspects of the economy, from imports and production to distribution and retailing. Subsequent regulation forced the private sector to confine itself to small industry, retailing and transportation. The abrupt nationalization in Iraq was the result not of a stronger and more powerful state -- that came later -- but rather of the insularity and strength of the domestic private sector and its foreign collaborators who were bent, for a variety of reasons, on destabilizing the populist regime of Qasim and the Sunni-dominated regimes that followed him.
Preserves of the State
The initial confrontation between the government and the private sector determined the long-term character of state intervention in Iraq’s economy. In the 1970s, the enormous inflow of oil revenues allowed the Baathist regime to create new social bases of support. In other oil-exporting countries, this process resulted in the creation of a client private sector. In Iraq, however, oil revenues expanded the government’s role in direct ownership and control of industry, trade, agriculture services and even retailing.
The Iraqi state’s core supporters were located in the army and the bureaucracy, not in a client merchant and industrial class. Key positions in these institutions, in turn, increasingly became the preserve of individuals from Tikrit and its environs, many of whom were related to Saddam Hussein. The government took every opportunity to eliminate the Shi‘i leadership in both the economic and the socio-religious realms, through mass deportations, imprisonment and more violent methods. Apart from the top echelons of the Baath Party, the private clients of the government were confined to a very small new class of contractors who dominated the entire construction sector and benefited enormously by winning state construction projects or acting as intermediaries between foreign companies and the state.
The new Iraqi business elite is both newer and considerably smaller than its counterparts in the conservative Gulf states. Membership of the Riyadh Chamber of Commerce alone grew from 193 in 1964 to 18,393 in 1984, not counting the large modern artisan and retailing group. The top echelon of the new Iraqi private sector, in contrast, has fewer than 3,000 families nationwide. Apart from a core of about 200 wealthy contractors who were infiltrating the newly liberalized industrial, agricultural and trade sectors by hiring laid-off state managers to work for them, industry is concentrated among a handful of industrial families, some of whom managed to expand their activities in the 1970s despite state regulations. 
Second, while the new Iraqi investors enjoy wide privileges to profit from the current reforms, the Iraqi government has not given the group the guaranteed rates of return common in Saudi Arabia. Thus, while they may represent a consolidation of the regime’s base of support,  they buffered the state from the resentment of consumers and laborers in the transition period. Their physical and financial insecurity grew from the government’s refusal to redefine property rights, to legitimate publicly the activities of private enterprise, to liberalize information and to provide foreign exchange for new capital investments. These factors underlie the failure of Iraq’s market reforms.
Why did the Iraqi government trade large constituencies, such as state employees, workers and consumers, for a tiny group of entrepreneurs? By the end of the war with Iran, the Baathists had achieved a substantial portion of their aims in destroying internal opposition from groups that threatened the integrity of the state. They sought to redefine Iraqi history, confident that the main threats to national unity had been eliminated. In symbolic terms, they reappropriated parts of Iraqi history that had been expunged from the monuments and textbooks for decades -- the monarchy, the nationalists and even Qasim. (The expansion of Iraq’s historical identity notably did not include any Shi‘i symbols.) This project concluded with the government’s confident call for exile and dissident groups, especially the old capitalist classes, to return to Iraq and participate in the reconstruction agenda the government itself had already set. Only a regime that felt more in control of its population than ever before would temporarily use a capitalist class to serve simultaneously as a source of capital and as a scapegoat.
From Reform to Belligerence
The new orthodoxy in development economics misrepresents the ease with which transitions to market economies occur. The example of Iraq illustrates the severity and depth of difficulties that regimes encounter when trying to liberalize the market and foster competition. The failure of market reforms in Iraq points to the dangers of “shock therapy” and the need for institutional changes to achieve local competition.
The initial ability of the Iraqi state to push through radical economic reforms was related to the organizational weakness of those social groups hardest hit by the economic restructuring. The authoritarian character of the regime and its ability to dissolve unilaterally long-standing consumer and labor entitlements was crucial in the first months of the program.
The virtual absence of a domestic entrepreneurial elite facilitated the transition. Initiating market reform in societies where business entitlements are stronger has proven much more complicated, as in countries with strong labor movements. The cases of Egypt, India, Turkey, Poland and Algeria illustrate the point. The highly disruptive initial phase of introducing market reforms is likely to be easier in highly authoritarian countries, where the government can mobilize enough political will and deploy enough repression to overcome social resistance, and where a protected entrepreneurial class does not exist.
Sustaining initial gains requires institutional, political and social changes that favor recurrent investment by creating stable legal institutions, defining property rights and liberalizing information. While investors may be willing to risk investing in projects that promise instant profits, sustaining this interest in the context of competition from other domestic producers requires a fundamental transformation of institutions and attitudes.
Many less developed countries have relied heavily on external capital inflows over the past 15 years to meet their foreign exchange commitments, with many of the same distorted outcomes as those found in Iraq. In some countries, such as Algeria and Jordan, economic reform has been accompanied by political liberalization, but the two are unlikely to coexist. Long-term economic growth can only be achieved with the help of foreign investors who are likely to demand low domestic wages, repatriation of profits and tax holidays. These require holding down local wages and squeezing nationals for tax revenues -- policies that tend to shrink the political constituencies of liberalizing regimes quickly.
Iraq’s domestic economic crisis flowed directly from the liberalization program of 1989 and 1990. As the crisis deepened, the regime’s sources of foreign exchange shrank. As Iraq’s secret and illegal borrowing strategies were revealed in the international press in 1990, foreign creditors withdrew prior commitments. It was in this context that Iraq demanded the cancellation of its foreign debt to Saudi Arabia and Kuwait. While the Saudis immediately complied and signed a non-aggression treaty in early 1990, the Kuwaitis refused to cancel Iraq’s debt, continued to pump oil from the disputed Rumayla oil field and refused to negotiate on the two uninhabited islands that would have given Iraq access to the Gulf. Iraq is not the first country to use military means to secure economic goals, and will not be the last. Garbled messages from Washington and the extraordinary intransigence of the Kuwaiti government in negotiating Iraq’s grievances represent intriguing elements of the immediate sequence that led to the invasion, but Iraq’s domestic economic problems are much more central to explaining the desperation that precipitated Baghdad’s invasion of Kuwait.
 Compare Ibrahim Helmy Abdel-Rahman and Mohammed Sultan Abu Ali, “Role of the Public and Private Sectors with Special Reference to Privatization: The Case of Egypt,” pp. 141-181; Jawad Anani and Rima Khalaf, “Privatization in Jordan,” pp. 210-225; Mohammed Bouaouaja, “Privatization in Tunisia: Objectives and Limits,” pp. 234-246, all in Said El-Naggar, Privatization and Structural Adjustment in the Arab Countries (Washington, DC: International Monetary Fund, 1989).
 Kiren Aziz Chaudhry, “The Price of Wealth: Business and State in Labor Remittance and Oil Economies” unpublished Ph.D. thesis, Harvard University, 1990; and “The Shifting Fortunes of the Public and Private Sectors in Oil Exporters: Saudi Arabia and Iraq in the Post-Boom Era,” paper presented to the Social Science Research Council, 1987.
 Agricultural policy and production trends are summarized in Robert Springborg, “Infitah, Agrarian Transformation and Elite Consolidation in Contemporary Iraq,” Middle East Journal 50/1 (1986).
 It is perhaps slightly ironic that after the disruptive land reforms of the 1960s and 1970s, the missionary zeal of the rural development programs eclipsed to the point where lands leased under the current program are legally prohibited from sinking below 62.5 acres.
 See Springborg, op cit.
 Government of Iraq, Statistical Yearbook for 1988, p. 130.
 The government-owned grain farms that were rented are huge and in many cases were leased by a single person. Two of these, for example, were 29,000 and 25,300 dunams each. Between 35 and 40 of the smaller state farms remain under government control.
 The official exchange rate was $3.30 to the dinar, but the unofficial “black” market rate in November 1989 was 28 cents to the dinar. The exchange rate matters little to the government because it gets its dollars through oil sales.
While the actual price of wheat remains well below international prices, subsidies to consumers, in the form of the difference between the price at which wheat is bought and the price at which the government provides it to the bakeries is $80 per ton. The subsidized grain purchase prices were raised in September 1986 as follows (all figures in Iraqi dinars per ton): wheat: 270 (from 170); rice: 500 (from 400); barley: 180 (from 120); corn: 550 (from 450). Whether or not these subsidies raise the domestic price of these products above their international prices depends on whether the dinar is valued at the official or black market rates. For example, the international price of wheat is about $170 per ton. Using the official and black market exchange rates, the domestic purchase price of wheat in 1989 would be $891 and $90, respectively.
 All of these enterprises were very large. For example, the capacity of each poultry farm was between 100-270 million eggs. The capacity of the dairy farms was not less than 800 milk cows each. In at least three cases, the dairy farms were in mint condition, as they had not yet begun production.
 The government retained two of the 12 mills and 14 of the 20 bakeries, and planned to sell all bakeries but one by the end of 1990.
 Of these, 66 factories were sold by auction to individual investors and four were transferred to the “mixed sector,” in which the Industrial Bank, individuals and other mixed-sector companies hold shares.
 An example might clear up this otherwise confusing assessment. The Diyala Tomato Canning Factory, recently sold to an experienced industrial family, used to produce 7,350 tons of canned tomatoes from concentrate imported from Czechoslovakia. When it was government owned, the factory worked all year and employed 286 workers. Concentrate imports were cut completely in 1989, forcing the factory to use only domestic fresh tomatoes. Working for only 3 months and employing only 200 workers, under private ownership the factory produced 3,000 tons of canned tomatoes in 1989. While retail prices were 2.56 dinars/kg in 1988, in 1989 the retail price was 3.66/kg, a price hike of 43 percent.
 The resulting violence against foreign workers, mainly Egyptians, prompted the government to lower the limit on legal remittances to 10 dinars per month, precipitating an exodus of foreign labor.
 From 1,635 cooperatives with 23,109 members in 1975, the number of cooperatives plummeted to 713 by the end of 1988. Collective farms declined from 79 to seven; and specialized cooperatives shrank from 173 in 1975 to 52 in 1988. See Robin Theobald and Sa‘ad Jawad, “Problems of Rural Development in an Oil-Rich Economy: Iraq, 1958-1975,” in Tim Niblock, ed., Iraq: The Contemporary State, p. 204; and Government of Iraq, Statistical Yearbook for 1988, pp. 125, 128.
 In 1989 there were 59,348 shareholders in the 19 mixed-sector industries and the three private joint stock companies. The nominal capital of these industries is only 242 million dinars.
 Saddarn Hussein’s son, ‘Uday, is said to be the dominant shareholder in the lucrative Baghdad Pepsi plant, although the Industrial Stock Exchange could not confirm this.
 These activities appear in official statistics under the euphemistic title of “small industries” and employ over 220,000 workers -- roughly twice the number of workers in state-owned industries, but cover only a minuscule proportion of total economic activity. Government of Iraq, Statistical Yearbook, 1988.
 Prior to the ban in November 1989 on Arabs purchasing real estate in Iraq, Iraqi dinars were widely used by Kuwaitis to purchase land in and around Baghdad.
 The behavior of the British in Iraq is covered extensively in Peter Sluglett’s excellent account, Britain in Iraq (Oxford: St. Antony’s Middle East Monographs, 1976).
 The total Jewish population was estimated to be 90,000 in 1938, or slightly more than 3 percent of the population (Report from Sir Henry Mack, Baghdad, 23 March, 1950. PRO EQ 1103/1 v. 82422). According to British records, as many as 75 percent of importers, exporters and commission agents were Jewish, as were many retailers. All of the money changing and informal ending to retailers and wholesalers was controlled by the Jewish community (Baghdad Report, 21 March, 1950, PRO EQ 1103/2, v. 82422). The three British banks, Easter, Imperial Bank of Iran and Ottoman Bank, were used mainly by foreign companies and by the money changers themselves. In 1938-1939, of the 498 members of the Baghdad Chamber of Commerce, 212 were Jewish, 87 were Shi‘i, 43 were Christian and 156 were Sunni. See Hanna Batatu, The Old Social Classes and the Revolutionary Movements of Iraq (Princeton, NJ: Princeton University Press, 1978), p. 245.
 This policy was described by the British as “rather a first step in trying to get the Kuwaitis to invest some of their embarrassingly large oil wealth in southern Iraq and leaving the Iraqi government presumably to spend its new oil riches in Baghdad and northern Iraq” (Basra Report, March 1953, PRO EQ 1015/4, v. 104664, p.3).
 According to one estimate, 73 families held 65 percent of the total commercial and industrial capital of Iraq by 1958 (Batatu, p. 274).
 Batatu, p. 49 and pp. 271-272.
 See Fran Hazelton, “Iraq to 1963,” in Saddam’s Iraq (London: CARDRI, 1986), pp. 1-29.
 These include such families as al-Bunniyya, al-Bahrani, al-Rawi and the family of Muhammad Kafil Husayn.
 Robert Springborg and Isam al-Khafaji both support this view in “Agrarian Transformation” and “The Parasitic Nature” respectively.