Freeing the Dinar from the Official Rate: Obstacles and Solutions

Reading between the lines… is demonetization on the horizon?

Source: Al-Alam Al-Jadid Newspaper [Translated to English]

January 13^th, 2024 – With the return of fluctuations in the exchange rates of the Dinar, the discussion about the necessity of getting rid of the “official rate” is renewed. The aim is to reduce the gap with the rate in the parallel market, by subjecting the local currency to global supply and demand, similar to other countries. However, there are many obstacles to this step, including the “unilateral economy” of Iraq which relies on oil and government revenue, and the absence of correspondent banks in Dinar currency, according to specialists. They also called for other possible solutions, such as “deleting zeros” from the currency, and withdrawing the monetary mass from citizens and transferring it to banks.

Mudhar Mohammed Saleh, the financial advisor to the Prime Minister, says, “The exchange rate of the Iraqi Dinar follows a fixed exchange rate system, and the process of setting the exchange rate is one of the tasks of the monetary policy of the Central Bank of Iraq as it is the independent entity, especially since Iraq primarily depends on oil sources that provide foreign currency. Thus, oil revenues are transferred to the Iraqi Central Bank, and the reserves follow a mechanism of exchange between the Dinar and the Dollar, considering that the Central Bank is the source of exchange between them.”

The exchange rates of the Dollar in the local market witnessed significant fluctuations in the past few days, where it suddenly dropped to 148,000 Dinars for every 100 Dollars, then quickly rose to 150,000 Dinars, and then continued fluctuating until it reached 154,000 Dinars for every 100 Dollars, after it was close to about 157,000 Dinars.

Saleh adds, “The balance and stability of the price in flexible exchange rate systems require a financial and banking market, where interest rates play a major role in the inflows and outflows of foreign currency. This is not available in Iraq, and the economy is unilateral, dependent on governmental oil revenues for foreign currency inflows, where the forces of supply and demand are not homogenous with the unilateral economy.”

He continues, “The economy sometimes faces a large deficit in the current account and in the balance of payments, and the general budget also faces a deficit. Here, governments resort to loans and are forced to reduce the national currency so that the foreign currency becomes expensive. This is what is called financing from inflation, and although this conflicts with the policy of the Central Bank, it is done in consultation with monetary and fiscal policies.”

He points out that “the function of the Central Bank, in general, is to maintain the exchange rate and its stability for a long period, but this depends on the nature of the current account and the balance of payments, whether there is a surplus or there is a long-term or stable deficit, and also the nature of the budget whether it is expansionary or contractionary. So, the issue is not easy, as all we need in the exchange rate is a circle for consultation and communication between monetary and fiscal policies to maintain its stability.”

It is worth mentioning that since the beginning of the exchange rate crisis more than two years ago, many options have been proposed to control it, including printing new currency denominations like 100,000 Dinars, or deleting three zeros to control the rise in the value of numbers in cash transactions.

Iraq has suffered since the 1990s and during the imposition of economic sanctions, from significant inflation in the currency, which led the previous regime to print currency locally. After 2003, the previous currency was destroyed and new denominations were issued, and its exchange rate was fixed against the Dollar by order of the then Civil Administrator of Iraq, Paul Bremer, who revealed the new currency and its exchange rate against the Dollar.

On his part, the economic expert Nasser Al-Kinani, indicates, “Regarding the fluctuation of the Dinar, the Central Bank used to sell the Dinar at 1,118 per Dollar, then it was changed since the arrival of the previous Prime Minister Mustafa Al-Kadhimi to power and the emergence of the white paper, where its price increased and became 1,450 Dinars. In addition to that, the Iraqi Dinar began to rise until it currently reached 1,530 Dinars for every Dollar in the local market, but despite this, solutions can be found for this problem.”

He explains, “The solutions revolve around reprinting the currency anew and zeroing it, especially if the printing process is accompanied by a process of retrieving hoarded money inside homes to the banks. From here, it is possible to fix the Iraqi Dinar by giving banks a percentage for each citizen who owns an account or opens an account inside the bank, for example, 10 percent, to be a deposit for the citizen inside the bank.”

He continues, “The above steps will lead to solving the issue of imports that the government is currently suffering from and trying to control to limit smuggling. The stability of the currency and the activation of local industry and agriculture will overall lead to solving all economic and currency problems.”

Iraq, according to the Central Bank of Iraq’s website, has 80 operating banks, including 62 local and 18 branches of foreign banks.

It is worth noting that the Iraqi banking sector is neglected by citizens who have lost confidence in it. According to World Bank figures released last year, only 23 percent of Iraqi families have an account in a financial institution, which is among the lowest rates in the Arab world, especially since those account holders are state employees whose salaries are distributed to public banks at the end of each month. However, these salaries also do not remain long in the accounts, as queues quickly form in front of banks from employees withdrawing their salaries in cash and preferring to keep it in their homes.

On his part, the financial and economic expert Mustafa Akram Hantoush, points out, “The local Iraqi currency is printed by the state and gives its value in exchange for other currencies or gold, that is, currencies or metals in the global supply and demand market.”

Hantoush notes, “Currencies exposed to supply and demand are currencies that have countries and have correspondent banks for their currencies. For example, the Dollar, there are banks that correspond in Dollars so that the whole world receives and trades in it, therefore such a currency is considered a flexible currency with variable prices.”

He continues, “The Iraqi Dinar, used to have correspondent banks with a global currency that is used in international trade, and here its demand would be higher, thus increasing the value of the Dinar. However, Iraq as a country currently does not have correspondent banks, therefore its national currency is a local currency and does not subject to global supply and demand, as it is a currency issued in exchange for other currencies, and the process in it is fixed and does not rise to be a global process.”

It is worth mentioning that Washington intervened in the Dollar smuggling crisis last year, and Iraq was subjected to the global SWIFT system, creating a gap between the parallel and official markets, and increasing the loss of confidence in Iraqi banks. Dozens of banks were subjected to American and Iraqi sanctions without addressing the depositors’ money, in addition to most banks currently being involved in smuggling operations, as confirmed by the U.S. Treasury Department.