• 

In a report by The Wall Street Journal (WSJ), Iraqis are blaming an unexpected culprit for the country's weakening currency, which has driven up the cost of food and imported goods: a little-noticed policy shift by the US Treasury and the Federal Reserve Bank of New York.

In a move to double down on sanctions against Iran and other heavily sanctioned Middle East countries, the New York Fed began enforcing tighter controls on international dollar transactions in commercial Iraqi banks in November, US and Iraqi officials said. 

According to the report, Iraqi banks had been operating under laxer regulations since shortly after the 2003 US invasion. However, years of US-sponsored weak governments and crises—from the insurgency during the US occupation to the ISIS takeover of large portions of the country—have led successive administrations to postpone bringing Iraq's banking system into 'compliance' with US money-transfer practices until now, according to officials.

According to US and Iraqi officials and official Iraqi government data, 80% or more of Iraq's daily dollar wire transfers, which previously totaled more than $250 million on some days, have been blocked since the procedures went into effect due to insufficient information about the funds' destinations or other errors.

What is the Fed's shock policy?

With dollar scarcity, Iraq’s currency has fallen as much as 10% against the dollar, leading to sharply higher prices for imported goods, including staples such as eggs, flour, and cooking oil, the report stated. 
 
“For 20 years we followed the same system,” said Mahmood Daghir, chairman of Al Janoob Islamic Bank and a former Central Bank of Iraq official. “But the shock policy by the Fed has made a crisis inside the Iraqi economy.”

The upheaval exemplifies Washington's wary but intertwined relationship with Baghdad. Because so much of the Iraqi economy is based on cash, the US dollar has largely become the country's primary currency since the US intervened in establishing the Central Bank of Iraq in 2004.

Every few months, planes deliver pallets of US currency to Baghdad to keep the country stocked with dollars. Far more dollars, however, flow electronically in transactions processed by Iraq's private banks from Iraq's official accounts at the New York Fed, where proceeds from oil sales are deposited.

According to the report, officials in Baghdad were expecting tighter 'rules' for electronic dollar transfers by Iraqi private banks, citing US officials, adding that they were implemented jointly in November, after two years of discussions and planning by the Central Bank of Iraq, the US Treasury and the Fed.

However, the investigation into dollar transactions set off a rush for greenbacks in Iraq and a torrent of criticism from Iraqi officials, bankers, and importers who put the blame on the new system for an unnecessary financial jolt that made their economic woes worse. 

How does it affect the Iraqi government? 

Iraqi Prime Minister Mohammed al Sudani, who took office just as the currency began to fall, said the Fed's actions were harming the poor and jeopardizing his government's budget for 2023, according to WSJ.

In an interview, he said that “this is embarrassing and critical for me,” adding that he would send a delegation to Washington next month with a proposal for a six-month moratorium on the new policy.
Some senior Iraqi officials that are anti-US have been even more critical.

“Everyone knows how the Americans use the currency as a weapon to starve people,” Hadi al-Amiri, the head of an anti-US political party told the French ambassador in a Jan. 10 meeting, according to an account released by Amiri’s office.

Transfer suppression 

Under the new procedures, Iraqi banks must submit dollar transfers to the central bank via a new online platform, which are then reviewed by the Fed. Citing US officials, the WSJ stated that the system is intended to reduce the use of Iraq's banking system to send dollars to Tehran, Damascus, and other Middle Eastern money laundering havens.

Under the old rules, Iraqi account holders were not required to disclose to whom they were sending money until the dollars had already been transferred, according to Daghir, the former central bank official.

On another note, a spokesperson for the New York Fed said of accounts it maintains for foreign governments, such as Iraq’s, “We have a robust compliance regime for these accounts that evolves over time in response to new information.”

US blocks transactions 

The Federal Reserve and Treasury Department temporarily halted the flow of billions of dollars to Iraq's central bank in 2015, citing concerns that the currency was ending up in Iranian banks.

The impact of the tighter controls implemented in November can be seen in the sharp decline in dollar transactions by Iraqi banks, which the central bank tracks on its website, according to the WSJ. 

Last year on October 17,  before the new rules went into effect, the daily transfer from Iraq's official accounts at the New York Fed and other overseas institutions was $224 million, according to data.

It was $22.9 million on January 17, reflecting a drop of nearly 90%.    

Read next: Baghdad II confirms need to stand by Iraq in the face of challenges

Because they are unable to use banks, Iraqi importers have had to postpone orders while they work to 'comply' with the new rules or find alternative ways to pay suppliers, such as through informal money-transfer networks known as hawala. Some traders are loading up on dollars and shipping them out of Iraq in vehicles. 

According to Ghaith al Badry, the owner of a small cellphone shop in Baghdad, the rising value of the dollar has reduced sales of imported goods.

He claims that a Samsung smartphone he purchased in dollars in Dubai and sold in November for 200,000 dinars is now worth 219,000 dinars. Badry claims that as food prices rise, his customers have vanished.

“No one is buying mobile phones,” he said in his empty shop. “They’re worrying about food.”

Read next: Iraq opens investigation into theft of $2.5 billion of gov't funds