The U.S. decision to kill Qassem Soleimani in Iraq, and the retaliatory efforts—military and political—by Iran and its allies in Baghdad to end U.S. military presence in the country expose Iraq’s economy—among other things—to great risks. 

The peril emanates from President Donald Trump’s threat to impose economic sanctions on Iraq if Baghdad pressed forward with the demand to force out the U.S. under the pretext of restoring the sovereignty that Washington violated by killing Soleimani on Iraqi soil. 

In the characteristically aggressive Trump style, the American president made sure to deliver the point that the sanctions will be “like they’ve [Iraqis] never seen before, ever. It’ll make Iranian sanctions look somewhat tame.” But is the threat real, or is it mere hot air from Washington?

The question is serious and highly consequential for Iraq. Trump’s words caused immediate distress and conjured up painful reminders of the traumatic experience of the 1990s international sanctions in the aftermath of Saddam Hussein’s invasion of Kuwait. A repetition of that experience, even on a limited scale, would be very damaging to Iraq’s fragile economy and security.

How likely are sanctions, and what would they look like? Let’s consider the positions of the main stakeholders – the U.S., Iraq, and Iran.

For the U.S., subjecting Iraq to sanctions would run contrary to the traditional views on U.S. interests and objectives in the country.

For the U.S., subjecting Iraq to sanctions would run contrary to the traditional views on U.S. interests and objectives in the country. This includes ensuring the lasting defeat of ISIS and preventing the rise of other violent extremist groups, promoting economic growth and maintaining stable energy supplies, and checking Iran’s influence and power in Iraq.

All three objectives would be severely undermined if the Iraqi government pushed for U.S. withdrawal on terms unfavorable to Washington, and the latter retaliated with sanctions of the severity Trump has alluded to. Severe sanctions would likely target Iraq’s military needs, oil industry, and financial sector. 

The degradation of these vital sectors would expose Iraq to greater risk of ISIS resurgence, depress its oil-dependent economy, further destabilize its fragile politics—convulsing from four months of violent crackdown on widespread protests—and usher in a new period of isolation that would likely enable Iran to absorb Iraq deeper into its sphere. 

A normal White House would be expected to avoid this path if at all possible. But this is no normal White House.

For Iran, letting Iraq fall under U.S. sanctions would be very damaging to their own economic interests. Since the U.S. walked out of the Joint Comprehensive Plan of Action (JCPOA) and re-imposed sanctions on Iran, Tehran has been looking to expand its foothold in Iraq’s economy in a bid to turn it into a third lung. 

Iran insists that it must expand trade with Iraq, even though Iranian goods already fill Iraqi shops and homes, to the detriment of Iraqi businesses, and Iranian gas and electricity support a third of Iraq’s electrical grid. 

Iran has also exploited Iraqi banks to bypass scrutiny and funnel money to Hezbollah and other proxies.

Iran has also exploited Iraqi banks to bypass scrutiny and funnel money to Hezbollah and other proxies. An Iraq under sanctions that is cut off from the international financial system could not afford to pay for billions of dollars’ worth of consumer goods nor generate the amounts of hard currency needed to pay Iran for gas and electricity, let alone funnel funds to proxies elsewhere. 

For Iraq itself, there are different angles to consider. For the Iraqi political class, antagonizing the U.S. and inviting sanctions by insisting on expelling U.S. forces would cost them the proverbial goose that lays the golden egg. 

Sanctions could mean lower, possibly much lower, oil revenue available to fund government procurement, which in turn generates kickbacks for political parties. It would also threaten Iraq’s ability to sustain the bloated public sector payroll and wipe out the political parties’ ability to build and sustain patronage networks. 

A disruption of payroll would impact all of Iraq and could rapidly cause current anti-government protests to spread to every province of Iraq, including predominantly Sunni and Kurdish provinces that have so far remained largely quiet. 

Iraq is vulnerable not only to direct sanctions but also to the mere withholding of waivers that allow Iraq to import Iranian gas and electricity despite U.S. sanctions on Iran. Denying Iraq these waivers would create a situation that could put great strain on the Iraqi power grid, especially as the scorching Iraqi summer approaches. It was this kind of disruption to energy supplies from Iran that precipitated the deadly Basra protests in the summer of 2018 and set the Iraqi south on fire.

Iraq’s security would be particularly at risk. Any direct sanctions would imply that a breakdown of security cooperation between Baghdad and Washington has already happened. Matters could get worse if sanctions begin to deprive some of Iraq’s most sophisticated and expensive defense systems—notably its air force’s F-16 jets or M-1 tanks—of spare parts and training and repair support. 

For average Iraqis, the picture is even darker. Millions recall—and hope to avoid reliving—the crushing poverty and deprivation of the 1990s that killed hundreds of thousands from hunger and disease.

All stakeholders therefore have incentives to walk from the brink, but despite the early signs of de-escalation when it comes to the prospects of a major conflict between Iran and the U.S., the crisis is far from resolved. 

The anti-U.S. alliance of Moqtada al-Sadr and pro-Iran militias are backing up their effort in Parliament with mass demonstrations demanding U.S. withdrawal, and with steady militia harassment of U.S. forces and embassy even using rockets. Meanwhile, Trump made sure to remind Baghdad, while meeting President Barham Salih, that sanctions were still on the table.

Iraq can’t afford the consequences of expelling U.S. forces, Washington stands to shoot itself in the foot if it responds to expulsion with sanctions, and Iran must be aware that insisting on pushing the U.S. out of Iraq would backfire.

So, here we are. Iraq can’t afford the consequences of expelling U.S. forces, Washington stands to shoot itself in the foot if it responds to expulsion with sanctions, and Iran must be aware that insisting on pushing the U.S. out of Iraq would backfire. The key question that will determine the outcome is how these stakeholders will perceive and assess the pros and cons of the options available to them.

The first milestone would come in February when the U.S. waiver for Iraq to import Iranian gas and electricity expires and requires renewal. A prudent Washington would renew the waiver or a modified version of it in a manner that reduces Iraqi imports from Iran but does not eliminate them altogether. 

Concurrently, a prudent political class in Baghdad would seek an understanding with Iran and the militias on stopping the rocket attacks and modifying their stance regarding U.S. presence from complete expulsion to phased reduction on mutually agreed upon terms. For the sake of the Iraqi people, let’s hope that cooler heads will prevail.

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