Moody's Rates Iraqi Govt Bonds

Very high susceptibility to event risk

Political and security risks are very high, driven by underlying ethnic and sectarian tensions, and by Iraq's location within an unstable region. Even if dissolution or disintegration is unlikely, the combination of domestic and geopolitical risks affects the government's capacity to service its debt which weighs very heavily on Iraq's rating.

The ISIL insurgency poses the key immediate threat. However, external support for Iraq is increasing, and it is unlikely that ISIL would threaten either Baghdad or the south of the country where most of the population and oil wealth is located. However, overcoming the insurgency is likely to take many years, and to require time-consuming and costly reforms to the security apparatus (professional intelligence, military capacity and organization), and considerable expenditure both on reconstruction and on education and social services. It will also require ongoing external support from Iraq's allies and others in the region with a strategic interest in containing the insurgents.

Domestic political challenges are also very high, with deep, longstanding ethnic and sectarian divisions existing within the country. The current government has focused to a far greater extent than its predecessors on promoting national unity and national identity. For instance, key cabinet positions such as finance minister and defense minister are held by members of the non-Shia population groups. In Moody's view, this holds out the prospect of more cohesive, stable and effective governance of the country in years to come. The challenges it faces in unifying a country facing such deep divisions are nevertheless severe.

While political event risks dominate Moody's assessment, the sizable and weak banking sector, heavily shaped by publicly-owned banks, poses a source of contingent liabilities.

Risks to Iraq's external payments position are mitigated by a large stock of net foreign reserves, which amounted to $59 billion as of August. However, these reserves have been falling since May 2014 when they peaked at $79 billion. According to Moody's estimates, the external vulnerability indicator, which compares short-term external liabilities to the available stock of assets, will rise, but remain below the important threshold of 100%.