United Nations: Observations on the Management and Oversight of the Oil for Food Program
Released: 2004-04-28T00:00:00

Letter

Background

In August 1990, Iraq invaded Kuwait, and the United Nations imposed sanctions against Iraq. Security Council resolution 661 of 1990 prohibited all nations from buying and selling Iraqi commodities, except for food and medicine. Security Council resolution 661 also prohibited all nations from exporting weapons or military equipment to Iraq and established a sanctions committee to monitor compliance and progress in implementing the sanctions. The members of the sanctions committee were members of the Security Council. Subsequent Security Council resolutions specifically prohibited nations from exporting to Iraq items that could be used to build chemical, biological, or nuclear weapons. In 1991, the Security Council offered to let Iraq sell oil under a U.N. program to meet its peoples’ basic needs. The Iraqi government rejected the offer, and over the next 5 years, the United Nations reported food shortages and a general deterioration in social services.

In December 1996, the United Nations and Iraq agreed on the Oil for Food program, which permitted Iraq to sell up to $1 billion worth of oil every 90 days to pay for food, medicine, and humanitarian goods. Subsequent U.N. resolutions increased the amount of oil that could be sold and expanded the humanitarian goods that could be imported. In 1999, the Security Council removed all restrictions on the amount of oil Iraq could sell to purchase civilian goods. The United Nations and the Security Council monitored and screened contracts that the Iraqi government signed with commodity suppliers and oil purchasers, and Iraq’s oil revenue was placed in a U.N.-controlled escrow account. In May 2003, U.N. resolution 1483 requested the U.N. Secretary General to transfer the Oil for Food program to the CPA by November 2003. (Appendix I contains a detailed chronology of Oil for Food program and sanctions events.) The United Nations allocated 59 percent of the oil revenue for the 15 central and southern governates, which were controlled by the central government; 13 percent for the 3 northern Kurdish governates; 25 percent for a war reparations fund for victims of the Iraq invasion of Kuwait in 1990; and 3 percent for U.N. administrative costs, including the costs of weapons inspectors.

From 1997 to 2002, the Oil for Food program was responsible for more than $67 billion of Iraq's oil revenue. Through a large portion of this revenue, the United Nations provided food, medicine, and services to 24 million people and helped the Iraqi government supply goods to 24 economic sectors. Despite concerns that sanctions may have worsened the humanitarian situation, the Oil for Food program appears to have helped the Iraqi people. The Oil for Food program facilitated the operation of the Public Distribution System run by Iraq’s Ministry of Trade. The system distributes a monthly “food basket” that normally consists of a dozen items to all Iraqis. About 60 percent of Iraqis rely on this basket as their main source of food. According to the United Nations, the average daily food intake increased from around 1,275 calories per person per day in 1996 to about 2,229 calories at the end of 2001. Malnutrition rates for children under 5 fell by more than half. In February 2002, the United Nations reported that the Oil for Food program had considerable success in several sectors such as agriculture, food, health, and nutrition by arresting the decline in living conditions and improving the nutritional status of the average Iraqi citizen.

Former Iraqi Regime Acquired an Estimated $10.1 Billion in Illicit Revenue

We estimate that, from 1997 through 2002, the former Iraqi regime acquired $10.1 billion in illegal revenues—$5.7 billion through oil smuggled out of Iraq and $4.4 billion through surcharges against oil sales and illicit commissions from commodity suppliers. This estimate is higher than the $6.6 billion in illegal revenues we reported in May 2002. We updated our estimate to include (1) oil revenue and contract amounts for 2002, (2) updated letters of credit from prior years, and (3) newer estimates of illicit commissions from commodity suppliers. Appendix II describes our methodology for determining illegal revenues gained by the former Iraqi regime.

Oil was smuggled out through several routes, according to U.S. government officials and oil industry experts. Oil entered Syria by pipeline, crossed the borders of Jordan and Turkey by truck, and was smuggled through the Persian Gulf by ship. In addition to revenues from oil smuggling, the Iraqi government levied surcharges against oil purchasers and commissions against commodity suppliers participating in the Oil for Food program. According to some Security Council members, the surcharge was up to 50 cents per barrel of oil and the commission was 5 to 15 percent of the commodity contract.

In our 2002 report, we estimated that the Iraqi regime received a 5-percent illicit commission on commodity contracts. However, a September 2003 Department of Defense review found that at least 48 percent of 759 Oil for Food contracts that it reviewed were potentially overpriced by an average of 21 percent. Defense officials found 5 contracts that included “after- sales service charges” of between 10 and 20 percent. In addition, interviews by U.S. investigators with high-ranking Iraqi regime officials, including the former oil and finance ministers, confirmed that the former regime received a 10-percent commission from commodity suppliers. According to the former oil minister, the regime instituted a fixed 10- percent commission in early 2001 to address a prior “compliance” problem with junior officials. These junior officials had been reporting lower commissions than what they had negotiated with suppliers and pocketing the difference.

United Nations and Security Council Had Responsibility for Oversight of Program, but Iraq Contracted Directly with Purchasers and Suppliers

Both OIP, as an office within the U.N. Secretariat, and the Security Council’s sanctions committee were responsible for overseeing the Oil for Food Program. However, the Iraqi government negotiated contracts directly with purchasers of Iraqi oil and suppliers of commodities. While OIP was to examine each contract for price and value, it is unclear how it performed this function. The sanctions committee was responsible for monitoring oil smuggling, screening contracts for items that could have military uses, and approving oil and commodity contracts. The sanctions committee responded to illegal surcharges on oil purchases, but it is unclear what actions it took to respond to commissions on commodity contracts.

Iraq Negotiated Directly with Oil Purchasers and Suppliers

U.N. Security Council resolutions and procedures recognized the sovereignty of Iraq and gave the Iraqi government authority to negotiate contracts and decide on contractors. Security Council resolution 986 of 1995 authorized states to import petroleum products from Iraq, subject to the Iraqi government’s endorsement of transactions. Resolution 986 also stated that each export of goods would be at the request of the government of Iraq. Security Council procedures for implementing resolution 986 further stated that the Iraqi government or the United Nations Inter-Agency Humanitarian Program would contract directly with suppliers and conclude the appropriate contractual arrangements. Iraqi control over contract negotiations was an important factor in allowing Iraq to levy illegal surcharges and commissions.

When the United Nations first proposed the Oil for Food program in 1991, it recognized this vulnerability. At that time, the Secretary General proposed that either the United Nations, an independent agent, or the government of Iraq be given the responsibility to negotiate contracts with oil purchasers and commodity suppliers. The Secretary General concluded that it would be highly unusual or impractical for the United Nations or an independent agent to trade Iraq’s oil or purchase commodities. He recommended that Iraq negotiate the contracts and select the contractors. However, he stated that the United Nations and Security Council would have to ensure that Iraq’s contracting did not circumvent the sanctions and was not fraudulent. The Security Council further proposed that U.N. agents review contracts and compliance at Iraq’s oil ministry, but Iraq refused these terms.

OIP Was Responsible for Key Oversight Aspects of the Program

OIP administered the Oil for Food program from December 1996 to November 2003. As provided in Security Council resolution 986 of 1995 and a memorandum of understanding between the United Nations and the Iraqi government, OIP was responsible for monitoring the legal sale of Iraq’s oil, monitoring Iraq’s purchase of commodities and the delivery of goods, and accounting for the program’s finances. The United Nations received 3 percent of Iraq’s oil export proceeds for its administrative and operational costs, which included the cost of U.N. weapons inspections.

The sanctions committee’s procedures for implementing resolution 986 stated that independent U.N. inspection agents were responsible for monitoring the quality and quantity of the oil shipped. The agents were authorized to stop shipments if they found irregularities. OIP hired a private firm to monitor Iraqi oil sales at exit points. However, the monitoring measures contained weaknesses. According to U.N. reports and a statement from the monitoring firm, the major offshore terminal at Mina al-Bakar did not have a meter to measure the oil pumped nor could onshore storage capacity be measured. Therefore, the U.N. monitors could not confirm the volume of oil loaded onto vessels. Also, in 2001, the oil tanker Essex took a large quantity of unauthorized oil from the platform when the monitors were off duty. In December 2001, the Security Council called upon OIP to improve the monitoring at the offshore terminal.

OIP also was responsible for monitoring Iraq’s purchase of commodities and the delivery of goods. Security Council resolution 986, paragraph 8a(ii), required Iraq to submit a plan, approved by the Secretary General, to ensure equitable distribution of Iraq’s commodity purchases. The initial distribution plans focused on food and medicines while subsequent plans were expansive and covered 24 economic and social sectors, including electricity, oil, and telecommunications.

The sanction committee’s procedures for implementing Security Council resolution 986 stated that experts in the U.N. Secretariat were to examine each proposed Iraqi commodity contract, in particular the details of price and value, and to determine whether the contract items were on the distribution plan. OIP officials told the Defense Contract Audit Agency they performed very limited, if any, pricing review. They stated that no U.N. resolution tasked them with assessing the price reasonableness of the contracts and no contracts were rejected solely on the basis of price. However, OIP officials also stated that, in a number of instances, they reported to the sanctions committee that commodity prices appeared high but the committee did not cite pricing as a reason to place holds on the contracts.

The sanction committee’s procedures for implementing resolution 986 state that independent inspection agents will confirm the arrival of supplies in Iraq. OIP deployed about 78 U.N. contract monitors to verify shipments and authenticate the supplies for payment. OIP employees were able to visually inspect 7 to 10 percent of the approved deliveries.

Audits Identified Some Operational Concerns but No Fraud

Security Council resolution 986 also requested the Secretary General to establish an escrow account for the Oil for Food Program and to appoint independent and certified public accountants to audit the account. The Secretary General established an escrow account at BNP Paribas for the deposit of Iraqi oil revenues and the issue of letters of credit to suppliers with approved contracts. The U.N. Board of Audit, a body of external public auditors, audited the account. The external audits focused on management issues related to the Oil for Food program and the financial condition of the Iraq account. U.N. auditors generally concluded that the Iraq account was fairly presented in accordance with U.N. financial standards. The reports stated that OIP was generally responsive to external audit recommendations. The external audits determined that oil prices were mostly in accordance with the fair market value of oil products to be shipped and checked to confirm that pricing was properly and consistently applied. They also determined that humanitarian and essential services supplies procured with oil funds generally met contract terms with some exceptions. U.N. external audit reports contained no findings of fraud during the program.

The U.N. Office of Internal Oversight Services (OIOS) conducted internal audits of the Oil for Food program and reported the results to OIP’s executive director. OIOS officials stated that they have completed 55 audits and have 4 ongoing audits of the Oil for Food program. Overall, OIOS reported that OIP had made satisfactory progress in implementing most of its recommendations. However, because we do not have audit authority at the United Nations, we do not have access to individual OIOS audit reports. However, we were able to obtain 7 very brief summaries of OIOS reports covering the Oil for Food program from July 1, 1996, through June 30, 2003. These summaries identify a variety of operational concerns involving procurement, inflated pricing and inventory controls, coordination, monitoring, and oversight. In one case, OIOS cited purchase prices for winter items for displaced persons in northern Iraq that were on average 61 percent higher than local vendor quotes obtained by OIOS. In another case, an OIOS review found that there was only limited coordination of program planning and insufficient review and independent assessment of project implementation activities.

The Sanctions Committee Had a Key Role in Enforcing Sanctions and Approving Contracts

The sanctions committee was responsible for three key elements of the Oil for Food Program: (1) monitoring implementation of the sanctions, (2) screening contracts to prevent the purchase of items that could have military uses, and (3) approving Iraq’s oil and commodity contracts.

U.N. Security Council resolution 661 of 1990 directed all states to prevent Iraq from exporting all products, including petroleum, into their territories. Paragraph 6 of resolution 661 establishes a sanctions committee to report to the Security Council on states’ compliance with the sanctions and to recommend actions regarding effective implementation. As early as June 1996, the Maritime Interception Force, a naval force of coalition partners including the United States and Great Britain, informed the sanctions committee that oil was being smuggled out of Iraq through Iranian territorial waters. In December 1996, Iran acknowledged the smuggling and reported that it had taken action. In October 1997, the sanctions committee was again informed about smuggling through Iranian waters. According to multiple sources, oil smuggling also occurred through Jordan, Turkey, Syria, and the Gulf. Smuggling was a major source of illicit revenue for the former Iraqi regime through 2002.

A primary function of the members of the sanctions committee was to review and approve contracts for items that could be used for military purposes. The United States conducted the most thorough review; about 60 U.S. government technical experts assessed each item in a contract to determine its potential military application. According to U.N. Secretariat data in 2002, the United States was responsible for about 90 percent of the holds placed on goods to be exported to Iraq. As of April 2002, about $5.1 billion worth of goods were being held for shipment to Iraq. According to OIP, no contracts were held solely on the basis of price.

Under Security Council resolution 986 of 1995 and Security Council procedures, the sanctions committee was responsible for approving Iraq’s oil contracts, particularly to ensure that the contract price was fair, and for approving Iraq’s commodity contracts. The U.N.’s oil overseers reported in November 2000 that the oil prices proposed by Iraq appeared low and did not reflect the fair market value. According to a senior OIP official, the independent oil overseers also reported in December 2000 that purchasers of Iraqi oil had been asked to pay surcharges. In March 2001, the United States informed the sanctions committee about allegations that Iraqi government officials were receiving illegal surcharges on oil contracts and illicit commissions on commodity contracts. The sanctions committee took action on the allegations of surcharges in 2001 by implementing retroactive pricing for oil contracts.

However, it is unclear what actions the sanctions committee took to respond to illicit commissions on commodity contracts. Due to increasing concern about the humanitarian situation in Iraq and pressure to expedite the review process, the Security Council passed resolution 1284 in December 1999 to direct the sanctions committee to accelerate the review process. Under fast-track procedures, the sanctions committee allowed OIP to approve contracts for food, medical supplies, and agricultural equipment (beginning in March 2000), water treatment and sanitation (August 2000), housing (February 2001), and electricity supplies (May 2001).

Challenges Facing the CPA and Interim Iraqi Government in Administering Oil for Food Contracts

In November 2003, the United Nations transferred to the CPA responsibility for 3,059 Oil for Food contracts totaling about $6.2 billion; the remaining 2,199 contracts were not continued for a variety of reasons. U.N. agencies had renegotiated most of the contracts transferred to the CPA with the suppliers to remove illicit charges and amend delivery and location terms. A lack of coordination and communication about contract documentation and inadequate staffing affected the transfer process and hampered the ability of the CPA’s Oil for Food coordination center to ensure commodity deliveries continued without disruption. Evolving policy and implementation decisions on the food distribution system, coordination, and the security situation affected the execution of food contracts. The food distribution system created a dependency on food subsidies that disrupted private food markets. The government will have to decide whether to continue, reform, or eliminate the current system. In addition, inadequate oversight and alleged corruption in the Oil for Food program raise concerns about the Iraqi government’s ability to manage the remaining contracts and absorb donor reconstruction funds. The CPA has taken steps, such as appointing inspectors general, to strengthen accountability measures in Iraq’s ministries.

Program Transferred to the CPA in November 2003

According to OIP, it transferred 3,059 contracts worth about $6.2 billion in pending commodity shipments to the CPA on November 22, 2003. Prior to the transfer, U.N. agencies had renegotiated the contracts with the suppliers to remove “after-sales service fees”—based on information provided by the CPA and Iraqi ministries—and to change delivery dates and locations. These fees were either calculated separately or were part of the unit price of the goods. At the time of the transfer, all but 251 contracts had been renegotiated with the suppliers. The Defense Contract Management Agency is renegotiating the remaining contracts for the CPA to remove additional fees averaging 10 percent. The criteria for renegotiating contracts and the amount of the reductions were based on information from the CPA in Baghdad and the ministries that originally negotiated the contracts.

An additional 2,199 contracts worth almost $2 billion were not continued as a result of a review by U.N. agencies, the CPA, and the Iraqi ministries that negotiated the contracts. For example: The review did not recommend continuing 762 contracts, worth almost $1.2 billion, because it determined that the commodities associated with the contracts were no longer needed.

Another 728 contracts, worth about $750 million, had been classified as priority contracts, but were not continued for several reasons. About half—351 contracts—were not transferred because suppliers were concerned about the adequacy of security within Iraq or could not reach agreement on price reductions or specification changes. Another 180 contracts were considered fully delivered. Another 136 suppliers had either declared bankruptcy, did not exist, or did not respond to U.N. requests. It is unclear why the remaining 61 contracts were removed from the priority list.

Suppliers did not want to ship the outstanding small balances for an additional 709 contracts totaling about $28 million.

The largest portion of the $6.2 billion in Oil for Food contracts pending shipment in November 2003—about 23 percent—was designated for food procurement. An additional 9 percent was for food handling and transport. The oil infrastructure, power, and agriculture sectors also benefited from the remaining contracts. Nearly one half of the renegotiated contracts were with suppliers in Russia, Jordan, Turkey, the United Arab Emirates, and France.

Inadequate Communication, Coordination, and Staffing Affected the Transfer and Implementation of Contracts

U.N. resolution 1483 requested the Secretary General, through OIP, to transfer to the CPA all relevant documentation on Oil for Food contracts. However, CPA officials reported that they did not receive complete information, including copies of all contracts. The CPA stated that it received several compact disks in November and January that were to contain detailed contract and delivery data but that the information was incomplete. The CPA further stated that it received incomplete source documents such as the original contracts, amendments, and letters of credit needed to identify the status of commodities, prepare shipment schedules, and contact suppliers. A CPA official stated that, as of April 26, 2004, the center had only 20 percent of the contracts it needed. In addition, the CPA received little information on letters of credit that had expired. Funds for the Oil for Food program are obligated by letters of credit to the bank holding the U.N. escrow account. When these commitments are cancelled, the remaining funds are available for transfer to the Development Fund for Iraq. Without this information, the CPA could not determine the disposition of Oil for Food funds and whether the proper amounts were deposited into the Development Fund for Iraq. The CPA also reported that the database it received was unreliable because it contained mathematical and currency errors in the calculations of contract cost. According to CPA officials, the inadequate data and documentation have made it difficult to prepare accurate reports on the status of inbound goods and closeouts of completed contracts.

OIP officials stated that they had transferred all relevant contract information requested by the CPA prior to the transfer date of November 21, 2003. According to a senior OIP official, OIP and U.N. agencies continued to provide relevant information on revised contract amendments and letters of credit within 2 weeks beyond the transfer date. This official stated that the CPA lost some compact disks and some CPA offices were unaware that other CPA offices had the disks. OIP stated that, on several occasions, it clarified for the CPA the locations of the misplaced disks and issued duplicates for lost disks. OIP further noted that it transferred an operational database to the CPA on November 21, 2003. According to a senior OIP official, the CPA sent one junior staff to be trained, in 3 or 4 days, in managing a very large and complex database. This official noted that a database of this size would inevitably contain some errors, but the errors on this database were not of the magnitude to significantly hamper operations.

In November 2003, the CPA established a coordination center in Baghdad to oversee the receipt and delivery of Oil for Food commodities. The CPA authorized 48 coalition positions, to be assisted by Iraqis from various ministries. However, according to several U.S. and U.N. officials, the CPA had insufficient staff to manage the program and high staff turnover. As of mid-December 2003, the center had 19 coalition staff, including 18 staff whose tours ended in January 2004. U.S. and WFP officials stated that the staff assigned at the time of the transfer lacked experience in managing and monitoring the import and distribution of goods. A former CPA official stated that the Oil for Food program had been thrust upon an already overburdened and understaffed CPA. A November 2003 WFP report placed part of the blame in food shortfalls during the fall of 2003 on OIP delays in releasing guidelines for the contract prioritization and renegotiation process; OIP stated that this was due to the lack of complete information from the CPA on how deliveries were to be authenticated. A September 2003 U.N. report also noted that the transfer process in the northern governates was slowing down due to an insufficient number of CPA counterparts to work with U.N. staff on transition issues.

The center’s capacity improved in March 2004 when its coalition staff totaled 37. By April 2004, the coordination center had 16 coalition staff. Up to 40 Iraqi ministry staff are currently working on Oil for Food contracts. As of April 1, the coordination center’s seven ministry advisors have begun working with staff at their respective ministries as the first step in moving control of the program to the Iraqi government. However, according to a coordination center official, as of April 26, 2004, inadequate staffing continued to hamper the CPA’s ability to ensure that Oil for Food deliveries continue without disruption.

Changing Policy and Implementation Decisions, Coordination, and Security Affect the Management of Food Contracts

According to U.S. officials and documents, CPA’s failed plans to privatize the food distribution system and delayed negotiations with WFP to administer the system resulted in diminished stocks of food commodities and localized shortages. In addition, problems in transportation and communications and general confusion after major combat operations delayed contracts that had been prioritized.

Before the transfer of the Oil for Food program, the CPA administrator proposed to eliminate Iraq’s food distribution system and to provide former recipients with cash payments. He asserted that the system was expensive and depressed the agricultural sector. As a result, the Ministry of Trade began drawing down existing inventories of food. In December 2003, as the security environment worsened, the CPA administrator reversed his decision to reform the food ration system and left the decision to a provisional Iraqi government.

In January 2004, CPA negotiated a memorandum of understanding (MOU) with WFP and the Ministry of Trade that committed WFP to procuring a 3- month, $900 million emergency food stock by March 31, 2004, and assuming the delivery of remaining food basket items to hub warehouses inside Iraq through June 2004. Delays in signing the MOU were due to disagreements about the procurement of emergency food stocks, contract delivery terms, and the terms of WFP’s involvement. No additional food was procured during the negotiations, and food stocks diminished and localized shortages occurred in February and March 2004. The CPA and WFP addressed these problems with emergency procurements from nearby countries.

An April WFP report projected a continued supply of food items through May 2004 except for a 12-percent shortage in milk. Only 55 percent of required domestic wheat has been procured for July 2004 and no domestic wheat has been procured for August. In accordance with the MOU, WFP completed its procurement of emergency food stocks by March 31, 2004. The Ministry of Trade assumed responsibility for food procurement on April 1, 2004.

A U.S. official stated in early March 2004 that coordination between WFP and the Ministry of Trade had been deteriorating. The Ministry had not provided WFP with complete and timely information on monthly food allocation plans, weekly stock reports, or information on cargo arrivals, as the MOU required. WFP staff reported that the Ministry’s data were subject to sudden, large, and unexplained stock adjustments, thereby making it difficult to plan deliveries. However, a State Department official noted in April 2004 that coordination between WFP and the Ministry was improving.

The security environment in Iraq also affected planning for the transfer and the movement of Oil for Food goods in the fall of 2003. The transfer occurred during a period of deteriorating security conditions and growing violence in Iraq. A September 2003 U.N. report found that the evacuation of U.N. personnel from Baghdad, following the bombing of the U.N. office in August 2003, affected the timetable and procedures for the transfer of the Oil for Food program to the CPA and contributed to delays in prioritizing and renegotiating contracts. Most WFP staff remained in Amman and other regional offices and continued to manage the Oil for Food program from those locations. The August bombing of the U.N. Baghdad office also resulted in the temporary suspension of the border inspection process and shipments of humanitarian supplies and equipment. A March 2004 CPA report also noted that stability of the food supply would be affected if security conditions worsened. According to a coordination center official in Baghdad, the worsening security situation during April 2004 has affected the food supply due to (1) the withdrawal of insurance by a major Arab insurance company, which is making it more difficult to find shippers to carry goods into Iraq; (2) a shortage of truck drivers willing to drive in Iraq; and (3) continuing and shifting route closures and generally high-risk conditions.

After the CPA transfers responsibility for the food distribution system to the Iraqi provisional government in July 2004, the government will have to decide whether to continue, reform, or eliminate the current system. Documents from the Ministries of Finance and Planning indicate that the annual cost of maintaining the system is as high as $5 billion, or about 25 percent of total government expenditures. In 2005 and 2006, expenditures for food will be almost as much as all expenditures for capital projects. According to a September 2003 joint U.N. and World Bank needs assessment of Iraq, the food subsidy, given out as a monthly ration to the entire population, staved off mass starvation during the time of the sanctions, but disrupted the market for food grains produced locally. The agricultural sector had little incentive to produce crops in the absence of a promising market. However, the Iraqi government may find it politically difficult to scale back the food distribution system with 60 percent of the population relying on monthly rations as their primary source of nutrition. WFP is completing a vulnerability assessment that Iraq could use to make future decisions on food security programs and better target food items to those most in need.

Addressing Corruption

The history of inadequate oversight and alleged corruption in the Oil for Food program raises questions about the Iraqi government’s ability to manage the import and distribution of Oil for Food commodities and the billions in international assistance expected to flow into the country. The CPA and Iraqi ministries must address corruption in the Oil for Food program to help ensure that the remaining contracts are managed with transparent and accountable controls. Building these internal control and accountability measures into the operations of Iraqi ministries will also help safeguard the $18.4 billion in fiscal year 2004 U.S. reconstruction funds and $13.8 billion pledged by other countries.

To address these concerns and oversee government operations, the CPA administrator announced the appointment of inspectors general for 21 of Iraq’s 25 national ministries on March 30, 2004. At the same time, the CPA announced the establishment of two independent agencies to work with the inspectors general—the Commission on Public Integrity and a Board of Supreme Audit. Finally, the United States will spend about $1.63 billion on governance-related activities in Iraq, which will include building an effective financial management system in Iraq’s ministries.

CPA’s coordination center continues to provide on-the-job training for ministry staff who will assume responsibility for Oil for Food contracts after July 2004. Coalition personnel have provided Iraqi staff with guidance on working with suppliers in a fair and open manner and determining when changes to letters of credit are appropriate. In addition, according to center staff, coalition and Iraqi staff signed a code of conduct, which outlined proper job behavior. Among other provisions, the code of conduct prohibited kickbacks and secret commissions from suppliers. The center also developed a code of conduct for suppliers. In addition, the center has begun identifying the steps needed for the transition of full authority to the Iraqi ministries. These steps include transferring contract- related documents, contacting suppliers, and providing authority to amend contracts. In addition, the January 2004 MOU agreement commits WFP to training ministry staff in procurement and transport functions. Training is taking place at WFP headquarters in Rome, Italy.

Potential Issues for Further Investigation

Several investigations into the Oil for Food program are planned or under way. A U.N. inquiry officially began on April 21, 2004, with a Security Council resolution supporting the inquiry and the appointment of three high-level officials to oversee the investigation. In addition, the CPA’s Inspector General is planning to contract with an independent accounting firm to assess the Oil for Food program’s internal controls and to assist the CPA in its management of the program. The Defense Contract Audit Agency is working with the CPA Inspector General to refine the scope of work and will also act as CPA’s contracting representative for the review. The Iraqi Governing Council also contracted with an international accounting firm to investigate the extent to which individuals and entities wrongfully benefited from the Oil for Food program and identify those assets for recovery to the Iraqi government.

Size and Structure of the Oil for Food Program

The scope of the Oil for Food program was extensive. The United Nations attempted to oversee a $67 billion program providing humanitarian and other assistance in 24 sectors to a country with 24 million people and borders 3,500 kilometers long.

When the program was first proposed in 1991, the Secretary General considered having either the United Nations, an independent agent, or the Iraqi government negotiate oil and commodity contracts. The Secretary General concluded that the first two options were impractical and proposed that Iraq would negotiate the contracts and U.N. staff would work at Iraq’s oil ministry to ensure compliance. The final MOU between the Iraqi government and the United Nations granted control of contract negotiations to Iraq in recognition of its sovereignty.

How did the size and structure of the Oil for Food program enable the Iraqi government to obtain illegal revenues through illicit surcharges and commissions?

Role of Member States in Oversight

Under Security Council resolutions, all member states were responsible for enforcing the sanctions and the United Nations depended on states bordering Iraq to deter smuggling. National companies were required to register with their respective permanent missions to the United Nations prior to direct negotiations with the Iraqi government, but it is unclear what criteria the missions used to assess the qualifications of their companies.

What was the role of member states in monitoring and enforcing the sanctions? What were the criteria used to certify national purchasers of oil and suppliers of commodities?

Role of Neighboring States

Prior to the imposition of sanctions, Turkey was one of Iraq’s major trading partners. Total trade between the two countries was valued at $3 billion per year, and Turkey received about $1 billion each year by trucking goods to Iraq from Turkish ports. Jordan has also been a top trading partner; in 2001, it was the fifth largest exporter to Iraq and was the ninth largest importer of Iraqi commodities.

Jordan and Iraq had annual trade protocols during the U.N. sanctions that allowed Iraq to sell heavily discounted oil to Jordan in exchange for up to $300 million in Jordanian goods. The sanctions committee noted the existence of the protocol but took no action.

From November 2000 to March 2003, Iraq exported up to 200,000 barrels per day of oil through a Syrian pipeline in violation of UN sanctions. It is unclear what actions the sanctions committee or the United States took to stop the illegal exporting of Iraqi oil to Syria.

What actions, if any, were taken to reduce smuggling of Iraqi oil? What precluded the sanctions committee from taking action?

Assessing the Reasonableness of Contract Pricing

While sanctions committee procedures stated that the Secretariat was to examine each contract for price and value, OIP officials stated that no U.N. resolution tasked them with assessing the price reasonableness of the contracts. Although the sanctions committee was responsible for approving commodity contracts, it primarily screened contracts to prevent the purchases of items with potential military uses.

In December 1999, U.N. Security Council resolution 1284 directed the sanctions committee to accelerate approval procedures for goods no longer subject to sanctions committee review, including food and equipment and supplies to support the health, agricultural, water treatment and sanitation, housing, and electricity sectors.

Who assessed the reasonableness of prices for commodity contracts negotiated between the Iraqi government and suppliers and what actions were taken? How were prices for commodities assessed for reasonableness under fast-track procedures?

Much of the information on surcharges on oil sales and illicit commissions on commodity contracts is with the ministries in Baghdad and national purchasers and suppliers. We did not have access to this data to verify the various allegations of corruption associated with these transactions. Subsequent investigations of the Oil for Food program should include a statistical sampling of these transactions to more accurately document the extent of corruption and the identities of companies and countries that engaged in illicit transactions. This information would provide a basis for restoring those assets to the Iraqi government.

Subsequent evaluations and audits should also consider an analysis of the lessons learned from the Oil for Food program and how future humanitarian programs of this nature should be structured to ensure that funds are spent on intended beneficiaries and projects. For example, analysts may wish to review the codes of conduct developed for the CPA’s Oil for Food coordination center and suppliers. In addition, U.N. specialized agencies implemented the program in the northern governates while the program in central and southern Iraq was run by the central government in Baghdad. A comparison of these two approaches could provide insight on the extent to which the operations were transparent and the program delivered goods and services to the Iraqi people.

Mr. Chairman and Members of the Committee, this concludes my prepared statement. I will be happy to answer any questions you may have.

Contacts and Acknowledgments

For questions regarding this testimony, please call Joseph Christoff at (202) 512-8979. Other key contributors to this statement were Pamela Briggs, Mark Connelly, Lynn Cothern, Philip Farah, Zina Merritt, Tetsuo Miyabara, Stephanie Robinson, Jonathan Rose, Richard Seldin, Audrey Solis, Roger Stoltz, and Phillip Thomas. Lyric Clark, Jeanette Espinola, José M. Peña, III, and Eve Weisberg also provided technical support. .

Appendix I: Timeline of Major Events Related to Sanctions Against Iraq and the Administration of the Oil for Food Program

Iraqi forces invaded Kuwait. Resolution 660 condemned the invasion and demands immediate withdrawal from Kuwait.

Imposed economic sanctions against the Republic of Iraq. The resolution called for member states to prevent all commodity imports from Iraq and exports to Iraq, with the exception of supplies intended strictly for medical purposes and, in humanitarian circumstances, foodstuffs.

President Bush ordered the deployment of thousands of U.S. forces to Saudi Arabia.

Public Law 101-513, §358C, prohibited the import of products from Iraq into the United States and export of U.S. products to Iraq.

Iraq War Powers Resolution authorized the president to use “all necessary means” to compel Iraq to withdraw military forces from Kuwait.

Operation Desert Storm was launched: Coalition operation was targeted to force Iraq to withdraw from Kuwait.

Iraq announced acceptance of all relevant U.N. Security Council resolutions.

U.N. Security Council Resolution 687 (Cease-Fire Resolution)

Mandated that Iraq must respect the sovereignty of Kuwait and declare and destroy all ballistic missiles with a range of more than 150 kilometers as well as all weapons of mass destruction and production facilities.

The U.N. Special Commission (UNSCOM) was charged with monitoring Iraqi disarmament as mandated by U.N. resolutions and to assist the International Atomic Energy Agency in nuclear monitoring efforts.

Proposed the creation of an Oil for Food program and authorized an escrow account to be established by the Secretary General. Iraq rejected the terms of this resolution.

Second attempt to create an Oil for Food program. Iraq rejected the terms of this resolution.

Authorized transferring money produced by any Iraqi oil transaction on or after August 6, 1990, which had been deposited into the escrow account, to the states or accounts concerned as long as the oil exports took place or until sanctions were lifted.

Allowed Iraq to sell $1 billion worth of oil every 90 days. Proceeds were to be used to procure foodstuffs, medicine, and material and supplies for essential civilian needs. Resolution 986 was supplemented by several U.N. resolutions over the next 7 years that extended the Oil for Food program for different periods of time and increased the amount of exported oil and imported humanitarian goods.

Established the export and import monitoring system for Iraq.

Signed a memorandum of understanding allowing Iraq’s export of oil to pay for food, medicine, and essential civilian supplies.

Based on information provided by the Multinational Interception Force (MIF), communicated concerns about alleged smuggling of Iraqi petroleum products through Iranian territorial waters in violation of resolution 661 to the Security Council sanctions committee.

Committee members asked the United States for more factual information about smuggling allegations, including the final destination and the nationality of the vessels involved.

Provided briefing on the Iraqi oil smuggling allegations to the sanctions committee.

Acknowledged that some vessels carrying illegal goods and oil to and from Iraq had been using the Iranian flag and territorial waters without authorization and that Iranian authorities had confiscated forged documents and manifests. Representative agreed to provide the results of the investigations to the sanctions committee once they were available.

Phase I of the Oil for Food program began.

Extended the term of resolution 986 another 180 days (phase II).

Authorized special provision to allow Iraq to sell petroleum in a more favorable time frame.

Brought the issue of Iraqi smuggling petroleum products through Iranian territorial waters to the attention of the U.N. Security Council sanctions committee.

Coordinator of the Multinational Interception Force (MIF)

Reported to the U.N. Security Council sanctions committee that since February 1997 there had been a dramatic increase in the number of ships smuggling petroleum from Iraq inside Iranian territorial waters.

Extended the Oil for Food program another 180 days (phase III).

Raised Iraq’s export ceiling of oil to about $5.3 billion per 6-month phase (phase IV).

Permitted Iraq to export additional oil in the 90 days from March 5, 1998, to compensate for delayed resumption of oil production and reduced oil price.

Authorized Iraq to buy $300 million worth of oil spare parts to reach the export ceiling of about $5.3 billion.

Public Law 105-235, a joint resolution finding Iraq in unacceptable and material breach of its international obligations.

Oct. 31, 1998 U.S. legislation: Iraq Liberation Act Public Law 105-338, §4, authorized the president to provide assistance to Iraqi democratic opposition organizations.

Iraq announced it would terminate all forms of interaction with UNSCOM and that it would halt all UNSCOM activity inside Iraq.

Renewed the Oil for Food program for 6 months beyond November 26 at the higher levels established by resolution 1153. The resolution included additional oil spare parts (phase V).

Following Iraq’s recurrent blocking of U.N. weapons inspectors, President Clinton ordered 4 days of air strikes against military and security targets in Iraq that contribute to Iraq’s ability to produce, store, and maintain weapons of mass destruction and potential delivery systems.

President Clinton provided the status of efforts to obtain Iraq’s compliance with U.N. Security Council resolutions. He discussed the MIF report of oil smuggling out of Iraq and smuggling of other prohibited items into Iraq.

Renewed the Oil for Food program another 6 months (phase VI).

Permitted Iraq to export an additional amount of $3.04 billion of oil to make up for revenue deficits in phases IV and V.

Extended phase VI of the Oil for Food program for 2 weeks until December 4, 1999.

Extended phase VI of the Oil for Food program for 1 week until December 11, 1999.

Renewed the Oil for Food program another 6 months (phase VII).

Abolished Iraq’s export ceiling to purchase civilian goods. Eased restrictions on the flow of civilian goods to Iraq and streamlined the approval process for some oil industry spare parts. Also established the United Nations Monitoring, Verification and Inspection Commission (UNMOVIC).

Increased oil spare parts allocation from $300 million to $600 million under phases VI and VII.

Renewed the Oil for Food program another 180 days until December 5, 2000 (phase VIII).

Extended the Oil for Food program another 180 days (phase IX).

Ambassador Cunningham acknowledged Iraq’s illegal re-export of humanitarian supplies, oil smuggling, establishment of front companies, and payment of kickbacks to manipulate and gain from Oil for Food contracts. Also acknowledged that the United States had put holds on hundreds of Oil for Food contracts that posed dual-use concerns.

Ambassador Cunningham addressed questions regarding allegations of surcharges on oil and smuggling. Acknowledged that oil industry representatives and other Security Council members provided the United States anecdotal information about Iraqi surcharges on oil sales. Also acknowledged companies claiming they were asked to pay commissions on contracts.

Extended the terms of resolution 1330 (phase IX) another 30 days.

Renewed the Oil for Food program an additional 150 days until November 30, 2001 (phase X).

The resolution stipulated that a new Goods Review List would be adopted and that relevant procedures would be subject to refinement. Renewed the Oil for Food program another 180 days (phase XI).

UNMOVIC reviewed export contracts to ensure that they contain no items on a designated list of dual-use items known as the Goods Review List. The resolution also extended the program another 180 days (phase XII).

MIF reported that there had been a significant reduction in illegal oil exports from Iraq by sea over the past year but noted oil smuggling was continuing.

Extended phase XII of the Oil for Food program another 9 days.

Renewed the Oil for Food program another 180 days until June 3, 2003 (phase XIII).

Approved changes to the list of goods subject to review and the sanctions committee.

Chairman reported on a number of alleged sanctions violations noted by letters from several countries and the media from February to November 2002. Alleged incidents involved Syria, India, Liberia, Jordan, Belarus, Switzerland, Lebanon, Ukraine, and the United Arab Emirates.

Operation Iraqi Freedom is launched. Coalition operation led by the United States initiated hostilities in Iraq.

Adjusted the Oil for Food program and gave the Secretary General authority for 45 days to facilitate the delivery and receipt of goods contracted by the Government of Iraq for the humanitarian needs of its people.

Public Law 108-11, §1503, authorized the President to suspend the application of any provision of the Iraq Sanctions Act of 1990.

Extended provision of resolution 1472 until June 3, 2003.

End of major combat operations and beginning of post-war rebuilding efforts.

Lifted civilian sanctions on Iraq and provided for the end of the Oil for Food program within 6 months, transferring responsibility for the administration of any remaining program activities to the Coalition Provisional Authority (CPA).

Transferred administration of the Oil for Food program to the CPA.

Responded to allegations of fraud by U.N. officials that were involved in the administration of the Oil for Food program.

Proposed that a special investigation be conducted by an independent panel.

Supported the appointment of the independent high-level inquiry and called upon the CPA, Iraq, and member states to cooperate fully with the inquiry.

Appendix II: Scope and Methodology

We used the following methodology to estimate the former Iraqi regime’s illicit revenues from oil smuggling, surcharges on oil, and commissions from commodity contracts from 1997 through 2002:

To estimate the amount of oil the Iraqi regime smuggled, we used Energy Information Administration (EIA) estimates of Iraqi oil production and subtracted oil sold under the Oil for Food program and domestic consumption. The remaining oil was smuggled through Turkey, the Persian Gulf, Jordan, and Syria (oil smuggling to Syria began late 2000). Our estimate is on information from and discussions with officials of EIA, Cambridge Energy Research Associates, and the Middle East Economic Survey, and the private consulting firm Petroleum Finance.

We used the price of oil sold to estimate the proceeds from smuggled oil. We discounted the price by 9 percent for the difference in quality. We discounted this price by 67 percent for smuggling to Jordan and by 33 percent for smuggling through Turkey, the Persian Gulf, and Syria. According to oil industry experts, this is representative of the prices paid for smuggled oil.

To estimate the amount Iraq earned from surcharges on oil, we multiplied the barrels of oil sold under the Oil for Food program from 1997 through 2002 by 25 cents per barrel. According to Security Council members, the surcharge varied, but Iraq tried to get as much as 50 cents per barrel. Industry experts also stated the surcharge varied.

To estimate the commission from commodities, we multiplied Iraq’s letters of credit for commodity purchases by 5 percent for 1997 through 1998 and 10 percent for 1999 through 2002. According to Security Council members, the commission varied from 5 percent to 10 percent. This percentage was also confirmed in interviews conducted by U.S. officials with former Iraqi regime ministers of oil, finance, and trade and with Sadaam Hussein’s presidential advisors.

GAO did not obtain source documents and records from the former regime about its smuggling, surcharges, and commissions. Our estimate of illicit revenues is therefore not a precise accounting number. Areas of uncertainty in our estimate include:

GAO’s estimate of the revenue from smuggled oil is less than the estimates of U.S. intelligence agencies. We used estimates of Iraqi oil production and domestic consumption for our calculations. U.S. intelligence agencies used other methods to estimate smuggling.

GAO’s estimate of revenue from oil surcharges is based on a surcharge of 25 cents per barrel from 1997 through 2002. However, the average surcharge could be lower. U.N. Security Council members and oil industry sources do not know when the surcharge began or ended or the precise amount of the surcharge. One oil industry expert stated that the surcharge was imposed at the beginning of the program but that the amount varied. Security Council members and the U.S. Department of Treasury reported that surcharges ranged from 10 cents to 50 cents per barrel. As a test of reasonableness, GAO compared the price paid for oil under the Oil for Food program with a proxy oil price for the period 1997 through 2002. We found that for the entire period, the price of Iraqi oil was considerably below the proxy price. Oil purchasers would have to pay below market price to have a margin to pay the surcharge.

GAO’s estimate of the commission on commodities could be understated. We calculated commissions based on the commodity contracts for the 15 governates in central and southern Iraq (known as the “59-percent account” because these governates received this percentage of Oil for Food revenues). However, the former Iraqi regime negotiated the food and medical contracts for the northern governates, and the Defense Contract Audit Agency found that some of these contracts were potentially overpriced. The Defense Contract Audit Agency also found extra fees of between 10 and 20 percent on some contracts.

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