accounting for 1 trillion Iraqi dinars and 5% of Iraq’s GDP [Silva, Levin and Morgandi (2012)]. While the PDS provides a level of broad food security to the poor and vulnerable in Iraq, it also covers more than 95 percent of the non-poor, and therefore, the cost is considerably higher than is typical for a targeted safety net. In its current form, it suffers from large inefficiencies in procurement, distribution, and management, and implies significant macro-economic distortions because of its heavy reliance on food imports and its universal nature. Due to its large scale, it distorts the market for food and discourages local production. For this and many other reasons, including the need for the introduction of a comprehensive safety net system going beyond food subsidies, the Government of Iraq is considering further reforms to the PDS.<sup>5</sup> The sharp decline in oil prices and the Islamic State insurgency since mid-2014 have severely constrained the fiscal environment and made PDS reform even more imperative.

In considering any reform options, it will be extremely important to quantify and understand the potential welfare impact of a change in the PDS across the distribution of consumers. This is particularly critical because of the context- a system that is universally accessed; high dependence on imports implying lack of available substitutes in the market; the large accompanying macro-economic distortions; and the recurrent exposure of households to unpredictable shocks. Moreover, incorporating the behavioral response of households to reforms is essential given that the population may have come to think of the PDS transfer as a constant, unchanging benefit that comes at almost zero cost. Finally, in designing alternatives, it is important to quantify the adverse welfare impact to be able to (a) assess whether a targeted system is feasible, and what the welfare cut-off could be; (b) estimate the size of cash transfer that would hold utility constant, at least for the lower parts of the distribution; and (c) assess the cost-effectiveness of alternatives.

Using a Mixed Demand approach, this paper simulates the impact of hypothetical reform scenarios of the PDS on consumer welfare. Using the most recently available household survey, the Iraq Household and SocioEconomic Survey (IHSES) – 2012, we estimate income and price elasticities to be able to model the behavioral response of households to these reforms. The Iraqi food subsidy system involves partial rationing, where the PDS food items are available at subsidized prices until a quantity quota is reached. For larger quantities, consumers can purchase the free market counterparts of these items at the free market price. The Mixed Demand approach allows us to explicitly take into consideration the partial rationing of the PDS and its dual price system. Such a demand system explicitly incorporates rationed quantities for a subset of goods with predetermined prices, in addition to free market goods. The estimated income and price elasticities from such a model permit us to analyze the impact of reforms on consumer consumption and therefore, welfare

> 5 The Government of Iraq is currently considering moving to a ‘smart card’ system of delivery of PDS entitlements, and potentially a means-targeted eligibility criterion for the social protection programs.

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