In August 2003, the Coalition Provisional Authority (CPA) dissolved the military organizations of the former regime, including the Ministry of Defense. In March 2004, the CPA established a new Ministry of Defense. The MOD was ultimately to be responsible for the overall management, direction, and control of the Iraqi armed forces, which now include the Iraqi Army, Air Force, and Navy. Responsible for an estimated 200,000 civil servants and military personnel, the MOD is expected to conduct all functions needed to sustain the armed forces, including developing plans, programs, and budgets; and procuring needed goods. The CPA did not dissolve the Ministry of Interior. MOI’s role is to manage more than 300,000 staff in the Iraqi police services, the National Police, the Border Enforcement, and other services. Managerial functions include setting qualifications and training for the forces, vetting all police and other employees, and conducting the budgeting and financing for MOI forces. The MOI directly controls the national police forces. However, the MOI exercises only limited administrative control over regular Iraqi police forces in the provinces, controlling issues such as recruiting standards and yearly budget allocations. Operational control of provincial police rests with the governor and his Council. MNF-I leads U.S. and coalition military efforts in Iraq. Under the command of MNF-I, MNSTC-I is responsible for leading coalition efforts to train and equip Iraqi security forces and to build MOI and MOD capabilities. MNSTC-I helps develop MOI and MOD capabilities through Ministry Transition Teams and the Joint Staff Transition Team, which have a total of about 215 coalition advisors assigned to work with Iraqi officials at the ministries. The Iraqi government and the coalition transition teams confront a challenging national environment to develop Iraq’s security ministries. Corruption is reportedly widespread and poses a major challenge to building an effective government. A March 2007 DOD report states that the Prime Minister has committed to reforming the government beginning with his cabinet and the ministries. This commitment recognizes the government’s failure to counter corruption and reduce sectarianism, which hampers the government’s ability to perform. In addition, capacity building efforts are taking place amid ongoing violence and sectarian tension, posing a threat to Iraqi government employees. The 2007 increase in Iraq’s security budget is attributable to increases in planned expenditures and an appreciation of the Iraqi currency against the U.S. dollar. MOD and MOI spent the largest percentage of budgeted amounts on salaries but were less successful in spending funds on goods and services (e.g., food, uniforms, and fuel) and capital goods (e.g., weapons, ammunition, and vehicles). Given Iraq’s continued difficulties in spending funds for these items, DOD has requested $5.8 billion in additional funds to help purchase these critical items and provide other assistance to Iraq’s security ministries. DOD’s March 2007 report to Congress stated that the 37-percent increase in Iraq’s 2007 security budget is evidence of Iraq’s growing self-sufficiency and commitment to security. However, our analysis of Iraq’s 2007 budget shows that this reported increase is attributable to both increases in planned expenditures and an appreciation of the Iraqi currency against the U.S. dollar (Iraq’s fiscal year begins on January 1 of each year). Iraq implemented a 14-percent exchange rate appreciation between November 1, 2006, and February 1, 2007, to reduce the rate of core (non-fuel) inflation. In 2006, inflation in Iraq averaged over 50 percent. Iraq’s official budget is presented and executed in Iraqi dinars, not U.S. dollars. The percentage changes we calculated using a constant 2006 exchange rate are the same as those in the official budget based on Iraqi dinars. For example, MOD’s 2007 budget shows a decline in the number of Iraqi dinars budgeted for goods and services compared with 2006. However, when converted to U.S. dollars at the new appreciated exchange rate, the budget shows an increase in planned expenditures. It is therefore important to know the source of changes in the budget. For imported products, the appreciated exchange rate (which means the Iraqi dinar exchanges for relatively more U.S. dollars than before) allows Iraq to buy relatively more imported products for the same number of dinars. However, for expenditures made in Iraq, especially salaries, the appreciated exchange rate may not best reflect changes in Iraq’s budget expenditures. Thus, we present both calculations. Table 1 shows how the projected growth rate of Iraq’s security budget varies with the foreign exchange rate used to convert Iraqi dinars into U.S. dollars. When using an appreciated exchange rate, Iraq’s security budget grows by 37 percent in 2007. The budget of MOD, which plays a key role in conducting counterinsurgency operations, grows by 20 percent. However, when using a constant exchange rate to facilitate a more direct comparison of the planned increases in budgeted dinars, Iraq’s security budget grows by 15 percent in 2007 to $6.2 billion (constant exchange rate), which represents 18 percent of Iraqis total 2007 budget of $34.5 billion. Thus, the increase in Iraq’s budget in U.S. dollars is due to the actual increases in planned expenditures and an appreciation of the currency. Although MOD’s overall budget will grow in 2007, its budget for several critical items needed to wage counterinsurgency operations will decline in 2007. For example, the Ministry of Defense’s 2007 budget for capital goods—including weapons, ammunition, and vehicles—will decrease whether using a constant exchange rate (17 percent) or appreciated exchange rate (2 percent). In contrast to MOD, MOI’s 2007 budget shows positive growth rates in all major categories. For example, the Ministry of Interior’s 2007 budget for capital goods—including weapons, ammunition, and vehicles—will increase regardless of which exchange rate is used, by 16 percent using a constant exchange rate or by 38 percent using the appreciated exchange rate. The MOI is receiving increased budget support for its law enforcement responsibilities. However, the additional budget support will be provided to a ministry prone to militia infiltration. For example, in November 2006, the Director of the Defense Intelligence Agency stated that the Ministry of Interior and the police were heavily infiltrated by militia members of the Badr Organization and the Mahdi Army. In addition, the MOI’s national police—a paramilitary force of about 24,000 personnel—had conducted counterinsurgency operations in the past, but the Iraqi government decided in late 2006 to transform it into a civil society force due to frequent allegations of abuse and other illegal activities. The total number of staff reportedly employed by the Ministries of Defense and Interior will grow from about 538,000 in 2006 to 608,000 employees in 2007 (see table 2). However, these numbers should be interpreted with some caution. As we reported in January 2007, ghost employees comprise about 20 to 30 percent of Ministry of Interior staff, according to U.S. officials. Also, as of February 2007, the Iraqi government has yet to complete a census of all government employees, as required by the International Monetary Fund. To help assess whether Iraq’s security ministries will be able to spend the 2007 budgets, we analyzed the security ministries’ 2006 budgets and spending. Figure 1 shows the total amounts budgeted and expended by funding category. In terms of their budgets, the MOD had both a larger budget ($3.4 billion compared with $1.9 billion) and a larger portion of its budget targeted at goods and services and capital goods, compared with the MOI. For the MOI, salaries dominated the budget in 2006. Figure 1 also shows that the ministries have had difficulty expending some categories of their budgets. For example, MOD and MOI spent about 76 and 82 percent, respectively, of the $912 million and $1,471 million budgeted for salaries as of November 2006. In contrast, MOD and MOI spent 1 and 15 percent, respectively, of the $864 million and $233 million budgeted for capital goods (e.g., weapons, ammunition, and vehicles). The inability or unwillingness of Iraq’s security ministries to spend budgeted funds on critical items raises questions about the priorities and capabilities of Iraq’s government to fund its security requirements. As the U.S. government transfers more of its security responsibilities to the Iraqi government, it is important that the Iraqi government demonstrate that it can execute its approved budgets more effectively. While Iraq’s security ministries have encountered difficulties in spending budgets for weapons, equipment, vehicles, food, fuel, and other items needed to mount counterinsurgency campaigns, the U.S. government anticipates providing additional support to these two ministries at least through the end of fiscal year 2008. DOD has asked for an additional $5.8 billion to develop the Iraqi security forces in its fiscal year 2007 supplemental request and the fiscal year 2008 Global War on Terror budget request (see table 3). Of this amount, about $3.25 billion (about 56 percent) would purchase equipment and transportation for the Iraqi security forces. DOD is also requesting about $682 million for training and operations, including efforts to develop senior management capabilities within the Ministries of Defense and Interior, and to provide increased training for MOD intelligence operations, communications operations, and resource management. Iraq’s security ministries face numerous challenges if they are to more effectively direct and sustain Iraq’s security forces. DOD reports and our February 2007 fieldwork in Iraq found that the security ministries face two key challenges: (1) managing a growing workforce while developing effective personnel systems, and (2) improving the limited ability of MOD and MOI to manage their logistics operations. Coalition advisors are working with the security ministries to improve their planning, budgeting, personnel, and logistical systems.