Iraq Wants to Fight the Islamic State. It Has to Fight Falling Oil Prices First.

Iraq’s leaders are tying themselves in knots trying to save themselves from the pain of plunging oil prices while crafting a budget that can meet the country’s most pressing needs with shrunken revenues. One of the biggest questions is whether the smaller budget will handicap Iraq’s ability to launch the long-awaited spring offensive against the Islamic State.

Since last summer, crude prices have fallen about 60 percent, trading around $50 a barrel in London on Wednesday, Jan. 28. That’s bad news for plenty of oil exporters around the world — Venezuela and Russia are wheezing, in particular — but the fiscal squeeze is hammering Iraq right as it tries to rebuild its shattered army to do battle with the Islamic State. The United States hopes that the shattered Iraqi military can be rebuilt enough that it will be capable of waging a successful ground battle against the terrorist group, which has taken over chunks of Iraq’s north and west.

But with oil prices hovering at six-year lows, which could cost Baghdad as much as $60 billion this year, Iraqi politicians are sounding the alarm about their ability to underwrite a big military push. Prime Minister Haider al-Abadi said in London last week that fiscal woes could imperil the fight against the Islamic State, also known as ISIS, by preventing his government from paying troop salaries or purchasing needed weapons, ammunition, and supplies.

Iraq’s ambassador to the United States, Lukman Faily, told Foreign Policy recently that oil prices “will be the determining factor this year in how strongly we can repel ISIS. If we have the funds or if we have the commitment needed on the ground, then certainly we will spearhead that fight and we will take on ISIS on all fronts,” he said. Without money, Faily added, “the government feels it cannot put our young ones in harm’s way without having some sufficient capability.”

But it’s unclear whether the looming budget problems are genuinely threatening Iraq’s ability to fight this year or simply giving Iraqi officials an excuse to plead for more international military assistance. U.S. defense officials, for instance, said they are unaware of any Iraqi requests to delay payments for U.S. military hardware, and Defense Secretary Chuck Hagel said that the United States is meeting all of Iraq’s military requirements, public grandstanding notwithstanding.

The question of Baghdad’s actual finances will come to a head this week as lawmakers in Baghdad prepare to vote Thursday on a 2015 budget, which would be the country’s first since 2013. The collapse in oil prices has delayed the process since late last year, because oil-exporting countries (oil provides more than 85 percent of Iraq’s income) have to peg their spending to expected oil revenues.

And that, in turn, has been complicated by the free-fall in crude prices. Iraq’s latest estimate is for $55-a-barrel oil this year — lower than the $60-a-barrel figure lawmakers were hoping for a few weeks ago and a far cry from the $100-a-barrel prices that prevailed last year. But that oil-price forecast is still higher than current prices and isn’t a fiscal “break-even” price, because it would still lead to a massive budget deficit this year.

Late last year, Iraqi lawmakers floated the idea of a 141 trillion dinar budget, a slight increase over 2013’s budget. Today, with the flabby oil market showing little sign of a rebound, Iraq is looking at a 119 trillion dinar budget (about $105 billion), or 15 percent less than a few weeks ago, with a projected budget deficit of at least $22 billion.

“If there are delays in re-equipping and supplying the military force, that’s going to have a major impact on the U.S. training assistance mission,” said Anthony Cordesman, a security expert at the Center for Strategic and International Studies. “It is certainly possible that there are specific areas they need to fix where money is a real issue.”

But Iraq’s fiscal woes go far beyond the military or the hoped-for offensive against the Islamic State, Cordesman said. A lack of money makes it harder for Baghdad to meet fiscal obligations toward restive Kurds in the north, pay unemployed Sunnis willing to join national guard forces, and cover massive public-sector obligations across the country. Simply meeting payrolls and trying to tackle decades’ worth of economic stagnation are key to ensuring some semblance of domestic tranquility.

“It’s quite clear that Iraq now faces a major financial problem, and it isn’t just the offensive — it’s stability,” Cordesman said.

That is, even if Iraq can manage to scrape up the money to pay for its defense needs — and the military swallows about one-fifth of the federal budget — that would come at the cost of other urgent needs that, if left unmet, could exacerbate the sectarian fault lines tearing the country.

“The budget crisis makes all thinking short term, and there will be casualties,” said Matthew Reed, a Middle East oil expert at Foreign Reports, a consultancy.

One concern is a final agreement between Iraq and the Kurdish region over budget revenues. The two sides, after an acrimonious spat, reached an agreement last year that would see Baghdad restoring fiscal transfers to Erbil. But that accord, and thus Kurdish help against the Islamic State, could fall apart if Iraq’s budget is in tatters.

At the same time, if Iraq has to delay the preparation of the so-called national guard — an informal grouping of Sunni tribal militias meant to help combat the Islamic State — in favor of existing Shiite militias, “it could make the sectarian situation even worse,” Reed said.

The fiscal crunch could have even longer-term consequences, Reed said. One likely casualty could be much-needed investment in a water-injection system that is key to Iraq’s ambitious oil-production goals over the next decade and more. Without that increased oil production, Iraq would likely face future budget crises as well.

Iraq’s many challenges highlight the dangers of focusing exclusively on the immediate threat posed by the Islamic State, horrible as its rampage of terrorism has been, Cordesman said. Years of corruption, poor governance, and sputtering economic development, coupled with a rising population in a society split along sectarian lines, make a volatile mix.

“If there’s any lesson from Afghanistan and Iraq, it is that you are dealing with a very complex set of problems, and if you focus on just one like security, you cannot possibly succeed,” he said.

Lara Jakes and Kate Brannen contributed to this article.

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