Iraq banking reform: A push to fix a system where credit barely flows

Iraq’s banking system has a big problem: Its banks don’t do much lending. Private-sector lending sits at just under 15% of GDP, far below the global average of 50%. Fewer than one in six adults holds a bank account and the three largest state banks — Rafidain, Rasheed, and the Trade Bank of Iraq — control roughly 85% of banking sector assets. Rafidain and Rasheed hold net negative asset positions, while simultaneously acting as treasury arms of the Finance Ministry, not commercial lenders. And the 50+ private banks that make up the rest of the sector are, for the most part, not in the business of taking deposits and extending credit either.

IN CONTEXT- A new prime minister with a banking background, a new central bank governor, a Washington-led pressure campaign, a war- and an anti-corruption sweep that landed 47 officials in custody have put Iraq’s long-delayed banking overhaul back in the spotlight. Last month, we covered the fiscal view the new government is in: A Hormuz-driven collapse in oil revenue, a budget that needs USD 84 / bbl to balance, and two bankrupt state banks bleeding the central bank’s reserves. This is the other half of that story — the reform meant to fix it, and whether it sticks.

Why the system doesn’t lend much

The diagnosis is fairly structural: “Iraq is still largely a cash-dominated economy,” Ahmed Tabaqchali, chief strategist of the AFC Iraq Fund and a board member of Arab Iraq Bank, tells EnterpriseAM. “Cash remains both the medium of exchange and the store of value. Banks play a marginal role in economic activity, generating income from services and fees rather than lending,” he adds.

Staying cash-based is bad for banking growth — and overall economic growth. “A bank cannot grow its lending without access to funding sources such as deposits,” Tabaqchali says. And after four decades of near-continuous conflict — the Iran-Iraq war, the invasion of Kuwait, sanctions, the US invasion, the ISIS insurgency — Iraqis had little reason to trust institutions with their money. “There were no breathers for us,” Tabaqchali adds.

Private banks in Iraq were built for a different business entirely. “Most were created to profit from the CBI’s foreign currency auctions rather than undertake the slow, risky business of lending to companies and households,” Iraqi financial markets and banking expert Ali Hamoudi tells us.

Even the banks that want to lend can’t price risk. Iraq has credit bureaus, but they are not activated — only 1-2% of the public and 2-3% of firms are captured in them, says economics professor and Iraq specialist Frank Gunter. It also takes 14 weeks to register collateral and 33 days to process a standard commercial loan, he adds. “You cannot run a business that way; enterprises need timely decisions to make operational commitments for the following month.”

Can fintech just leapfrog traditional banks? Not yet, despite the massive growth of e-payment platforms. Gunter points to platforms like Zash, Key Card, and FIB expanding alongside a wider ATM rollout, and Hamoudi notes the rapid uptake of wallets like ZainCash. “The growth has been dramatic because we started from almost nothing,” Tabaqchali says.

But payments are not to be mistaken for banking. “Iraqi fintech today is largely limited to payments, not credit,” Hamoudi says. That means fintech can help Iraq address its low rates of financial inclusion, but not the private sector’s inability to access credit.

Still, with relative stability in the last few years, this could be the golden moment for Iraqi banks to metamorphose into something new and commercially solid, Tabaqchali believes. “The conditions simply did not exist for much of post-2003 Iraq,” but the last five or six years are the first window in which a functioning banking system could realistically take root, he says.

The reform package

The clearest picture of what “reform” looks like in practice is First Rafidain. The state bank’s performing assets would move to a new commercial entity, with the government keeping a 24% stake and selling the rest — a proposed good-bank/bad-bank split that isolates decades of bad debt from a fresh, investable shell. “The First Rafidain strategy isolates legacy state debts, giving investors a clean institution into which they can inject capital,” Hamoudi says. Tabaqchali calls it a “textbook solution for troubled banking systems.

That’s the centerpiece, but it sits inside a wider package of reforms. Baghdad engaged EY, Oliver Wyman, and K2 Integrity to review state banks and propose governance overhauls. These are the same consulting groups that independent Iraqi economist Hamzeh Al Gaood says, alongside the US embassy and other foreign missions, pushed for the appointment of Nizar Hussein as CBI governor last week. The appointment puts a 25-year career regulator who ran the central bank’s anti-money laundering office in the chair — two days after the FATF placed Iraq on its grey list on 19 June.

Beyond personnel, a mandate to raise minimum paid-up capital — paired with asset-quality reviews — is meant to force weak banks to recapitalize or exit. New ownership and governance rules, including board-independence standards Tabaqchali calls “way ahead of global standards right now in so many ways,” are being imposed on survivors.

ICYMI- Some 10 banks were reportedly liquidated last year after the CBI rolled out hiked capitalization requirements. Al Gaood tells us we shouldn’t read too much into that. “I don't think it was truly ten banks. Maybe two were actually banks. The rest were essentially currency exchange offices that went bankrupt.”

Whether the package works may depend on which banks it’s aimed at. Tabaqchali expects private lenders to move first: “These [state-owned] institutions have been mismanaged for decades; this will be a long-term project. I am banking more on the growth of private-sector banks. The state banks will simply take much longer.”

For Rafidain and Rasheed specifically, Gunter sees a deeper obstacle than capital rules and governance: Both banks “historically extended loans to state enterprises with no commercial expectation of repayment from either the borrower or the lender. It was a fiscal subsidy disguised as a loan transaction,” he says. Renaming or restructuring won't work “if the same personnel remain involved.”

Is this time really different?

The external pressure is real, but it’s not the whole story. The US has blacklisted more than 30 Iraqi banks from USD clearing since November 2022 over Iran sanctions-evasion concerns, and Iraq’s oil revenues clear through a New York Fed account. But the FATF process is multilateral, the fiscal crisis is homegrown, and the most durable driver of all may be the one that has nothing to do with Washington: time.

Tabaqchali’s bull case rests on what he calls the cumulative effect of relative stability. “The last five or six years, irrespective of what everybody else in the world went through, have represented relative stability for us. Every year, there is a buildup on top of that.” Iraq’s modern history, as he tells it, has been a near-unbroken run of catastrophe — the Iran-Iraq war, the invasion of Kuwait, sanctions, the US invasion, civil war, and then ISIS. Set against that sobering backdrop, half a decade without a system-level shock is the longest runway Iraqi institutions have had to build anything in two generations — and the global disruptions of recent years barely registered by comparison. “When these global changes happened, everybody worried about Ukraine, covid. All of them were destructive, but for us, they were peanuts compared to what we've been through.”

The market is pricing in that stability: Iraq’s equity index has rallied roughly 224% from end-2022 and is up another 9% this year, Tabaqchali says — a run he attributes to real growth in corporate and bank profits rather than speculative froth, and one that has held up even with the regional war on Iraq’s doorstep. The deposits, the credit demand, the corporate balance sheets that a functioning bank would lend against — they're forming now, in a way they simply weren’t a decade ago. In other words, the economy is outrunning the banking system, and the cost of leaving the banks broken rises every year the gap widens.

Two more recent developments add to that case, in different ways. Ali Al Zaidi — Iraq’s first PM with hands-on financial-sector experience — chaired Al-Janoob Islamic Bank until 2019. But Al-Janoob is also one of eight banks the CBI barred from USD transactions in early 2024, at the direction of the US Treasury and the New York Fed, over money-laundering concerns. Gunter reads the background as a net positive. “A PM who understands the granular, technical components of financial regulation keeps the technocrats honest, because they know the head of government completely understands the mechanics of the sector.”

The anti-corruption campaign that just led to 47 arrests could also be another positive sign. Counter-terrorism units sealed the Green Zone and detained MPs, lawmakers, and oil-ministry officials, the kind of operation past PMs only talked about. Gunter, who says he “did not see that coming… It is a positive step.”

But not everyone is buying in: Al Gaood points out that consultants have been in-country for over a year to support a reform plan announced in April 2025, but with little to show for it. “Have I seen any real evidence of this happening? Of course not — not yet. The only evidence I have is the arrests and the change in the governor. Plans and announcements are very different from implementation.”

That leaves the capitalization deadlines as the point worth watching. True transformation, in Al Gaood’s view, “requires the government to enforce the law when banks miss the 2027 capital deadlines.” If non-compliant banks dodge the new requirements or skirt Hussein's AML audits, the system reverts. What happens to First Rafidain is also key — whether it moves from announcement to legal structure, and whether named investors emerge for the private stake.