U.S. Loans Indirectly Financed Iraq Military : Foreign aid: Baker pushed through agriculture credits that helped Hussein free up money for arms.

On the last day of October, 1989, nine months before Saddam Hussein invaded Kuwait, Secretary of State James A. Baker III placed a telephone call to Agriculture Secretary Clayton K. Yeutter.

A problem had developed. Baker needed to talk with someone who could fix it.

Earlier in the month, President Bush had signed a secret national security directive ordering closer ties with Iraq and the Administration wanted to give Hussein’s regime $1 billion in new financial aid, using an Agriculture Department loan-guarantee program to do it. But program officials were balking--saying that Iraq would never repay the money. And a potential scandal was brewing over irregularities in past loans to Baghdad.

Baker’s task was to bring the Agriculture Department into line. Sketching out the problem, he asked Yeutter to reverse his department’s position and approve the loans, according to classified documents obtained by The Times. The agriculture secretary, today the President’s senior domestic policy adviser, apparently saw the light.

“I think we’re seeing it the same way you guys are,” Yeutter responded, according to a handwritten note by Baker on a memo about the Oct. 31, 1989, conversation. “I’ll get into it.”

The new loans, pushed through at a time when U.S. intelligence reports indicated Hussein was spending heavily on developing nuclear weapons, were used by a credit-starved Iraq to feed its people, freeing up its cash reserves to finance the massive arms buildup that ended in war with the United States. The Bush Administration, apparently failing to understand the Iraqi dictator’s intentions, indirectly helped pay for weapons that were ultimately used against American and allied troops.

And the Agriculture Department loans, which ultimately went bad just as officials of the department and others had warned, were no aberration.

Classified documents show that Bush, first as vice president and then as President, intervened repeatedly over a period of almost a decade to obtain special assistance for Saddam Hussein--financial aid as well as access to high-tech equipment that was critical to Iraq’s quest for nuclear and chemical arms.

The policy of helping Hussein was conceived in the Ronald Reagan Administration to prop up Hussein in his long war with Iran and thus slow the spread of radical Islamic fundamentalism in the Middle East.

But the policy--and Bush’s repeated personal involvement--continued well beyond the end of the Iran-Iraq war, which was concluded in the summer of 1988. And it did more than enable Hussein to survive: It helped him assemble the war machine that soon became a threat to his neighbors and to vital U.S. interests in the oil-rich Persian Gulf.

It was apparently a case of a policy pursued with head-down determination long after its original purpose had become obsolete by a President and senior officials who overestimated their own ability to influence a foreign leader. Until the eve of the Iraqi invasion of Kuwait, senior Administration officials seemed convinced that, with continued U.S. aid, they could cajole Hussein into mending his ways.

In early October of 1989, the policy had gotten a major new push when Bush signed the top-secret National Security Decision Directive 26 ordering government agencies to expand political and economic ties with Iraq. In the weeks and months that followed, Iraq became the beneficiary of added financial aid as well as fresh access to so-called “dual use” technology--sophisticated equipment with both military and civilian applications.

In responding to the disclosures by The Times about Bush’s role in providing assistance to Iraq, a White House spokesman said that, under both the Reagan and Bush administrations, “U.S. policy toward Iraq was based on our national interest.

“Any actions undertaken by the then-vice president were in support of Administration policy,” Deputy Press Secretary Roman Popadiuk said. He also stressed that the U.S. stance twoard Iraq “shifted dramatically” after its invasion of Kuwait. “We were in the forefront of stemming that agression and of restoring freedom to Kuwait,” he said.

In the case of the commodity loan guarantees from the Agriculture Department, Hussein used the subsidized American foodstuffs to feed his people, while using his cash reserves to buy arms.

The U.S. aid came at a critical juncture for Hussein: International bankers, alarmed by Iraq’s soaring debts, its deteriorating record of repayment and its continued obsession with armaments, had cut off his credit almost everywhere.

Beyond the question of understanding Hussein’s real intentions, classified documents show that Baker and Yeutter had been warned about irregularities in the Agriculture Department aid program and the possibility that Iraqi government officials were going to be implicated in a major banking scandal involving the program.

After its invasion of Kuwait in August, 1990, Iraq stopped paying on the loans guaranteed by the program, leaving American taxpayers with a $2-billion bill. And last year, four Iraqi officials and the government’s main commercial bank were indicted in Atlanta in a $4-billion scandal involving the U.S. aid program.

Set up to help American farmers increase exports, the Commodities Credit Corp. of the Department of Agriculture provides government-guaranteed repayment of bank loans to foreign governments for purchases of American rice, wheat and other commodities. The Agriculture Department is supposed to allocate the credit guarantees based on the receiving country’s needs, its market potential and its ability to repay the loans.

Numerous classified documents show, however, that foreign policy considerations played the decisive role in allocating credits to Iraq--and that evidence of improprieties was largely ignored. Eventually, more U.S. food aid went to Iraq during the 1980s than to any other country, except Mexico.

The Agriculture Department loans began in 1983 with $402 million. Classified documents show that the Reagan Administration feared Hussein would lose the Iran-Iraq war or be overthrown because of food shortages.

The amount of loan guarantees steadily increased each year.

By October, 1989, when Bush signed NSD 26 and his Administration sought the $1 billion in guarantees from Yeutter’s department--the largest lump sum ever sought for Baghdad--only the United States and Britain were still offering credit to Iraq.

At that point, however, objections inside the U.S. government involved more than Iraq’s shaky finances.

On Aug. 4, 1989, FBI and Customs Service agents raided the Atlanta branch of Banca Nazionale del Lavoro, Italy’s largest bank. They uncovered evidence that the branch may have made $4 billion in unauthorized loans to Iraq--including $900 million guaranteed by the Agriculture Department program.

Classified documents indicate that several agencies issued warnings of serious irregularities with the program--that Iraq was unlikely or unwilling to repay the debts, that the Iraqi government demanded kickbacks from American firms, that funds derived from kickbacks were used to purchase arms and that Iraqi officials were likely to be implicated in the Banca Nazionale del Lavoro scandal. (Four top Iraqi government officials and the two government-owned banks were implicated in a later indictment.)

At a meeting of a government coordinating group called the National Advisory Council on Sept. 12, 1988, Federal Reserve official Robert Emery warned that Iraq only repaid creditors when they offered greater lines of credit. He called continued requests for Agriculture Department loans to Iraq a “Ponzi-type scheme.”

A year later, Agriculture Department officials noted in a confidential report that Iraqi officials had admitted demanding kickbacks and acknowledged that the Department of Agriculture funds had been diverted for military purposes. The report was sent on to the State Department, which sought to determine whether the activities were sanctioned by the Iraqi government.

The Agriculture Department responded to the Banca Nazionale controversy by trying to slash its aid to Iraq to $400 million from the $1 billion originally sought by the Bush Administration. Even $400 million was too much for some officials. At a National Advisory Council meeting on Oct. 3, 1989, Treasury and Federal Reserve officials voted to stop the aid entirely, according to minutes of the session.

The two agencies lost and the $400 million was approved because, according to a confidential Treasury memo, the State Department was “particularly forceful in arguing that programming should go forward.”

Three days later, Iraqi Foreign Minister Tarik Aziz met with Baker at the State Department and expressed alarm that Iraq might receive less than $1 billion. Aziz warned Baker that relations between the two countries would “sour” without the full $1 billion, according to a State Department account of the meeting. Baker promised to “look into the matter immediately.”

Baker had been cautioned personally about alleged irregularities in the program in a classified memo in October, which read in part: “The unfolding BNL scandal is directly involved with the Iraqi CCC program and cannot be separated from it. Of the $4 billion of unauthorized loans involved, about $1 billion were CCC guaranteed. Treasury and the Fed, however, find it hard to believe that Iraqi Central Bank officials and others were not aware of kickbacks . . . and other gross irregularities.”

But the secretary of state was getting other advice, too.

Robert Kimmitt, undersecretary of state for political affairs, sent Baker a memo recommending that he advocate the full program and telephone Yeutter to urge him to restore the full $1 billion.

A copy of the classified memo shows that Baker initialed a section indicating that he approved the recommendation. Attached “talking points” prepared for his phone conversation with Yeutter said that Baker should describe the Agriculture Department program as “crucially important to our bilateral relationship with Iraq” and say that he supported $1 billion “on foreign policy grounds.”

The document contained a caveat in which Baker assured Yeutter: “Obviously, we should not go forward with the program if we have substantial evidence of a pattern of serious violations of U.S. law by high-ranking Iraqi officials.”

After speaking with Yeutter, Baker filed a copy of the memo on which he made a handwritten notation that Yeutter had responded: “I think we’re seeing it the same way you guys are. I’ll get back into it.”

Within days, the Agriculture Department agreed to restore the $1 billion but Treasury and the Federal Reserve refused to go along. Edward W. Kelley Jr., one of the governors of the Federal Reserve Board, repeatedly opposed additional credits for Iraq, according to two sources. Kelley declined to comment.

A State Department memo said that Treasury and the Fed were worried because Iraq had failed to make payments to other foreign creditors and because “allegations of Iraqi wrongdoing in the BNL case, though not backed by evidence at this time, might embarrass the Administration.”

But State pushed ahead. The memo said that Deputy Secretary of State Lawrence S. Eagleburger was pressing Treasury and the Office of Management and Budget, which also opposed the $1 billion program.

Eagleburger telephoned his counterpart at Treasury, John Robson, and requested Treasury’s support for the $1 billion, according to classified documents. Robson took the unusual step of asking Eagleburger to put the request in writing. The same day, Eagleburger sent Robson a letter saying that State supported continuation of Agriculture Department credits “on foreign policy grounds.”

On Nov. 8, 1989, the $1 billion for Iraq was approved by the National Advisory Council. As a concession to the opposition, it was agreed that the money would be split into two halves. The first half would be made available immediately, the second installment only if no further problems arose from the investigation of Banca Nazionale del Lavoro.

In a classified memo dated Nov. 9, Kimmitt, who is now U.S. ambassador to Germany, boasted to Baker: “Your call to Yeutter and our subsequent efforts with OMB and Treasury paid off.” Kimmitt suggested that Baker “break the good news” to Aziz.

Two days later, the State Department sent a cable to April Glaspie, U.S. ambassador to Iraq, instructing her to present a private message from Baker to Aziz telling him “this decision by the Administration reflects the importance we attach to our relationship with Iraq.”

By early 1990, Iraq had used the first $500 million in credits and was asking for a second installment of $573 million. By that time, additional evidence had surfaced in the investigation of the Italian bank implicating Iraqi officials more deeply. Government analysts also were more skeptical about Iraq’s ability to repay its growing foreign debt because of continued military spending and other problems.

In May, the Agriculture Department decided to suspend the loan guarantee program without releasing the second installment. The decision was not made public but key members of Congress acknowledged that they were briefed about the plan.

The Agriculture Department made the decision after, as one current department official said, “all the worst fears (about the program) were realized: fraud and mismanagement, kickbacks, diversion of funds for the military.”

But documents show that the National Security Council and the State Department still pressed for the additional half billion dollars.

On May 29, 1990, the NSC met to consider the question. According to a classified account, the “meeting has been initiated by NSC staff because they want to prevent the CCC credit program from being canceled as it would exacerbate the already strained foreign policy relations with Iraq.”

NSC officials pressed to continue the program although the Agriculture Department had already drafted a press release saying that the loan program had been suspended because of “improprieties.”

As late as July 9, Glaspie was assuring Iraqi officials in Baghdad that the Administration was trying to get the second $500 million released, according to classified documents.

On Aug. 2, 1990, the day Iraqi tanks swept into Kuwait, the Bush Administration was still debating whether to provide Hussein with the second installment of loan guarantees.

There was one more twist in the tale:

In the weeks after the invasion, Congress questioned whether the Bush Administration had been firm enough in letting Saddam Hussein know that it opposed his belligerence in the months leading up to the invasion.

On Sept. 23, 1990, Baker defended the Administration on television, saying that a number of signals had been sent to Hussein indicating opposition to his threats.

“Signal No. 1 was to slap foreign policy export controls on exports to Iraq,” Baker said. “Signal No. 2 was to cancel or suspend the Commodity Credit Corp. program.”

* IRAQ AID PROBE: A House panel plans hearings into disclosures that Bush secretly helped Saddam Hussein build Iraq’s war machine. A10