George W. Bush intends to veto a $700bn defence spending bill because it includes a provision that would give Americans the right to sue state sponsors of terrorism.

The provision threatened to “imperil” billions of dollars of Iraqi assets and undermine US foreign policy and business interests, the president said on Friday.

The White House issued the surprise veto threat after Iraqi officials discussed pulling $20bn-$30bn of Iraqi funds out of US banks if the legislation became law, according to a senior administration official.

At the centre of the administration’s latest spat with Congress is section 1083 of the Defense Authorisation Act, a measure that would allow American victims of state-sponsored terrorism the right to sue countries and, according to the White House, would allow plaintiffs’ lawyers to freeze assets in the amount of damages claimed in their lawsuits.

Although the provision is not directed at Iraq, the White House said it feared that the bill would allow plaintiffs seeking redress for Saddam Hussein-era acts of terrorism to freeze Iraq’s assets, potentially tying up billions of dollars, and allow plaintiffs to refile lawsuits against Iraq that had already been dismissed. The administration said the provision would “unacceptably interfere” with the political and economic progress in Iraq by potentially imposing a “financially devastating hardship” on the country.

White House officials said the provision had caused some concern in recent weeks but that it realised the “acuteness and intensity” of the problems with the bill just 10 days ago, when concerns were raised by Iraqi officials. Passage of the bill could also affect US bilateral negotiations over immunity for personnel oper­ating in Iraq, among other issues, the White House said.

The veto threat caught US lawmakers off guard. They expressed disappointment at the last-minute veto threat over a provision that had won strong support in the Congress from Democrats and Republicans. “It is a shame that the White House has taken this step to satisfy the demands of the Iraqi government for whom our troops have sacrificed so much,” said Ike Skelton, the Democratic chairman of the House armed services committee.

Frank Lautenberg, a Democratic senator who sponsored the provision, said the measure was intended to help US victims of terrorism and their families, including those killed in the 1983 bombing of the marine barracks in Beirut.

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