WASHINGTON (CNN) -- Iraq has made "limited but important" political, diplomatic and economic gains in the past three months, but improvements in security remain "fragile," the Pentagon reported Tuesday.
A wounded passenger Tuesday near a bus that was hit by a roadside bomb near Nasiriyah, southeast of Baghdad.
The passage of a budget, a law relaxing restrictions on former members of Saddam Hussein's Baath Party and legislation authorizing provincial elections "represent a significant initial step toward political reconciliation," the Defense Department's latest quarterly report on the nearly five-year-old war concluded.
Even though the country's Presidency Council returned the provincial powers law to parliament, "This process highlights the important role that the constitution and democratic exchange is playing in the political process," the report states.
A yearlong effort to pacify Baghdad and its surrounding provinces, coupled with a turn by Sunni Arab tribes against Islamic militants loyal to al Qaeda and a cease-fire among Shiite Muslim militias, has reduced the number of killings, bombings and sectarian murders to mid-2005 levels, the Pentagon found.
"New strides have been taken in reconciliation at the national, provincial and local levels, and the Iraqi economy is growing," the report states. "However, recent security gains remain fragile, and sustained progress over the long term will depend on Iraq's ability to address a complex set of issues associated with key political and economic objectives."
Civilian deaths have dropped by 72 percent since July 2007, and American and Iraqi troop losses have dropped by 72 and 70 percent over the same period, the report said. More than three-quarters of Iraqi military and police units are able to conduct operations with little or no U.S. help.
Iraq's National Police force has lagged behind the military in U.S. evaluations but "continues to increase its proficiency."
"The number of authorized, operational NP battalions is 38," the report said. "There are nine battalions capable of planning, executing, and sustaining operations with coalition support."
Al Qaeda fighters remain a threat in northern Iraq, where most fighting by U.S. and Iraqi troops is taking place, the report said. And while Iranian support for Shiite militias in the south "remains a significant impediment to stabilization," it found, an August 2007 cease-fire by anti-American Shiite cleric Muqtada al-Sadr's Mehdi Army has helped reduce the number of attacks.
Two major U.S. units, an Army brigade from the Texas-based 1st Cavalry Division and the California-based 13th Marine Expeditionary Unit, were withdrawn in the past three months. The Pentagon projects that about 140,000 American troops will remain in Iraq by July, but U.S. officials have said further withdrawals may be delayed to preserve the past year's gains.
Meanwhile, Iraq's economy has benefited from the rising price of oil, even though overall production remains just short of prewar levels. The increased price of crude netted the Iraqi government a $6.4 billion windfall over U.S. estimates, the report said.
But it warned that lack of legislation allocating the country's petroleum revenues -- one of the reconciliation measures stalled in the Iraqi parliament -- has stalled international investment, and attacks on pipelines and aging refineries have limited the amount of energy reaching ordinary Iraqis.
"Despite many projects to improve the delivery of essential services and increased emphasis by government leaders, Iraqis have seen uneven progress in the delivery of essential services such as electricity, water, sanitation and health care," it said. "Since the U.S. has transitioned out of large-scale infrastructure reconstruction, and Iraq must now fund the bulk of future reconstruction projects, further improvements are at risk."
Reconstruction has been hampered by widespread corruption, the report found -- conclusions echoed by testimony at a Senate Appropriations Committee hearing Tuesday.
Stuart Bowen, the Pentagon's special inspector-general for reconstruction, said the recent dismissal of a black-market drug case against Iraq's deputy health minister because witnesses were too intimidated to testify shows that corruption is a "continuing and serious problem." E-mail to a friend
CNN's Mike Mount contributed to this report.