The sculpture by Czech artist David Cerny was to be displayed in the coastal town of Middelkerke during the Beaufort 2006 arts festival starting on 1 April.
But Mayor Michel Landuyt banned display of the scuplture within the town limits fearing the reaction.
He said his decision was taken well before the eruption of a row over cartoons of the Prophet Mohammed first published in Denmark, which has escalated into violent demonstrations in a number of countries.
"This work could shock people, not only from around here but tourists and potentially people of another faith, in particular Muslims," he told AFP.
Leo Coulier, secretary of the Middelkerke town hall, described the scupture as "controversial" and "potentially explosive".
The sculpture, named "Shark", depicts Saddam Hussein in underpants with his hands tied behind his back in a shark-like pose.
The piece apparently refers to a famous work by the British artist Damien Hirst, whose tiger shark in a glass tank of formaldehyde was nominated in 1991 for the Turner Prize, one of the most prestigious European art awards.
The sculpture will now be exhibited in the Museum of Modern Art in the coastal city of Oostende, which plans to put it on display in April, a museum official said.