An oil savior?

May 29, 2008

Iraq has the potential to supply much more oil

The growing concerns in the world energy market about the risks of a supply crunch have been a critical factor behind the recent surge in oil prices to a new record of $135/barrel. Speculators are betting huge sums on the assumption that the oil market (and other primary energy markets) will remain tight for many years to come, owing to the inelasticity of demand and to the constraints on long-term supply. Saudi Arabia, the world’s largest oil exporter, is doing its bit to allay these concerns, but has acknowledged that once its current crop of oilfield projects is complete in around 2013, there will be little scope for further capacity increases. Similar strains are evident in most of the other major oil-producing countries. One significant exception is Iraq, which holds (at least) 10 percent of the world’s proven reserves, but accounts for only 2.5 percent of total production. Iraq has the potential to furnish a long-term solution to the oil market’s long-term supply problem, but it will need to improve dramatically on its recent performance before buyers of oil futures will be convinced that it can deliver.
-----------------All about oil
If history had been kinder, Iraq could now be producing at a comparable level to Saudi Arabia. Instead, three wars, 13 years of sanctions and five years of internal conflict have eroded Iraq’s oil infrastructure and human capital. However, Iraq also has a history of recovery. Production peaked at over 3.5 million bpd in 1980 on the eve of the Iran-Iraq imposed war, but then averaged less than half that level during the eight-year imposed war. It had nearly recovered to 3.5 million bpd in 1990, after which the invasion of Kuwait and the subsequent UN sanctions severely limited exports, and hence production. In the five years before the U.S.-led invasion of 2003, the sanctions regime gradually permitted greater exports, and production was often above 2.5 million bpd. However, it fluctuated considerably due to the impact of years of underinvestment, restrictions on the import of spare parts and isolation from the international oil industry.
This volatility in production has continued in post-Saddam Iraq, although the average level has usually been below 2 million bpd, and only exceeded the immediate pre-war level of 2.3 million bpd for the first time at the end of 2007. Operations have been frequently disrupted by events ranging from the bombing of pipelines to the murder of oil workers. Moreover, the competition between political factions for influence at every level in the industry — as well as widespread corruption — has not provided suitable conditions for a revival of the industry. There is even concern that damage may have been caused to some fields in order to maintain production at modest levels.
Things may be changing. Iraq’s deputy prime minister, Barham Salih, said in April that Iraq’s total reserves, could be as high as 350 billion barrels, triple the 115 billion that has been its officially stated level for many years. The figure is aspirational and should be treated carefully but, given that there has been barely any new exploration of Iraq’s promising geology in 30 years, an upward revision of the official reserves figure seems long overdue. This underlines Iraq’s uniquely large reserves-to-production (RP) ratio, which was already the world’s highest and, based on Salih’s estimate and at the expected production level of 2.3 million bpd in 2008, would stand at a remarkable 415 years (compared with a world average of about 40 years). If Iraq were able to achieve the average Middle East RP-ratio of 80 years then it would be pumping 4 million bpd based on the current reserves, and 12 million bpd based on Salih’s estimate. Getting there would take some time, around five years for 4 million bpd and probably more than 20 years for the most optimistic level. It would also require Iraq to achieve a sufficient degree of stability. However, if there are promising signs of progress over the next 18 months, then it might be enough to mitigate fears of shortages next decade and dampen the futures market.
------------------Fair share
The issue on which everything hinges is the basis on which Iraq’s oil will be developed. Although at its height in the 1970s, Iraq’s national oil industry would have had the capacity to implement a significant part of the exploration and development needed, it has been severely eroded since then. Therefore, it is widely recognized that foreign expertise will be needed, but Iraqis are split on two important issues which have so far held back progress. The first is whether the development and operation of the oil sector will be managed entirely from Baghdad or also at a regional level, particularly in the Kurdish region. The second is the terms under which international oil companies (IOCs) will be invited to participate. In particular, the idea of production-sharing contracts (PSCs) has aroused such considerable opposition — from parliamentarians and oil workers’ unions who believe that Iraq should fund the development itself (particularly now that there is a large budget surplus) — that the government has apparently backtracked. These controversies have blocked the ratification in parliament of a national hydrocarbons law which was first approved by the cabinet in February 2007. Although no draft has so far emerged that elicits a majority of support, it may yet pass this summer as part of a bundle of laws.
(Source: Economist)