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Baghdad-KRG deal gradually coming on line

The oil-export deal between the Kurds and the rest of Iraq is working, in part, but complexities and differences still bedevil it

After a rocky start, the oil-export deal reached between Iraq’s federal government and the autonomous Kurdistan Regional Government (KRG) last December is now moving towards full implementation. The country was able to get a fresh start with the election of Hayder al-Abadi as head of a new government last September, and following an interim deal, the two sides reached a comprehensive agreement which was embodied in the budget bill passed by the Cabinet on 23 December. 

Six months on, exports from the north are on the upswing, especially the component contributing to the federal budget. In January, pipelines going through the KRG exported close to 400,000 barrels per day (b/d), but only about 160,000 b/d of that was to the federal account and the remainder was on the Kurds’ own account. Despite some discrepancies, figures from early May show total output from the north – which includes both the KRG provinces and Kirkuk – increasing to over 500,000 b/d, with at least 450,000 b/d being through the federal system controlled by the State Organisation for the Marketing of Oil (Somo). Despite continued political disputes – and a great deal of political and financial complexity in the arrangement -- it is in the financial interest of both sides to continue this trajectory, and total production from the north will likely gradually increase throughout the year. 

Parliament passed the budget, with KRG-relevant provisions unamended, on 29 January. Among its provisions was one stipulating that of 3.3m b/d of Iraqi oil output, 550,000 b/d would come from Kurdistan – 250,000 b/d from the KRG proper, and 300,000 from Kirkuk through the KRG’s pipeline to Turkey. Article 1, the source of that output projection, also contained a crucial centralising clause providing that “all revenues actually accrued are considered to be final revenues of the state public treasury”. That is, the money would belong to Baghdad. Article 11 gave the federal government the right to cut off the KRG’s budget allocation for not turning over revenue from oil exports.

Since January, this agreement has moved in stages towards implementation, but with only partial performance on both sides. The KRG turned over to Baghdad only about 150,000 b/d in January, and all of that from wells in Kirkuk controlled by the federal state’s Northern Oil Company (NOC) – oil that the federal government would claim belongs to it anyway. So Baghdad made no payment for January, and the KRG thereafter moved towards compliance, contributing reported amounts of about 300,000 b/d in February, 350,000 b/d in March and 450,000 b/d in April. All these amounts were less than the KRG’s total exports, meaning that it was in violation of budget Article 1 each month. Baghdad has in turn made reported payments of $208m for February, $420m for March and $445m for April. 

Much confusion surrounding the oil export deal relates to the agreement’s terms of quantity of production versus centralisation of revenues. Kurdish leaders have publicly claimed that the problem was simply their inability to produce 550,000 b/d from the start of the year. The problem relates, rather, to the KRG exporting some non-transparent quantity of oil each month on its own account rather than turning it all over to Baghdad. Despite the figures it was reporting to Baghdad, the KRG was estimated to be exporting about 230,000 b/d on its own account in January, and progressively lower amounts in the following months. 

Some dispute has arisen over a purported side-agreement allowing the KRG to gradually increase its exports over the year to average 550,000 b/d rather than export that level from the beginning. In March the KRG published tables (dated 23 January) which it claimed reflected this, and these documents show the KRG committing to contribute 250,000 b/d in January, rising to 550,000 b/d by 1 May and then 625,000 b/d by 1 July and for the rest of the year, so as to average 550,000 b/d. 

However, these documents are not signed, were not referenced in the budget law, and Abadi has expressly stated that there were no terms to the agreement outside those in the budget. Even if a Baghdad official – perhaps Abd al-Mahdi, the federal oil minister, or even Abadi himself – had approved the schedule, this would still contradict the centralisation clause in Article 1, and naturally the language passed into law would prevail. 

The status of oil from the KRG-controlled Makhmur district is an ambiguity not addressed directly in the agreement. Makhmur is a Kurdish-populated region to the northwest of Kirkuk city and the southeast of Mosul, in Nineveh governorate. It accounts for much of the output from the Kirkuk oilfield. While Baghdad views Makhmur as part of Kirkuk province, the KRG views it as a part of its territory. Assuming all its oil were exported through the federal system, this territorial dispute would have no impact. But since the KRG’s public position is that it merely needs to hit the quantity levels, not turn over all oil, this matters: if Makhmur is part of Kirkuk, its contribution cannot be counted for the KRG, but if it is under Erbil’s control, then any shortfall below 300,000 b/d for Kirkuk is due to capacity limitations and not bad faith. 

In practice, the KRG has been transporting Kirkuk oil that is controlled by the NOC since January. But Abadi gave the KRG no credit for this – it being, in the Arab view, Baghdad’s own oil – so the KRG received no money in January. Abadi’s firm line on payments caused the KRG to quickly buckle, however, and the two sides appear in practice to have reached an unannounced compromise -- the KRG would hand over Makhmur oil to Baghdad, and Baghdad would give the KRG credit for this. Exports from Kirkuk increased to 8.5m barrels in February – just over 300,000 b/d – and this would only seem possible with Makhmur oil included. Hence Baghdad made a payment to the KRG for that month. 

Implied recognition of Makhmur and its oilfields as not merely Kurdish, but Kurdistani – that is, belonging to the KRG’s territory -- reflects facts on the ground. The Peshmerga had control of Makhmur before the collapse of the federal army in the north last year, and all recent reports of fighting against Sunni militants of the Islamic State (IS) relate to the Peshmerga. The Kurds are bleeding for Makhmur now, and when Kurdistan secedes, so will Makhmur. 

Complicating things still further, there is also a question of what the KRG’s monthly budget share is. KRG officials claim they are due $1bn per month. That was true in 2013 – the budget that year allocated $12,408,901,808 to the KRG, this being 17% of the budget (an estimate of the KRG’s share of Iraq’s population) minus “sovereign expenses” which the KRG shares: the foreign and defence ministries, Cabinet administration, and so on. But the 2013 budget’s spending projection was $119.2bn, whereas for 2015 that figure was $102.6bn. The 2015 budget does not give a specific amount for the KRG, just a formula (17% minus deductions), so extrapolating from 2013, that would make 2015’s monthly payment about $850m. 

Yet even the $850m figure is too high. The budget assumes an average of $5.6bn in monthly oil revenue, but February through April Iraq averaged just $4.3bn, making the KRG’s share less than $650 million. (There is also a portion of projected revenues from customs, but these revenues are less transparent, and likely to fall well short also.) So the April payment of $445m, just over two-thirds the amount the KRG is owed, may reflect a calculation that exports from Kirkuk do not count and so Baghdad will pay only in proportion to what it deems KRG-proper contribution. It’s hard to say, because Baghdad has not explained how it is calculating how much to pay Erbil each month. 

The waters get even muddier. In early May different official sources gave conflicting numbers for the KRG’s contribution for April. So while the oil ministry gave a figure of 450,000 b/d, on 1 May Iraqi media quoted Somo as saying that Kirkuk’s exports through the KRG were 300,000 b/d, leaving just 150,000 b/d for the KRG. In response to the federal figure, the KRG shortly after issued a report saying that its April contribution to federal exports was 563,000 b/d, well above Baghdad’s figure, including 534,000 b/d to the federal account. The same report indicated that “fields operated by the KRG” exported 415,000 b/d while Somo exported 147,000 b/d. The phrase in quote marks suggests that 150,000 b/d or so came from KRG-controlled Kirkuk.

The Iraq Oil Report, an industry newsletter, did point to a possible reconciliation between Baghdad and Erbil figures by saying that a large portion of the KRG oil was turned over to federal export on the last day of the month, and so perhaps not included in the federal count. Assuming Baghdad only gave the KRG credit for oil produced from the KRG, this might explain the relatively low April payment. Otherwise, assuming KRG figures are correct, they still contributed almost 90% of KRG oil to the federal budget.

Finally, despite some progress, the oil deal has become more difficult because the KRG’s position has changed since the last budget clash in a way Kurdish officials do not wish to emphasise. The last dispute started after the KRG began independent pipeline exports to Turkey in December 2013, and the government of then-prime minister Nuri al-Maliki cut the KRG’s budget payment’s off entirely the following month. Yet even then the KRG agreed that all revenues would be federalised and then they would get their share of the budget. The KRG’s insistence on maintaining control of the export mechanism – especially a separate account at the Development Fund for Iraq (DFI) in New York -- was the deal breaker. (The DFI collects all Iraqi oil revenue before it is passed to Iraq’s Finance Ministry. The Kurds wanted the money to bypass Baghdad and go straight to Irbil.) 

Standing apart

Yet now the KRG insists on the right to sell some oil on its own account, not turning that money over to Baghdad at all. This is because over the course of 2014, with no budget payments, public sector salaries in arrears and debts to foreign banks (mainly Turkish) and oil-service companies accumulating, the KRG needs the extra money much more than it did before. In February the Kurdish media outlet Awene quoted Ali Hamah Salih, a KRG assemblyman on the Mineral Resources Committee, as estimating the KRG’s debts and wage arrears amounted to more than $14bn, not including money owed to oil contractors. While the KRG’s lack of transparency makes this other amount unknown, in March Genel Energy told Reuters that it was owed $233m. The total for all KRG oil contractors is presumably in the billions. While this obligation is not strictly debt, it must be paid if the KRG wants the companies to continue investing in its territory. 

That means that receipts of $400m to $500m per month from Baghdad do not even cover the costs of the KRG’s own public sector – they simply stop it from collapsing completely. And whatever amount the KRG makes from exporting on its own account it can hand over to banks and oil companies.

KRG President Masoud Barzani’s trip to the US in the first week of May therefore came at a time when the oil-export agreement is finally coming online even though it is not all the way there. Barzani’s itinerary, which was conducted as if he were the head of a foreign state, did not go down well in Baghdad, with sources close to Abadi commenting negatively on it. Nonetheless the KRG’s long-term trajectory toward independence is clear enough, and Baghdad fiscal needs sufficiently pressing, that the make-or-break issue will, as ever, be the KRG’s contribution to federal exports. 

Kirk H Sowell is a political risk analyst based in Amman, Jordan, and the publisher of the biweekly newsletter Inside Iraqi Politics.

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