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Iraqi oil sector: Fighting against all odds

Iraq’s myriad troubles will not stop its crude output from growing again in 2016, says oil minister Adil Abdul al-Mahdi

Islamic State (IS) controls large swathes of the country’s north and west. Conflict has displaced at least four million citizens. Kirkuk and its oil have been subsumed into an expanded Kurdish region, which is itching for independence. Basrawis are demanding more money from Baghdad. War has rendered the country’s biggest refinery, Baiji, inoperable. The slump in oil prices has wrecked Baghdad’s budget.  

Yet somehow Iraq hangs on and somehow its oil sector continues to defy the gloom. “Iraq lived with sanctions and we can deal with this,” says Adil Abdul al-Mahdi, the country’s oil minister.  

Not just survive, either. Abdul-Mahdi believes Iraqi production, now at 4.35m barrels per day, will keep rising in 2016, pumping more oil into a saturated global market. Exports from the south have reached 3.325m b/d and, says the minister, could rise by 100,000 to 150,000 b/d again this year. 

A new export route to Jordan will get underway in 2016 too, Abdul-Mahdi says, giving Iraq’s southern mega-projects another outlet for their crude. Iraq also hopes to see one of its own - Thamir Ghadhban, a long-serving oil ministry official - become secretary-general of Opec. It would mark the real return of Iraq to the centre of an organisation it helped found in 1960.

It’s a cheery outlook: no one can accuse the genial Abdul-Mahdi, 73, of pessimism. As he sat down with Petroleum Economist for an interview in Kuwait City in late January, Brent was struggling to rise above $31 a barrel. But a rise is in store, Abdul-Mahdi believes. Brent should trade for $60-70/b - its “just” price; and $45/b is “the minimum we can accept”. 

A weaker global demand outlook and persistent oversupply makes a jump to even the lower number look some way off. But Iraq itself is hardly helping to fix the problem. Since mid-2014, when Brent began its downwards path, the country has added 1.2m b/d to world production. On its own, that’s the bulk of the current oversupply in the market. Keen to keep customers, Iraq has also regularly discounted the oil it sells.

Would Iraq trim back some of this supply as part of a concerted Opec effort to lift prices? It’s a critical question, given recent efforts from Venezuela to engineer some kind of deal involving big non-Opec exporters like Russia. A market recovery is urgent for Iraq: despite a near 30% rise in output in the past 18 months, its monthly revenue from oil - about $2.3bn in January - is at its lowest since 2009. In December the government projected a deficit of $21bn for 2016, but that was based on an oil price of $45/b, about double the prevailing price for its heavy oil. Iraq needs higher prices, quickly. 

A position with options

But Abdul-Mahdi’s position on cuts takes some unpacking. “We will ally with Opec if they are ready to change their plans,” he says. He supports an emergency meeting - but not unless an agreement is in place first, “or it would backfire”. He “tried to persuade the Saudis” to change the kingdom’s policy. Iraq will “respond in a positive way if we see others respond”. 

Clear enough, except for one big caveat. For cuts to work Opec would need to revive its quota system - and Abdul-Mahdi says Iraq is not yet ready to be restricted in that way. “Iraq lost almost 25 years of its production in favour of other members,” he says. “We will deal with this.” It’s a sound argument, with history on its side. But anyone expecting full-bodied Iraqi commitment to a deal should think twice. For now, whatever Brent’s price, Iraq also needs whatever extra cash it can garner from more exports: the main rationale behind Baghdad’s efforts to maximise shipments.

Alongside more storage capacity and berthing facilities at Fao, last year’s move to divide oil streams into Basra Heavy and Basra Light has helped boost the flow of oil out of the south. But infrastructure constraints still loom on the horizon. Abdul-Mahdi believes a new route for a long-planned pipeline to Jordan is the solution. Originally, this was to link Basra with Haditha and pass through the middle of Anbar province, in Iraq’s west. IS’ presence there has ruined that idea, so the new plan is for the pipe to run along the Saudi border, at the southern edge of Anbar, entering Jordan further south. (Abdul-Mahdi still insists the original plan is viable “if Haditha and Anbar are secured”.)

Abdul-Mahdi says work on the new route will begin this year. But details are vague. It will be shorter and “cost much less money” than the earlier, $18bn plan, he says. The original proposal also envisaged capacity of 2.25m b/d - far more than Iraq needs at present. The link was to have sent some oil to Baiji, Iraq’s biggest refinery. But the plant has been out of action since IS attacked it in 2014. Battles to control it and looting of the facility mean it is now indefinitely inoperable, a symbol of disintegration in Iraq’s north.

Indeed, northern Iraq is another major problem facing Abdul-Mahdi and Baghdad. About a third of Iraq’s oil-output growth since mid-2014 has come from Iraqi Kurdistan. The Kurdistan Regional Government, which runs the autonomous province, is now exporting about 0.6m b/d through Ceyhan, the Turkish port that was once the outlet for all Iraq’s northern output.

Kurdish Iraq is still legally part of Iraq, but Baghdad controls none of this oil. An original agreement - by which the KRG was to supply 0.55m b/d for the federally controlled State Oil Marketing Organisation (Somo) to export, in exchange for 17% of Iraqi oil revenue - has collapsed. The KRG is exporting the oil without Somo and Baghdad is not paying the money. Worse still, for Baghdad, the KRG is now in control of Kirkuk and its fields, which are feeding into its own independent oil sales. 

Abdul-Mahdi does not accept that this is the end of the matter, or that the KRG and its oil sector, including Kirkuk, are now beyond retrieval. The Kurds “remain an integral part of Iraq”, he says. The division is “not in the interests of the KRG or Iraq”. A “high-level delegation” from Erbil was due in Baghdad to negotiate. “Our request is that the oil should be delivered to Somo and then we will get back (to releasing) the 17% so salaries can be paid.”

But that seems unlikely. The Kurds will be loth to surrender Kirkuk, which holds enormous significance for their aspirations to nationhood. Despite its distressed finances, the KRG - like Iraq - continues to plough its own furrow, helped by Turkey. Despite early teething problems, including opposition from some Western powers, independent oil exports from Iraqi Kurdistan are now established and, indeed, necessary if the KRG is to keep honouring debts secured against this oil. Many Kurds still dream of full political independence, a prospect made more plausible by Baghdad’s loosening grip on the country.

Systematic risk

Kurdish grievances have much to do with feelings of Baghdad’s mistreatment, and such sentiment is a new danger in the south too. In mid-January, Baghdad sent an armoured division to Basra to quell unrest in the city, the heart of Iraq’s oil industry. While sectarian conflict carries on elsewhere, the complaints of Basra’s Shia are different: responsible for the bulk of their country’s income they are receiving a fraction of the oil money the constitution says they are owed. 

Abdul-Mahdi isn’t shocked that Basrawis should have a beef with the central government. “They are providing 70% of the national wealth but still their situation has not improved.” They want “more share in the revenues and more development of their cities”, he says. The protests are “natural and acceptable”. It’s a sanguine view of a situation that has prompted the arrival of tanks to deal with it.

The KRG’s go-it-alone oil strategy may have spurred similar thoughts in Basra, but Abdul-Mahdi thinks Kurdish Iraq’s predicament should also be instructive. “Salaries haven’t been paid for months”, in the KRG, he notes. The message - things would only get worse for you - might be realistic but it’s hardly reassuring.

As long as Basra remains stable and the oil keeps flowing through Fao, the issue will probably remain off the radar for a global market strangely blind to geopolitical risk. But a more prosaic threat to oil production in the south also looms. The terms of Baghdad’s contracts with the international oil companies operating the mega-projects mean the operators recoup their costs from the government on a quarterly basis. At high oil prices, this worked, but unevenly: Baghdad enjoyed robust cash flow, but was often slow to repay. But the expenses claims have not fallen as steeply as the crude price, leaving Baghdad feeling the pinch. The oil ministry has demanded that the companies cut back on their spending. 

Abdul-Mahdi says the firms have responded positively, with a “good decrease”, and claims that the reduction will not affect production. But analysts disagree and complaints from majors about payment delays are still common. The treacle-like progress of the common seawater project - a $10bn plan to collect water for reinjection into the fields, which still lacks a lead company - is also likely to slow development in the south. 

It is all making investors restless, just when Iraq can least afford to lose them. US company Occidental has already said it will sell its stake in the Zubair field. On top of so many other pressing matters, Iraq cannot afford more departures. Abdul-Mahdi has overseen a remarkable rise in Iraqi output, but his next tasks may be more difficult: keeping the output ticking higher and his energy sector together.

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