Iraq faces a future of uncertainty whatever President George W. Bush decides. A US invasion will damage the oil industry and interrupt exports. A continuing stalemate backed up with UN sanctions will do the same. Moreover, in either event, billions of dollars’ worth of business in Iraqi oil projects will not take place and Iraq itself will remain impoverished, unstable and anti-Western. Here, we try to assess what is at stake in any war and examine how world oil markets might be affected.
The most noticeable effects on the world’s oil markets of any attack on Iraq will be loss of Iraqi exports of crude oil and a sharp rise in petroleum prices worldwide. The loss in itself will have little effect on world supplies, since Iraq’s exports are currently low and could be made up from other sources. The main effect of a US attack will be psychological. Fears that the war may spread to neighbouring countries, such as Kuwait, will drive up prices, as will more general alarm at the prospects for political stability across the Middle East.
The ‘war psychology’ is already at work. Brent prices rose from $23.10 a barrel in early June to $28.00 in late August, immediately following US Vice-President Dick Cheney’s call for military intervention in Iraq. While some of this increase in prices undoubtedly reflects supply, demand, and stock levels, at least $3.00 is accounted for by market psychology. A further sharp rise will occur in the event of a US attack on Iraq.
The last conflict involving Iraq saw enormous volatility in world crude markets. Dated Brent prices rose from about $14.65 a barrel in June 1990 to over $41.00 in September, after Iraq’s invasion of Kuwait. By the following February, prices had fallen back to $18.20. Jet kerosene followed a similar pattern, climbing from just under $20.40 a barrel in Singapore in June 1990 to a high of $70.00 in October, before falling back to $31.00 at the end of February 1991. Similar volatility is likely this time
Military action would result in the cessation of Iraqi exports via Ceyhan in the Mediterranean and Mina al-Bakr on the Persian Gulf. These amounted to 900,000 bpd in August, which is easily replaced from other sources. OPEC countries have in fact been routinely making up for any decline in Iraqi exports throughout the year. During 1990 and 1991, OPEC replaced 4 million bpd from Iraq and Kuwait with little difficulty.
Iraq’s oil is mainly exported to Europe (see Table 18) and the USA (see Table A). Smaller volumes make their way to Asia and South America. In recent years, the Iraqis have been building up a useful niche in the US market. Last year, Iraq was the sixth largest supplier to the USA with 778,000 bpd, or 9% of total US crude oil imports. Since December, however, Iraqi volumes have fallen sharply.
| Table A | ||
| US imports of Iraqi crude, December 2001–June 2002 | ||
| Month | Volume | Share of total US imports |
| (thousand bpd) | (%) | |
| December 2001 | 1,120 | 13 |
| January 2002 | 988 | 11 |
| February 2002 | 706 | 8 |
| March 2002 | 780 | 9 |
| April 2002 | 583 | 6 |
| May 2002 | 436 | 5 |
| June 2002 | 167 | 2 |
| Source: US DOE/EIA Petroleum Supply Monthly | ||
US refiners have described Iraqi prices, particularly for Basrah Light, as too high. There have been more general complaints of illegal surcharges on Iraq’s UN-monitored crude exports, and many buyers object to the UN’s policy of setting Iraqi prices retroactively, which increases price risks for buyers in volatile markets. The main US buyers in 2001 were Valero, ChevronTexaco, ExxonMobil, Koch, Marathon, and BP. American refineries have often turned to Iraqi crude to make up for cuts in other sour crudes by OPEC in pursuit of higher oil prices. On the West Coast, refiners have used imports of Basrah Light to compensate for shortfalls in the production of Alaska North Slope crude. In May, Iraq was the main supplier of foreign crude for the West Coast. Recently, some European refiners, including Agip, BP, Cepsa, ÖMV, and Petrogal, have been seeking Iraqi cargoes, and exports to Europe have risen to nearly 500,000 bpd. Total Iraqi export volumes have nevertheless fallen since the first quarter of 2002 (see Table B).
Iraqi exports have in fact been falling since the second half of 1999, when they reached their highest level under the UN-administered programme that began in late 1996, when crude oil exports were resumed under the ‘Oil-for-Food’ programme. At their peak, Iraq’s crude exports amounted to 2.16 million bpd. In the two and a half years since then, they have more than halved. In the latest phase, which began on 30 May, they have averaged less than 1 million bpd. The retroactive pricing system imposed by the UN is undoubtedly partly responsible for the fall in exports; but another important factor is the state of Iraq’s production sector.
Table B |
|
Iraqi exports, December 2001–August 2002 |
|
| Month | Volume* |
| (million bpd) | |
| December 2001 | 1.3 |
| January 2002 | 1.6 |
| February 2002 | 1.8 |
| March 2002 | 1.8 |
| April 2002 | 0.6 |
| May 2002 | 1.1 |
| June 2002 | 1.0 |
| July 2002 | 1.0 |
| August 2002 | 0.9 |
* Oil-for-Food exports |
|
Iraq’s upstream industry is in a parlous state: damaged in the Gulf War and starved of outside investment ever since. Foreign investment in oil production is governed by the UN’s sanctions programme, which allows foreign companies to sign contracts, subject to UN approval, but severely restricts the type of work that can be done. Foreign currency for upstream development is allocated via the ‘Oil-for-Food’ programme. Most of the money, however, goes towards providing food and medical supplies. The Americans and British in particular have tried to restrict the export of spare parts for oil production on the grounds that some of the technology could be used for military purposes.
Iraq has retaliated by awarding contracts to companies from countries it considers sympathetic towards the easing of sanctions. Among these are Russia, China, Romania, France, and Tunisia. Russian companies have signed deals to develop a number of fields, including Bai Hassan and Saddam in northern Iraq, while Chinese firms have been awarded contracts covering South Rumailah, Luhais, and Ratawi, in the south of the country.
The prime aim of the contracts is to raise Iraq’s output capacity, but Iraq needs considerable effort simply to maintain output at existing levels. Indeed, without major works some important fields could decline drastically. Last year, a confidential UN report warned that output in the main Kirkuk field could drop by half to around 500,000 bpd within a year. The signing of the contracts, however, has done little to address Iraq’s upstream problems. In most cases, little or no work has actually been carried out.
The Iraqis have threatened to develop their fields without foreign help and have already done so in a couple of cases: West Qurna, which was awarded to a Lukoil consortium in 1997, and Majnoon, which was to have been developed by Elf Aquitaine under a 1998 deal. West Qurna was brought on stream in 1998 and is now producing 120,000 bpd, according to the Iraqi oil ministry. Majnoon was commissioned about two years later, and output is now reported to be above 50,000 bpd.
Iraq’s immediate aim is to increase production capacity to 3.5 million bpd by the end of this year and to 4.0 million bpd as soon as practicable afterwards. The official aim is to have 6.0 million bpd of capacity by 2010. Existing capacity is put by oil ministry officials around 3.3 million bpd. Late last year, however, the oil minister, Amar Rashid said that Iraq was finding it difficult to maintain production even at 3.0 million bpd. OET’s statistics show that Iraq has not produced 3.0 million bpd since October 2000 with 2.6 million bpd the highest level recorded so far this year (see Table 4.4c). The problem for Iraq is that all the time it is waiting for new production to be brought on stream, many of its existing fields are in decline.
Table C |
|
Iraq: oil balance* |
|
| (thousand bpd) | |
| Production | 1,700 |
| Consumption | 340 |
| Exports | |
| Oil-for-Food | 1,000 |
| Others | |
| Syria | 180 |
| Jordan | 110 |
| Turkey | 40 |
| Other Middle East | 30 |
| Total Exports | 1,360 |
| * figures are estimated for July 2002 | |
Iraq’s problems are by no means confined to the upstream sector of the oil industry. Huge reserves of natural gas remain undeveloped as a result of UN sanctions, while refining, petrochemicals, and the petroleum infrastructure in general are only functioning at a low level, if at all.
Proven gas reserves of 116 trillion cubic feet make Iraq a potentially important producer and exporter of natural gas. About 70% of Iraqi gas reserves are found in association with crude oil. The remaining non-associated gas is found mainly in the north of the country. Iraq’s priority is to rehabilitate the oil fields, since these offer a faster route to raising export earnings than gas. In the longer term, however, the aim is to raise gas production as well: both for domestic uses, like power generation, and for export. Two memoranda of understanding were signed in the 1990s covering the possible export of 1 billion cubic feet a day of gas to Turkey. There are also plans to raise the output of liquefied petroleum gas (LPG) for fuel and petrochemical use. Petrochemical plans include an olefins complex at Basrah, along with aromatics and fertilizer units.
Before any large petrochemical plants are built, Iraq will need to refurbish and expand its oil refining industry. There are nominally nine refineries in Iraq, but only three are operational to any real extent. The remaining refineries have been cannibalized to keep the units going at Baiji, Basrah, and Daura. The products are often of poor quality and high in sulphur. The Iraqis want to build a new crude distillation unit at Daura, and platforming, catalytic cracking, and desulphurization units at Baiji and Basrah. They also want to reopen a small refinery at Mosul.
War with the USA would put an end to all schemes for the oil and gas industries. Long-term damage might well be done to the upstream sector, and there would be important political consequences, not only in Iraq, but across the Middle East.
The loss of Iraqi oil exports would create few problems on world markets. Saudi Arabia has expressed its willingness to increase its own exports by up to 3 million bpd in the event of the cessation of exports from Iraq: more than three-times the current level of UN-approved sales by Iraq. A rather greater danger to world supplies comes from any retaliatory attack by Iraq on oil export terminals in the Persian Gulf, including Saudi Arabia’s main Gulf port of Ras Tanura. The Saudis could divert around 5 million bpd to terminals on the Red Sea. The net effect of this would be to reduce Saudi oil exports by about 1.3 million bpd. A more serious loss, however, would be Saudi Arabia’s LPG exports, almost certainly causing world prices to rocket. An Iraqi attack on Kuwait’s export installations would remove about 1.7 million bpd from world markets.
One country would nevertheless suffer greatly from the loss of Iraqi oil supplies. Jordan’s only oil refinery at Zarqa is supplied with crude by Iraq. It also receives about 20,000 bpd of refined products from Iraq. The 110,000 bpd of crude and products are supplied under special dispensation from the UN and account for just about all of Jordan’s oil supplies. Another arrangement that falls outside the UN’s Oil-for-Food programme is an arrangement described as a ‘barter deal’ with Syria and involving the supply of up to 180,000 bpd of crude oil. Turkey receives varying amounts of Iraqi products illegally (see Table C) but is trying to stop the trade.
The main long-term effects of any US-led attack on Iraq would be political. Even assuming American military success, there would almost certainly be prolonged instability inside Iraq. The present government has kept the country united by ruthless suppression of its opponents. A power vacuum in Baghdad, however, would almost certainly strengthen separatist sentiment amongst the Kurds in the north of the country and, to a lesser extent, within the Shi’i population in the south, including the Marsh Arabs. Kurdish separatists could threaten Iraq’s northern oil fields, including Kirkuk. A politically unstable Iraq would also find it difficult to attract outside investment in its oil and gas industries.
The overthrow of Saddam Hussain could trigger uprisings against pro-US regimes elsewhere in the Middle East, notably in Saudi Arabia. Some groups in the USA believe this would actually be a positive outcome of any war against Iraq, arguing that the Saudi government, far from being an ally of the USA, is a financer of terrorism. Others have maintained that the USA is too dependent on Saudi oil (the kingdom provided nearly 18% of US crude imports in 2001 and is its number one foreign supplier). The installation of a pro-USA regime in Baghdad, according to this school of thought, would have the added benefit of providing the USA with an alternative to Saudi oil over the longer term. The US Department of Defense has sought to distance itself from such groups. It is nevertheless likely that an American victory over Saddam would greatly increase the political and economic leverage of Washington over surrounding countries in the Middle East.
The actions of OPEC are likely to move up the US agenda as well. Washington may even try to detach some non-Middle Eastern members of the organization. It will certainly encourage both Russia and the Caspian states to step up their production and the latter to export their oil via the Mediterranean (see ‘Focus’, July 2002). US war aims are almost modestly stated as aimed at achieving a ‘regime change’ in Iraq. The effects of an Iraqi war will spread far wider than this and could last for more than a decade.
© Blackwell Publishing Ltd, 2002