Against the backdrop of a desperate year for Iraq, there was at least a small silver lining in the closing month of 2014. It was announced that the country’s government and the Kurdish region reached an agreement resolving a longstanding dispute over the budget and oil.
A statement from the Iraqi Prime Minister Haider al-Abadi’s office said the deal, which comes into effect this month, was approved during a cabinet meeting also attended by the Kurdish Prime Minister, Nechirvan Barzani.
“We have reached an agreement with the Iraqi government which will benefit both parties and whereby we will export 250,000 bpd (barrels per day) of regional oil and help the federal government export the Kirkuk oil,” said Barzani.
The deal will see oil from the Kurdish region or claimed by its leadership exported via Kurdish pipelines but through the federal oil company.
In return, Baghdad will release the Kurdistan regional government’s share of national revenue, which had been frozen for more than a year in retaliation for Irbil’s efforts to export oil unilaterally.
The news was welcomed almost unanimously by observers, although there is some doubt as to whether or not the deal will be a long-lasting one.
Jafar Altaie, who in 2004 was appointed as an economic advisor in the Iraqi Ministry of Oil, tells Oil & Gas Middle East that the deal has been accelerated by the actions of IS in the country.
“In the immediate term, it is extremely positive. It allows Kurdistan to return to the political process, and give them some financial stability and continue with their development. Baghdad can now concentrate on other vital things,” says Altaie, who formed energy consulting firm Manaar in 2009.
“What is also important is that this deal undermines the IS as it makes it harder for them to sell unreliable fundamentals into the Iraq economy. Something like that is tackling the roots of IS so it is very positive.”
Badr Jafar, president of Crescent Petroleum, which has worked extensively in Kurdistan over the last decade, comments: “The tragic events of 2014, as well as plunging oil prices, have obviously helped to re-order the priorities of politicians in Baghdad and Erbil and bring them closer together.
“My understanding of the agreement based on public disclosures is encouraging. However there are a number of practical details, which remain to be seen, and the next few months will determine how effective this interim agreement really is, and whether contractors in the Kurdistan region will be able to receive regular payments for their ongoing production activities.”
But history suggests that the arrangement will not be a lasting one last, with issues on both sides likely to scupper long-term collaboration. The hope, instead, is that the existing agreement can act as a springboard to bring Kurdistan and Baghdad back to the negotiating table again in the future.
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“The recent deal is positive, but let’s not get carried away,” says Altaie. “In my opinion the prospect of a breakdown between Baghdad and Kurdistan is inevitable and could happen imminently. The issues on the table are just too much and there is too much space between the sides for the deal to be lasting. The prospect of a breakdown is when rather than if.
“But what people are expecting is that there will now be scope to come back to the table after a breakdown. Ironically, it is IS which is a big incentive to work together, and as a result many of the fundamental issues between the parties have been deferred. The big news is the scope to come back and work together, as this deal has set a precedent for the future.”
Dr Jafar D. Jafar, the Iraqi CEO and owner of URUK Group, says the new deal has helped shore up some of the main production lines in the country
“The main impact was to stop Iraq’s oil export through Kirkuk-Cehan Pipeline, but this pipeline was being sabotaged continuously even before the recent crisis. Therefore, the export of Kirkuk’s crude oil was intermittent. However, the recent agreement with KRG allows Kirkuk’s crude oil to flow through a smaller pipeline that was connected with Cehan pipeline by-passing the area controlled by insurgents,” he comments.
The increase in production comes at a time when the oil price is falling to five-year lows. In many GCC countries, that decline stands out as a deeply pressing issue. However, Altaie believes that the fall in crude prices in lower down on Iraq’s list of priorities at present.
“In theory, the fall in prices should have been one of the factors that accelerated the deal between Baghdad and Kurdistan, but I don’t know if they are strategic enough to align their perspective with the oil price. I don’t mean that in a negative way – both sides have their plates full and that sometimes means they become a bit blind to their international markets,” he says.
“The public finances influence the decisions made in Iraq more than the price of oil and even that is quite far down the list. The number one reason was IS and what they were doing to the country.”
It seems scarcely credible, but even in the face of the most severe of challenges, Iraq has maintained and even increased production, continuing the trend of year-on-year increases, an achievement that Altaie concedes he didn’t see coming.
Jafar explains: “Despite the troubles, the oil and gas industry in most parts of Iraq has not been too badly disrupted. The key production hubs in southern Iraq and the Kurdistan region have more or less maintained production. Southern Iraq production has been just over three million bopd and, based on the KRG Ministry of Natural Resources’ figures, the Kurdistan Region has exported on average 200 kbpd in 2014. Iraq’s combined 2014 production has averaged 3.3mmbpd, relative to 2013 production of 3.14mmbpd.”
Reflecting on the ability to increase production in such circumstances, Altaie remarks: “I attribute that to the organisation of state oil companies that have been historically been able to handle challenges day-to-day under some really difficult challenges. Under Saddam, the penalty for making a mistake was your life, so they had to get it right. That culture has manifested itself.”
The energy economist also gives a significant amount of credit to the international oil companies (IOCs) that have played a large role in the country’s energy projects.
“Let’s not give all of the credit to Iraq. The IOCS – particularly BP, Shall, the Chinese (CMPC), Gazprom and Lukoil – have really driven the whole programme forward.”
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While the idea of increasing production at a time where many of the main players are calling for a cut in output might seem counter intuitive, Iraq is well placed to deal with low oil prices, while the state of its public finances also dictate that every effort must be made to bring in increased revenues.
“Production costs in Iraq are very low. Therefore, oil at $50 to $70 per barrel is still very profitable,” says Dr D. Jafar.
Badr Jafar adds: “Iraq, including the Kurdistan region, hugely benefits from being onshore and material resource holding provinces. Onshore operations in Iraq benefit from lower production costs than the global average and Iraq’s fields are at the lower end of the cost curve.”
“However, the economics of the projects are not the main concern for Iraqi production growth. Iraq’s ability to boost export volumes is more affected by above-ground issues like infrastructure bottle necks, fiscal stability, security, administrative delays on approvals and delays and irregularity of payments to contractors.
“Especially in a low oil price environment, Iraqi authorities need to ensure removal of these above-ground challenges expeditiously to ensure investor appetite remains and Iraq’s production ambitions both near-term and long-term are achieved.”
While the price has fallen dramatically since the summer, it is not the main concern for international companies working in the country, agrees Altaie.
“Iraq takes at least 95% of the revenues from these contracts, so that means Iraq is more exposed. I’m not saying the companies aren’t impacted but nowhere near as much as the Iraq budget. The take on 5% is minimal and under the deals, the companies have to get the money they’ve invested back, so a level of revenue is already secured. The oil price is not the main worry for the companies.
“The main worry remains the contract model, which was devised when the price of a barrel was up at $100 or more. The first thing to say is that production costs are majorly low, so there’s a lot of room to absorb drops in prices. Secondly, the companies are worried about their day-to-day decision-making, the security, and the ability to carry out operations and fatalities in the field.
“That’s hugely important as the companies operate under really strict criteria, if there is one fatality, they are out.”
And it is also the the country’s balance sheet dictates that it must continue with its plans to increase production.
“Iraq needs a strong balance sheet to help overcome its current troubles,” Badr Jafar confirms. “Iraqi oil production is the main source of revenue for the country’s budget; oil will have contributed about 95% in 2014.
The latest proposed 2015 Iraqi budget estimates 3.8mmbpd of gross production; 3.25mmbpd from the south and 550kboed from the Kurdistan Region and Kirkuk, based on a $70/bbl oil price. The export target for 2015 is 3.3mmbpd; 2.75mmbpd from the south, 0.3mmbpd from Kirkuk and 0.25mmbpd from the Kurdistan Region, relative to the 2014 export target of 2.6mmbpd.”
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But such ambitions all hinge on the country being able to overcome the threat of IS. If it does succeed in doing so, the will look much brighter, although a smooth road to progress remains unlikely.
“Iraq faces make or break over the next year and the future of the country is very much in the balance,” warns Altaie
“If fails to properly deal with its challenges in 2015, you’re going to see a completely different Iraq in the following year, where production won’t increase; instead falling downwards. There are foundations to increase production, but there is an existential threat that makes everything really uncertain.
“If the country makes it – seeing off IS and increasing production – Iraq changes dramatically in 2016 and its status in the region is altered. I think it has a lot of potential, and has a diversified economy. It will also have strategic locations for growth and an improved security set-up. Importantly, it will also be able to develop strong bilateral relationships with Iran, and along with Turkey and Syria, the country is really key to the success of Iraq.
“In a nutshell, it will become a regional focal point and I think its whole status could become closer to what it once was.
Iraq has also long been without a hydrocarbon law, but that may soon be resolved, and will establish distribution of privileges and responsibilities of the sector between the federal Ministry of Oil in Baghdad and the authorities in the provinces and regions.
“On the back of the passing of the hydrocarbon law, progressive national oil companies need to be implemented, including the Kurds,” Altaie says.
“When you bring together all sides, the Kurds would have a stake in central policy and I don’t think anyone has thought as far ahead yet, although I would say that the set-up of the new Ministry of Oil in Baghdad is a huge improvement on the previous one.
“When and of they get that in order, they can concentrate on issues such as natural gas, which is really underutilised and more effort needs to be made to find non-associated gas.”
However, such progression remains some way off, and depends on Iraq overcoming one of its biggest ever challenges.
