The Iraqi Oil Sector: Dilemmas of Reality, Opportunities and Challenges of the Future // Ahmed Musa Jiyad

But the "triple shocks Triple shocks " represented by the collapse of oil prices since June 2014 (economic risks) accompanied by the effects of ISIS (security risks) and the Kurdistan Regional Government's seizure of some oil fields of the North Oil Company -NOC (June 2014 - October 2017) (political risks) with the prevailing feeling at the time according to the saying of the possibility of oil prices remaining "low for longer lower-for-longer" contributed to the continued deepening of the state's financial crisis and the emergence and dominance of the impact of the "fear factor" among and on Iraqi decision-makers. This led, in conjunction with clear gaps in human, organizational and institutional capacities (business risks business risks), to Iraq making very important concessions to international oil companies without obtaining tangible benefits in return.

But the "triple shocks Triple shocks " represented by the collapse of oil prices since June 2014 (economic risks) accompanied by the effects of ISIS (security risks) and the Kurdistan Regional Government's seizure of some oil fields of the North Oil Company -NOC (June 2014 - October 2017) (political risks) with the prevailing feeling at the time according to the saying of the possibility of oil prices remaining "low for longer lower-for-longer" contributed to the continued deepening of the state's financial crisis and the emergence and dominance of the impact of the "fear factor" among and on Iraqi decision-makers. This led, in conjunction with clear gaps in human, organizational and institutional capacities (business risks business risks), to Iraq making very important concessions to international oil companies without obtaining tangible benefits in return.

But the "triple shocks Triple shocks " represented by the collapse of oil prices since June 2014 (economic risks) accompanied by the effects of ISIS (security risks) and the Kurdistan Regional Government's seizure of some oil fields of the North Oil Company -NOC (June 2014 - October 2017) (political risks) with the prevailing feeling at the time according to the saying of the possibility of oil prices remaining "low for longer lower-for-longer" contributed to the continued deepening of the state's financial crisis and the emergence and dominance of the impact of the "fear factor" among and on Iraqi decision-makers. This led, in conjunction with clear gaps in human, organizational and institutional capacities (business risks business risks), to Iraq making very important concessions to international oil companies without obtaining tangible benefits in return.

But the "triple shocks Triple shocks " represented by the collapse of oil prices since June 2014 (economic risks) accompanied by the effects of ISIS (security risks) and the Kurdistan Regional Government's seizure of some oil fields of the North Oil Company -NOC (June 2014 - October 2017) (political risks) with the prevailing feeling at the time according to the saying of the possibility of oil prices remaining "low for longer lower-for-longer" contributed to the continued deepening of the state's financial crisis and the emergence and dominance of the impact of the "fear factor" among and on Iraqi decision-makers. This led, in conjunction with clear gaps in human, organizational and institutional capacities (business risks business risks), to Iraq making very important concessions to international oil companies without obtaining tangible benefits in return.

But the "triple shocks Triple shocks " represented by the collapse of oil prices since June 2014 (economic risks) accompanied by the effects of ISIS (security risks) and the Kurdistan Regional Government's seizure of some oil fields of the North Oil Company -NOC (June 2014 - October 2017) (political risks) with the prevailing feeling at the time according to the saying of the possibility of oil prices remaining "low for longer lower-for-longer" contributed to the continued deepening of the state's financial crisis and the emergence and dominance of the impact of the "fear factor" among and on Iraqi decision-makers. This led, in conjunction with clear gaps in human, organizational and institutional capacities (business risks business risks), to Iraq making very important concessions to international oil companies without obtaining tangible benefits in return.

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The oil sector has witnessed many developments since 2003, some of which had positive effects and others had negative effects; as a result, the sector achieved some successes and at the same time suffered from numerous and significant failures that contributed overall to firstly creating a state of unbalanced development in the sector itself and secondly to perpetuating and entrenching the structural imbalance of the Iraqi economy represented by deepening dependence on crude oil production and export in the foreseeable future.

Although the state plays the leading role in developing the oil sector, the post-2003 period witnessed a great opening for the participation of international oil companies IOCs and foreign investment, where different frameworks were proposed or adopted, mostly reflecting the characteristics of each sub-sector (within the oil sector), to regulate contractual, legal and investment relations with international companies.

Comprehensive monitoring and continuous research indicate that most of the notable development has occurred in the extraction sector  where international oil companies have entered into contracts related to the development of most known large oil fields, which in turn cover a large part of proven oil reserves.

However, the "triple shocks" of the collapse in oil prices since June 2014 (economic risks), coupled with the effects of ISIS (security risks), the Kurdistan Regional Government's seizure of some North Oil Company (NOC) oil fields (June 2014-October 2017) (political risks), and the prevailing sentiment at the time that oil prices were likely to remain "lower-for-longer" contributed to the continued deepening of the country's financial crisis and the emergence and dominance of the "fear factor" among and over Iraqi decision-makers. This, coupled with clear gaps in human, organizational and institutional capacities (business risks), has led Iraq to make very significant concessions to international oil companies without receiving tangible benefits in return.

Due to the failure to adopt a clear and consistent oil policy and because national development plans are of a guiding nature and the absence of proper revenue management, the Iraqi economy has become more fragile in facing the challenges of oil price fluctuations and uncertainty in sustainable returns from oil exports: that is, the recurrence of the nightmare of the state's financial crisis that we have repeatedly warned against since the oil price collapse crisis during the second half of 2008.

This study aims to evaluate and analyze the most important variables of the oil sector reality and diagnose what can be done especially in the short and medium terms. The first section deals with the reality and dilemmas or achievements and failures of the three sub-sectors that make up the oil sector since 2003; the second section provides a future outlook for opportunities and challenges for what can - or should - be done and the justifications for that, especially during the current government's term. The third section deals with the legal, institutional and regulatory frameworks required by virtue of their role in managing the oil sector, and finally some concluding remarks are presented.

Due to known publication constraints, there has been intense focus on the most important developments and summarizing information about them and avoiding delving into or presenting detailed and statistical information despite its importance; only one appendix has been prepared that summarizes the basic budgets of the oil sector which will be referred to in making comparisons. The latest available official information has also been adopted and used as much as possible and avoiding reference to all research sources and providing only the necessary link and not using explanatory footnotes.

Section One: Reality and Dilemmas of the Oil Sector During Fifteen Years

Before beginning, it must be noted that the oil sector consists, from practical, specialized, organizational, legal and contractual framework perspectives, of three different but largely and organically interconnected sub-sectors through basic physical inter-relationships: the upstream sector Upstream is the primary basic sector that includes exploration, development and production operations and activities; the midstream sector Midstream includes surface facilities such as pipelines, storage capacities, pumping stations, export ports and related facilities; while the downstream petroleum processing sector Downstream includes refineries and crude oil refining, gas processing and manufacturing, petroleum product distribution and petrochemical industry.

Main Features and Stages of Oil Extraction Sector Development 2003-2018

The extraction sector has witnessed, since 2003, many developments that have had and continue to have major direct effects on the development of the entire oil sector as well as on the national economy, albeit to varying degrees. Some features of these developments, by virtue of their special nature, constitute a distinctive and sometimes overlapping phase that can probably have a clear impact on the pattern of extraction sector development for several decades to come.

First: Memoranda of Understanding Memoranda of Understanding between the Ministry of Oil and International Oil Companies

The Ministry of Oil concluded between 2004 and 2008 approximately 40 memoranda of understanding (or cooperation) with many international oil companies. These memoranda of understanding contributed to providing valuable and unprecedented opportunities for international oil companies to access all information related to oil and gas in the country on one hand, and to know and establish relationships with many technicians on the other hand, which helped those companies identify the fields and activities they would participate in and what they could offer to plan their way towards penetrating the oil sector, especially the extraction sector.

One of the important results of these cooperation/understanding memoranda was helping in formulating technical support contracts that were determined at the time to last for two years, which were proposed for implementation by international oil companies during 2008 and 2009. However, the agreement on implementing those contracts faltered  due to reducing the duration from two years to one year.

In light of the experience of technical support contracts and the move towards adopting licensing rounds, the Ministry began formulating model contracts for licensing rounds that would form the contractual framework to govern the legal relationship with oil companies.

Second: The Accelerated Program and the Special Seminar on Oil Policy Review

Intensive discussion inside Iraq during the period from September 2008 to April 2009 focused on the miserable state of oil production, especially in important southern fields, and due to the significant deterioration in oil prices; where the average price of Iraqi oil per barrel fell from $113.81 in July 2008 to $34.57 in December of the same year. 

A high-level working team was tasked to study the issue, which presented a final and detailed report on January 12, 2009, proposing the adoption of an accelerated program. A copy of the report was distributed during the oil policy review seminar held in Baghdad from February 27 - March 1, 2009, which adopted the accelerated program to address the situation.

But the condition of the producing southern fields was going from bad to worse and the accelerated program that aimed, at least, to counter the decline in production and prevent it from deteriorating was not actually implemented. In light of official data, total southern exports decreased from 46.9 million barrels in July 2008 to 37.9 million barrels in February 2009.  Due to the deterioration of both prices, production and exports, total oil export revenues decreased from $6.692 billion to $1.922 billion during that period. 

Third: Conversion of the Ahdab Oil Field Contract

The "Development and Production Sharing" contract for the Ahdab field (Wasit province) was signed in June 1997, then the Ministry decided to renegotiate in 2006 to convert the "sharing contract" to a "service contract" for 20 years, and the service contract was signed in November 2008.

The importance of this conversion is highlighted in more than one aspect: it represents the first response by a major international oil company to invest in the Iraqi oil sector since the US-led invasion in 2003; it also provided an indicator of the type and nature of the new contract adopted by the Iraqi government, which is a long-term service contract, thus cutting off the path to advocacy for and supporters of production sharing contracts; determining and knowing the terms, conditions and contents of this type of contract; highlighting the importance of bilateral government relations or "oil diplomacy"; and finally, it represents the first version of the model contract that was adopted (but with many important modifications that reflect the learning curve) for four subsequent licensing rounds.

This contract also provided an important and strong opportunity to confirm and consolidate the role of the Iraqi Parliament in approving oil contracts because this constitutes a very important legal precedent; but unfortunately the opportunity was lost due to negligence or incompetence or deliberate intent by some influential people in Parliament.

Fourth: The Big-Push Strategy Big-Push Strategy through Licensing Rounds

By leveraging the experiences of memoranda of understanding, the state of the accelerated program, and lessons from the successful conversion of the Ahdab contract, the Ministry of Oil adopted what can be called a fast-tempo big-push strategy Fast-tempo big-push strategy   for Iraq to have a "game changer Game changer" role

This strategy was represented by granting many service contracts to develop the largest producing and discovered oil fields, free gas fields, and exploration blocks through four licensing rounds conducted within similar controls, phases, and methods.

These rounds were expected to achieve Iraq's production plateau target Production plateau target exceeding 12 million barrels per day by the end of 2017 and continuing for seven years. Note that the contracts of those rounds cover about 67 billion barrels, or 58% of the country's confirmed reserves at that time.

The decision to start licensing rounds and their results, particularly the first and second rounds, led to intensive and courageous debate among oil experts inside and outside Iraq about many aspects related to timing, type and number of oil fields offered, nature and terms of contracts, and questioning the possibility of achieving and sustaining high plateau production targets and the material, human and financial requirements needed for that, among others.

Fifth: The Integrated National Energy Strategy and Reconsidering Production Plateau

Iraq cooperated with the World Bank in preparing the Integrated National Energy Strategy - INES (2013-2030) and with the International Energy Agency IEA  in preparing a special report on energy prospects in Iraq. One of the most important results of these two activities was convincing Iraqi authorities of the need to seriously reconsider reducing previously contracted production targets and taking what follows from that through contract amendments.

The Ministry of Oil began, secretly, negotiating production plateau reductions with each company separately. By September 2014, based on available brief information, this author concluded that the total adjusted production plateau in signed contracts would be reduced to 7.15 million barrels per day.

But what is suspicious is that while the Ministry made important long-term concessions, it received nothing in return. Moreover, the Ministry effectively and practically lost any financial impact on international oil companies to deal with the effect of oil price decline, for example. But it remains important to know why this was allowed and how the minister at the time, Abdul Karim Luaibi, was able to inflict huge financial damage on Iraq estimated at billions of dollars in revenues that Iraq will lose during the extended contract period and in favor of oil companies?

Sixth: Official Call to Reconsider Licensing Round Contracts

Shortly after the formation of the new government in September 2014, a strong new coordinated campaign began against licensing round contracts. The impact of these calls and opinions culminated in the Parliament imposing an article in the General State Budget Law for 2016 and then for 2017, obligating the government and Ministry of Oil to "amend licensing round contracts with the aim of protecting Iraq's economic interests, increasing oil production, reducing expenses, and finding a mechanism linking cost recovery according to oil prices."

All these attempts were mostly unrealistic and were driven by political and personalized motives by (political) officials who have no experience in the oil industry in general and very limited knowledge of the concluded contracts in particular. Accordingly, none of the contracts signed under the four licensing rounds were amended in implementation of what was stated in the mentioned budget laws.

Seventh: Circumventing and Abandoning Service Contracts in the Fifth Round

Due to the failure to amend any of the contracts signed under the four licensing rounds, the Ministry of Oil, under Jabbar Luaibi, proceeded to hold a fifth round including many border fields and exploration blocks (with Iran and Kuwait) under new contracts called profit-sharing contracts; which are in fact and effectively a form of production sharing contracts. 

The round was planned and implemented with suspicious timing and method just a few days before the parliamentary elections that would lead to forming a new government. The model contracts were not published until after conducting the fifth round in April 2018.

The method, timing, results, quality of participating and winning companies, and nature of model contracts of this round caused dissatisfaction among most known Iraqi oil and economics experts; they expressed their strong opposition to and rejection of it. To date, there is no public official indicator of signing or ratifying any of the contracts for this round; but it is expected that all or some of these contracts will be passed due to strong relationships between some concerned companies and some officials in the Councils of Ministers and Representatives. 

Achievements and Failures of the Extraction Sector

This sector achieved good results and suffered from significant and costly failures, which we summarize as follows:

Crude Oil Production

The monthly average of crude oil production increased from 2.338 million barrels per day (mbd) in 2009 to 4.4 mbd during the first eight months of 2018; an increase of 88.2%.

Since most of this production increase was achieved in the central and southern producing governorates (Basra, Maysan, Dhi Qar and Wasit) and most producing fields in these governorates were included in the first and second licensing rounds, it can be concluded that most of the achieved increase of 2.062 mbd (at minimum) is the result of the first and second licensing round contracts. Given the existence of an annual natural decline rate determined in first licensing round contracts at 5% on the agreed baseline production Baseline production level for each field before signing the relevant contract, the actual volume of production increase - as a result of licensing round contracts - exceeds the calculated increase above.

However, achieving a production level of 4.4 mbd in mid-2018 represents only one-third of the plateau production level that was contracted and which was supposed to be achieved by the end of 2017. Here it is necessary to recall the impact of two important factors; the first is the impact of the financial crisis resulting from the decline in oil prices and export revenues since mid-2014, which contributed to delaying field development activities; the second relates to the impact of the OPEC agreement that began to take effect since the beginning of 2017 - despite differing views on the extent of Iraq's commitment to that agreement.

However, on the other hand, if Iraq had been able to achieve the contracted plateau production according to the mentioned timing, Iraq would have suffered from excess production capacity of about 8 mbd that would have cost about $120 billion, and would need to allocate huge additional amounts as annual maintenance costs to sustain this excess capacity until the time comes to use it; but when, for what duration and at what level???       

Associated Gas Production and Flaring

As is known, all gas produced in Iraq is associated gas from oil production, so the more oil production increases, the more associated gas production increases proportionally; this is done in specialized stations or units for gas separation. The quantity of associated gas is determined by what is known as the Gas Oil Ratio Gas Oil Ratio- GOR which varies according to the quality of oils produced in the relevant oil fields.

Official information indicates that the daily average of associated gas production increased to more than double between 2009 and the first eight months of 2018. When comparing this increase rate with that related to crude oil production for the same comparison period, we find a difference of about 9.1% in favor of gas production; this can be explained by the increase in GOR ratio in some oils produced during 2018 and perhaps since second licensing round fields entered commercial production phase.

However, what is concerning is that the quantities and percentage of "flared" associated gas have increased significantly during the same comparison period. The amount of flared gas increased from 712 million standard cubic feet per day-mmscfd- in 2009 to 1609 mmscfd in 2018; an increase of 100.26% (i.e., an increase rate exceeding that related to oil production and associated gas production).

The "flaring ratio Flaring Ratio" (i.e., the amount of flared gas to the amount of associated gas produced) also increased from 51% in 2009 to 56% in 2018.

The above information clearly indicates a major failure that is costly and influential economically, financially and environmentally and demonstrates the absence of balanced and harmonious development within the productive sector itself. The increasing ratio and quantities of flared gas overshadow what has actually been achieved in utilizing associated gas in electricity generation and in gas manufacturing through Basra Gas Company (the joint project of South Gas Company with Shell and Mitsubishi companies - we will return to discuss this topic when addressing gas manufacturing)

International Oil Companies' Contribution to Extraction Sector Development

The contributions of international oil companies in various extraction sector development activities are extremely important for various and numerous considerations including those related to technology transfer and technological knowledge, investment, oil marketing and marketing positioning, among others  on one hand; on the other hand, the essence of these contributions determines the nature of the political economy of relations between the host state - Iraq - and foreign oil companies.

Through monitoring the contribution of all international oil companies contracted in all licensing rounds (this does not include service companies as secondary contractors), the following observations can be recorded:

1-   Decline of major Western oil companies' role. This happened as a result of the following: reducing ExxonMobil's share in West Qurna-1 field; Occidental's relinquishment Relinquished of its share in Zubair field and returning it to the Iraqi side; Shell's relinquishment  of its share in Majnoon field to the Iraqi side; and finally, Shell's sale of its share in West Qurna-1 field to a Japanese company.

2-   In contrast, the role of both Chinese and Russian companies has been significantly strengthened whether in developing oil fields (first and second licensing rounds, Ahdab field contract and East Baghdad field contract - if implemented!) or in the exploration blocks round (for Russian companies); the number and role of Asian companies (from Malaysia, South Korea, Japan, Indonesia, Pakistan, Turkey and Kuwait) has also been strengthened albeit slightly.

3-   The increased participation of Chinese, Russian and Asian companies may provide Iraq with a future marketing advantage as all forecasts and strategic data indicate the importance of Asian markets in oil demand growth, which necessitates Iraq achieving some kind of strategic marketing positioning Marketing Strategical Positioning

Note that licensing round contracts allow payment of companies' dues in kind. SOMO information indicates that 67% of Iraq's oil exports for 2019 will be to Asian markets compared to 20% to Europe and 13% to North and South America.

4-   The recovery of Majnoon field and ending the contractual commitment of Occidental's share in Zubair field and termination Termination of Mansuriya gas field contract (with Turkish, Kuwaiti and South Korean companies) and returning them to the Ministry of Oil's custody means increasing the role and contribution of Iraqi companies and national effort in developing oil and gas fields and the resulting positive outcomes.

Crude Oil Export Sector

Daily exports increased from 1.442 mbd in 2009 to 3.488 mbd during the ten months of 2018 and all this increase in export rates was achieved in southern export ports only. The total export rate was affected by the absence of exports from  North Oil Company where those exports stopped completely since July 2017, noting that the export rate of Kirkuk oil blend (North Oil Company) was about 465 thousand barrels per day in 2009 or equivalent to one-third of Iraq's exports in that year.

The increase in oil export capacity from southern ports was achieved thanks to the Iraqi Crude Oil Export Expansion project (ICOEE) adopted in 2011 and included the construction of four single point moorings SPM with a capacity of 900 thousand barrels per day each, in addition to maintaining and updating Basra and Khor Al-Amaya loading ports, building tanks and pumping stations in Al-Faw complex, the required marine pipelines, and establishing a Central Metering and Manifold Platform CMMP

Note that the mentioned expansion project faced and faces implementation and contractual problems and one of the foreign companies was involved in corruption cases, which contributed to the project's faltering so that the actual operation rate of each loading buoy reached about two-thirds of the design capacity. According to American information sources, operating all loading buoys at their maximum capacity requires investments of about $4 billion in tanks, pumping stations, pipelines and other equipment.  

In light of the latest information from Basra Oil Company, the total export capacity from southern ports is planned to reach 6 mbd by around 2023. 

It is worth noting that Kirkuk oil exports were significantly affected due to ISIS activities and repeated bombing of the export pipeline to Turkey's Ceyhan port since March 2014; then the regional government's seizure of some North Oil Company fields and continued disputes between the federal and regional governments. A "preliminary agreement"  was recently announced between the federal government and regional government whereby SOMO exports between 50 to 100 thousand barrels per day of Kirkuk oil through the pipeline passing through the region to Turkey's Ceyhan port; such agreements did not last long in the past, so will this preliminary agreement succeed?! 

Petroleum Processing Industry Sector

This sector includes crude oil refining (refineries), gas manufacturing, petroleum product distribution and petrochemical industries activities.

This sector constitutes the most important and prominent field of vertical structural diversification Vertical Structural Diversification in the petroleum sector and Iraqi economy where expansion in it contributes to expanding productive economic capacities and diversifying national income sources away from primary raw material production to high-return products in the value chain Value Chain and benefiting from what it is characterized by in comparative advantages Comparative Advantages . Because of all this, this sector occupies distinguished importance in the most famous economic development strategies which are import substitution strategy Import Substitution and export promotion strategy Export Promotion

From an organizational functional perspective, refinery activities, gas manufacturing and petroleum product distribution fall within the tasks and responsibilities of the Ministry of Oil while all petrochemical industries fall within the tasks and responsibilities of the Ministry of Industry and Minerals; but this requires more coordination between the two ministries, noting that the focus here is on the Ministry of Oil.

Regarding the refining sector, there are many quantitative indicators that can be used to measure the extent of development achieved during any time period, the most important of which are:

1-   Comparison between designed capacity Designed/ Nameplate Capacity and actual operating capacity; this comparison indicates the level of available capacity utilization: the closer the operating capacity to the designed capacity, the higher the utilization rate of available refining capacity and vice versa. This indicator can be used - if detailed information is available - for each refinery or for each company (South, Central or North Refineries Company) or at the level of Iraq as a whole.

Before ISIS's destruction - after June 2014 - of North Refineries Company capacities, the total design refining capacity in Iraq was around 892 thousand barrels per day and the total production of Iraqi refineries in the first half of that year was around 598 thousand barrels per day; this indicates a utilization rate of 67%. Although it is not expected that refineries operate at their full design capacity, the actual operating capacity above can be explained by the age of Iraqi refineries and technology and the composition of what they produce from various petroleum products as we will see below.

2-   Comparison between the relative importance of the quantity of each product to the total petroleum products in a specific time period. This comparison indicates the extent of modernity of refining technology used; the higher the quantity (and thus percentage) of heavy petroleum products (such as fuel oil/black oil), the more this indicates the age and backwardness of refining techniques, and vice versa. Here also this indicator can be used (when comparative information is available)  for each refinery or for each company (South, Central or North Refineries Company) or at the level of Iraq as a whole.

When comparing statistical information for the first half of 2018 with the same period of 2009, we find that the fuel oil production rate is relatively stable; around 45% and 46% of total Iraqi refinery production in each of the comparison periods respectively; this clearly indicates that no tangible development (modernization) has been achieved in these refineries or in establishing technologically modern refineries.

3-   We can also say that making an international comparison between Iraqi refinery production with refineries of Iran, Saudi Arabia, Turkey and three continental groups of OECD countries OECD provides another important evidence. We found that the fuel oil production rate (in 2016) is the highest in Iraq while the rate of gasoline (petrol), gas oil (gasoil)/diesel and "other products" is the lowest in Iraq. This is another indicator of the technological backwardness and age of Iraqi refineries.

4-   The comparison between the demand pattern (consumption) for petroleum products and the pattern of what refineries produce from those products indicates the existence of chronic misalignment Chronic Misalignment during the past ten years between demand and production patterns; this disparity determines the requirements for importing those products that domestic production cannot provide and exporting petroleum products surplus to local demand. Practically, this indicator is used at the macroeconomic level and not at the level of the three refining companies or each refinery separately.

Analysis of the supply and demand balance for petroleum derivatives for the first half of 2009 compared to the same period of 2017 indicates several facts:

(1) While there was a deficit in production of all petroleum derivatives except fuel oil, the total balance for the first half of 2009  recorded a surplus of 1570 thousand barrels; this means Iraq had to export (or store or dispose of!) 19311 thousand barrels of fuel oil on one hand and import a total of 17741 thousand barrels of other petroleum derivatives (except naphtha) during that period on the other hand;

(2) In the first half of 2017, despite having surplus production of fuel oil, white oil, liquefied petroleum gas and naphtha, the total balance recorded a deficit of 28344 thousand barrels due to demand (according to relative importance) for "other products", gasoline (petrol) and gas oil/diesel where the total excess demand (production deficit) for these products reached about 48057 thousand barrels;

(3) Estimates vary regarding the value of importing various petroleum products as the Ministry of Oil has not published any regular official statistics. But it was recently published by the Ministry of Planning that total petroleum product imports for 2017 reached $2.4 billion.

(4) What should be noted is that the Ministry of Oil stopped providing JODI organization since September 2017 with the volume of domestic demand for "other petroleum products" which prompted the organization not to mention the total demand for petroleum products in Iraq since that month; noting that the "other petroleum products" category constituted more than 23% of total demand for all petroleum products during the eight months of that year which must be imported because refinery production of them constitutes only 1.8% of total domestic demand. What prompted the Ministry to take this action and why!?

It is clear from the above that the failure to achieve quantitative, qualitative and technical development in the crude oil refining sector from 2003 to the present constitutes one of the indicators of oil policy failure and the resulting very negative and influential economic, financial and structural effects.

This failure comes despite the Ministry of Oil contracting since 2010 with many international consulting companies to prepare FEED technical and economic studies for five modern refineries with an additional total capacity of 890 mbd. These refineries were offered for investment many times and a special law was issued with many beneficial privileges without all these efforts bearing fruit; except for awarding Maysan refinery to a financially bankrupt company that is not technically qualified and has no international experience (Starem Company) and the award was done in a corrupt manner since the end of 2013 and the implementation contract for that refinery is still just ink on paper. Karbala refinery implementation also faltered despite being funded by the Iraqi government and financial resources began to be allocated for it since 2013.

Regarding gas manufacturing and as far as Basra Gas Company is concerned, it is worth noting that the latest official information from the Ministry of Oil about this company indicates that it has not reached, as of the end of November 2018, even half of the target production (which is 2000 mmscfd of associated gas from Rumaila, West Qurna-1 and Zubair fields) after ten years of signing the general framework agreement and five years after signing the company contract. Note that the company's production of liquid gas and condensate material (natural gasoline) began to be exported after meeting local needs where the company has achieved to date a total of half a billion dollars from export revenues.

Section Two; Future Outlook - Opportunities and Challenges

The above analysis diagnosed achievements and failures in the four most important topics related to the oil sector during the past ten years, which are: oil production; oil exports; associated gas production and flaring; and finally refining activities and petroleum product supply and demand balance.

The following pages address practical and feasible proposals for what can be done and justifications for that in each of these topics and others of related nature with focus on the short and medium terms, especially during the next four years. Since this timing coincides with the new government's term, what will be presented constitutes at the same time some proposals for the new government's oil policy.

Extraction Sector - Exploration, Development and Production  of Crude Oil

In this sector I propose the following:

1-   Not developing any new oil field except border fields (as will be discussed below) or integrated projects (that link field development with a modern refinery) and not awarding any producing or discovered oil field to international oil companies during the next four years; this is done either by stipulating it in the government program or by a decision issued by Parliament obligating the government to do so.

What are the justifications and feasibility of this proposal and how to deal in case of changing circumstances that require increasing production?  I base this on the following data:

(1)  According to official information from the Ministry of Oil, Iraq's oil production rate during the months of July to November 2018 was stable at around 4.460 million barrels per day (mbd) and production capacity will reach or exceed 5 mbd by the end of this year and production capacity is expected to reach 8 mbd by around 2025;

(2)  Since the new government's term is limited to four years, it should focus and pay attention to achieving about 6.5 mbd as a maximum by the end of its constitutional term in 2022;

(3)  The oil fields contracted in the first and second licensing rounds are capable of achieving the required increase, especially since the final stages of reaching plateau production in those field contracts will begin or be completed during the upcoming government period;

(4)  There is no indicator at the level of the international oil market and OPEC's share in it and Iraq's share within OPEC that demonstrates that Iraq's production capacity during the next four years can or should exceed 6.5 mbd. In case of something that justifies exceeding this rate, then development activities can be "accelerated" within the limits of 8 mbd mentioned above.

2-   Limiting any development of non-contracted oil fields to national effort exclusively with the assistance of international oil service companies when necessary and within traditional service contracts for a specific activity and for a specified time period; i.e., not resorting to contracting with international oil companies or holding licensing rounds to develop any of the discovered oil fields and structures or what will be explored during the upcoming government period. 

The justifications for this limitation to national effort are:

(1)  National effort activities constitute the material field for developing human, institutional, knowledge and organizational capacities in this vital sector of the Iraqi oil industry;

(2)  National effort activities rely on Iraqi cadres and thus contribute, even relatively, to addressing the unemployment problem, especially among technically qualified youth, more than international oil companies that usually prefer foreign labor; this is what demonstrations in southern governorates since last July have shown;

(3)  As clarified by the Ministry of Oil (but without providing material evidence), the cost of development through national effort is much less compared to that done by international oil companies; 

(4)  Certainly, "decision-making" authority is absolutely Iraqi under national effort while it is participatory with foreign companies under licensing round contracts that require "consensus" when making decisions in "joint management committees" for each field;

(5)  The pattern, location and method of national effort work is usually local while the relevant offices of foreign companies are located outside Iraq, and this reflects on the limited transparency of foreign companies' work and the effort required by Iraqi entities to verify the credibility and reality of costs that companies claim to bear and pay.

3-   The development of border fields occupies special, sensitive and distinguished importance due to the possibility of their joint development using "unitization" Unitization method with the relevant neighboring country, especially Kuwait and Iran. According to international experience, adopting the unitization method has preference in developing these fields due to many economic, operational and sound reservoir management justifications and considerations; given the high probability of adopting the unitization method with neighboring countries, I see the following:

(1)  Any activity related to developing these fields should be limited to national effort exclusively until reaching a unified development agreement  with the relevant country;

(2)  In case the relevant country accelerates unilateral development of the border field, the Iraqi side gives priority to developing the Iraqi side of that field;

(3)  The Iraqi government takes the initiative to urge neighboring countries (especially Iran and Kuwait) on the necessity of completing the necessary agreements to begin actual development of important border fields using the internationally widely used unitization method;

(4)  The Council of Ministers does not ratify any of the contracts for these fields that the Ministry of Oil awarded as a result of the last licensing round held before the legislative elections in May 2018.

Licensing Round Contracts

The Ministry of Oil adopted long-term service contracts for both the Ahdab field contract and the first four licensing round contracts, and there is clear variation  in financial terms between those contracts due to the specificity of the relevant fields and exploration blocks.

Analytically, these contracts are considered "hybrid" because they include some characteristics of traditional service contracts and some characteristics of production sharing contracts.  

Therefore, I see the necessity of stopping the demand or call for renegotiating the four licensing round contracts, and I base this on the following data:

(1)  From a comparative analysis perspective, these contracts are considered among the best contracts in use at the time in terms of economic return or what is called government take Government take; most specialized studies have proven that the service contracts adopted in those rounds give Iraq the best financial return compared to any other contracts, especially production sharing contracts, including regional government contracts;

(2)  Any renegotiation will give international oil companies a unique opportunity to obtain very important additional advantages with huge material impact at Iraq's expense for the entire contract duration;

(3)  Former Oil Minister Abdul Karim Luaibi previously made important concessions to oil companies without Iraq receiving anything in return, and thus Iraq lost its most important and strongest negotiating cards on one hand, and on the other hand those concessions led and lead to oil companies raising their demands unreasonably, which negatively affected the implementation of the relevant contract, as clarified by the case of stopping the Mansuriya gas field development contract in mid-September 2018. Strangely, it was proposed (in the Ministry of Oil) to give any foreign company a 25% partnership share with national effort to develop this field, but "this proposal was not approved"; it is clear that this proposal indicates adopting one form of partnership either in production or in net revenues!! 

(4)  The first and second licensing round contracts will complete or enter the final development stages of the relevant fields during the next four years/new government term; this means reaching the beginning of plateau production phase, which means covering (recovering) the large percentage of basic capital costs for field development process, and consequently any negotiation on these contracts or changing them represents a reward for international oil companies, which is considered a flagrant violation of the constitution.

(5)  All calls to reconsider those contracts were not based on a good comprehensive reading of those contract contents on one hand; they do not distinguish between the contract "as a legal document" and "contract implementation management" which basically  relates to the executive, supervisory and auditing efficiency of the Ministry of Oil and its relevant companies on the second hand, and to "personalizing" the issue for political, partisan or personal considerations on the third hand, or merely repeating or recycling the call  without understanding the nature of the issue on the fourth hand.

Contrary to long-term service contracts, former Oil Minister Jabbar Luaibi insisted, in the last fifth licensing round, on adopting "long-term revenue sharing contracts"; which are analytically and effectively a "cash" form of production sharing contracts.

After comprehensive evaluation of this round's contracts by an elite of Iraqi oil experts, it was concluded that these contracts serve oil companies' interests at the expense of national interest in addition to conflicting with the principle of achieving "highest benefit for the Iraqi people" confirmed by the constitution. For the above reasons and to date, the current government has not ratified any of these contracts. Therefore I see:

(1)  The current government should not ratify any of the mentioned round contracts and return them all to the Ministry of Oil;

(2)  Since most of this round's contracts relate to border fields and exploration blocks, the issue should be reconsidered in light of what was mentioned above regarding developing border fields using unitization method.

Associated Gas Flaring Dilemma

The size, continuity and damage of this dilemma necessitates focusing on and giving priority to ending associated gas flaring. According to the latest statistical information available at the Ministry of Oil relating to last September, it shows that the associated gas flaring rate in southern governorates (Basra, Maysan and Dhi Qar) reached 64.2% of total associated gas produced in those governorates. The rate for all of Iraq (without calculating Kurdistan) exceeds 59%.

 Since associated gas flaring represents a flagrant waste of petroleum wealth and squandering of an important economic resource in addition to huge environmental damage while Iraq imports gas from Iran, the following must be taken to address this dilemma:

(1)  Obligating contracted international oil companies implementing fields covered by the second licensing round to implement contractual paragraphs related exclusively to maximum utilization of associated gas;

(2)  Not exempting any of those companies from their contractual obligations and referring the matter to other companies outside the group originally contracted with (as happened recently in Gharraf field); in addition to the losses and additional unjustified costs from a legal/contractual perspective resulting from this procedure. It also constitutes a contractual violation by the Iraqi side that may lead to activating contractual articles related to international arbitration;

(3)  Full implementation of the General Secretariat of the Council of Ministers' instructions on this matter recorded in Recommendation No. 51 of 2018 and linked to the action plan related to World Bank loan requirements in this field;

(4)  Determining the reduction percentage in associated gas flaring in proportion to the necessity of accelerating implementation of Iraq's commitments under the World Bank initiative known as achieving "zero routine gas flaring by around 2030";

(5)  Government commitment, especially the Ministries of Oil and Electricity, to provide the required gas for electricity generation in specified quantities and time schedules, and due to the importance of the issue, it is preferable to be monthly.

(6)  Urging Basra Gas Company to accelerate developing its production capacity to reach the production level specified in the contract in proportion to the increase in oil-associated gas production from Rumaila, West Qurna-1 and Zubair fields;  this in turn will contribute to reducing the amount of associated gas flaring on one hand and increasing export revenues from liquefied gas and condensates produced by the company; noting it is a joint company (with Shell and Mitsubishi companies) in which the Iraqi government owns 51% of its shares through South Gas Company.

Imperative of Building Modern Refineries and Using Advanced Technology

The refining sector suffers from numerous problems, most notably the aging of refineries and the misalignment of their production with the increasing pattern of demand for various petroleum products, which has contributed to creating a chronic and large gap that has been addressed through costly imports  as mentioned and detailed above.

To address this deficiency, I propose doing the following:

1-   The Ministry of Oil should provide all information related to the design capacities and actual operational capacities of each of the currently operating refineries and clarify the type and quantity of all petroleum products produced in them and disclose the quantity, type and value of all petroleum products exported and imported;

2-   Commitment to completing the construction of the Karbala refinery as quickly as possible, not to exceed the term of the current government  and giving it priority for completion and providing the required financing;

3-   The government commits not to refer or accept the establishment of any refinery through investment that does not have - as a minimum -    European specifications number 4/5;

4-   The government absolutely refrains from purchasing or participating in purchasing or building or participating in building any refinery outside Iraq;

5-   The government undertakes not to allow any form of competition between the Ministry of Oil and the Ministry of Industry and Minerals in the field of petrochemical industries because this causes severe damage to the Iraqi economy and waste of efforts and financial resources (as in the case of the Faw refinery which was proposed without FEED studies and its impact on the Nebras petrochemicals project). There must be coordination and integration between the two ministries due to the organic interconnection between them; the Ministry of Oil is concerned with the refining sector and the Ministry of Industry and Minerals is concerned with petrochemical industries;

6-   Terminating the Maysan refinery investment contract that was referred several years ago in a suspicious manner to the Starim company, which is financially bankrupt, technically unqualified and unspecialized in terms of experience and which has not accomplished anything to date!!

7-   Adding advanced technology units to large refineries (in Basra and Dora for example) to process fuel oil to produce high-value petroleum and gas derivatives, especially those financed through the Japanese loan  

8-   Stopping the tedious repetition of re-announcing many refineries through investment which have not had FEED  studies prepared for them (such as Wasit, Diwaniyah and Muthanna refineries) without any notable results, which indicates the lack of interest of serious investors in those refineries.

9-   Therefore, the new government should not wait and should undertake to begin implementing at least one of the refineries for which Iraq has paid millions of dollars to many international consulting companies to prepare economic feasibility studies and FEED studies; the integrated Nasiriyah project (developing the field and refinery together) may be among the priorities, especially given the interest in this project by oil companies.

Otherwise, Iraq will continue to import petroleum products in increasing quantities and the annual import costs will increase with them.

Section Three: Required Legal, Institutional and Regulatory Frameworks

First: The necessity of adopting a comprehensive and clear oil policy

The oil sector, in the next four years as it has been in previous decades, forms the backbone of the Iraqi economy and determines most aspects of economic activity on one hand; on the other hand, as the analysis above has shown, the oil sector faces many dilemmas  that must be addressed; and thirdly, there are many other important matters that must be implemented such as water injection projects, storage capacities, marketing policy, multiple export outlets, exploration activities, strengthening national effort, and addressing technical, knowledge and skills gaps, among others.

This necessitates, or requires, that the government have a specific document for a coherent oil policy with clear features, objectives and means that serve the national interest. In light of this oil policy, the government is monitored, evaluated and held accountable periodically and according to quantitative indicators that can be measured, compared and verified.

Second: Federal Oil and Gas Law

There are at least four drafts of this law, all of which have become outdated and unenforceable as they have been overtaken by many fundamental and important developments. Therefore, the current government has two alternatives: either not proposing the law or submitting a new draft law that differs completely and radically from any of the old law formulations. In the case of choosing the second alternative, the experience of ten years with the four formulations above indicates that this matter requires intensive and complex efforts for a long period and may not  succeed in the end. 

Third: Iraqi National Oil Company Law

The challenge to this law submitted to the Federal Supreme Court by Iraqi citizens proved that the briefs submitted to this court by the legal representatives of both the Prime Minister and the Ministry of Finance agree on the unconstitutionality of many articles of this law, which may prompt the Federal Supreme Court to accept the challenge to the law.

 Here the government has two alternatives: either completely disregarding this law at present or submitting a new draft law that differs radically and completely from the challenged law.  Available information indicates the possibility of both alternatives. This necessitates canceling all executive procedures taken by the previous government in this regard as well as implementing the decision of the Council of Representatives taken on November 21, 2018, requiring the suspension of all decisions of the previous government taken after July 1, 2018. This is what was adopted by the Council of Ministers in its session on December 11, 2018, where all those decisions will be reviewed and the final position on them will be taken.

Fourth: Relations with the Regional Government

The relationship between the federal and regional governments has a long, complex and difficult history since 2003 until now. In light of known evidence and positions, it is expected that  the new government will work to resolve issues related to the oil question with the regional government, but it must also insist on and maintain the supreme national interest which was raised during the past years and still exists and can be summarized as follows:

1.   The unconstitutionality and illegitimacy of contracts signed by the regional government with various international oil companies (noting that this matter is the subject of the lawsuit submitted to the Federal Supreme Court against the regional government several years ago which was recently activated and pleadings are still ongoing to date); this topic has been previously addressed in detail (by me and other specialists);

2.   Restricting all oil exports to SOMO and considering any export of crude oil outside SOMO as smuggling and illegal trade (this is what all federal governments, including the current one, have officially declared);

3.   SOMO not dealing with any of the companies or oil tankers that transport and sell Iraqi oil smuggled through the region (this is what SOMO has actually implemented);

4.   Absolutely not allowing regional authorities to control any of the oil and gas fields belonging to the North Oil and Gas companies (this was actually achieved after the defeat of ISIS and the restoration of federal authority control over Kirkuk at the end of 2017);

5.   Not allowing regional authorities to conduct (or agree with foreign companies) any exploration or development activities in joint or disputed areas (this is a declared position of the federal government);

6.   The Ministry of Oil not dealing with any foreign oil company that currently or in the future conducts any exploration or development activities in the region (this ban is still in effect despite Oil Minister Jabbar al-Luaibi violating it in favor of an Emirati company for reasons that must be officially investigated);

7.   The Ministry of Oil continuing the international arbitration case submitted to the Paris International Chamber of Commerce against companies and the Turkish government for their violation of international agreements signed between the two countries, especially those related to the Kirkuk-Ceyhan oil pipeline (which the Iraqi Ministry of Oil estimates it will win the case with significant financial compensation);

8.   Obligating the regional government to implement the articles mentioned in federal budget laws since 2004 related to settlements of dues for delivering oil export revenues and others by the regional government to the federal Ministry of Finance (this is what was mentioned in annual budget laws and a detailed report by the Federal Board of Supreme Audit);

9.   The demonstrations of citizens in Basra and the southern oil-producing governorates will not allow the federal government to give the region more than its entitlements based on population ratio and based on delivering all oil produced in the region to the federal government and what is exported from it should be through SOMO (and caution must be taken and consideration given to what is meant by a banner that reads "Basra oil for Basra"!);

10.  Finally, Iraq cannot and should not bear all the burdens of OPEC decisions when production is reduced, as Iraq's relationship with OPEC should have, or should have, importance and a role in the government's oil policy. It is worth noting that the latest OPEC agreement decided to reduce OPEC production in 2019 by 800 thousand barrels per day based on October 2018 production. 

But on the other hand, there are many factors and considerations that may lead to the belief that the new government will not implement or succeed in the above task, including:

1.   The role of what is known as "influential and powerful personalities" in the internal political situation and decisions and their relations  with both governments. For example, Adel Abdul Mahdi's assumption of the prime ministership and his positions (as a friend of the Kurdish people as Masoud Barzani said) and his known propositions contradict and conflict with what was mentioned above;

2.   The election of the President of the Republic of Iraq has deepened the rift of differences and tension of relations within the "Kurdish house" and may push the regional government (which is controlled by the Barzani family) to harden its positions with the federal government to obtain concessions (as indicated by Masoud Barzani's recent visit to Baghdad);

3.   The problem of transparency and the fate of oil export revenues continues to haunt the regional government despite the "formal" reports that were timed to be issued before the last elections in the region;

4.   The accumulation of regional government debts and practices of "mortgaging" future oil revenues that have trapped the region in a "debt trap";

5.   The improvement in international oil prices may make the regional government feel a decrease in "financial pressure" on it, which reduces its need to quickly resolve the pending issues mentioned above with the federal government

Fifth: Commitment  to transparency standards in the oil sector

The oil sector has witnessed a serious decline in transparency and publication of information, statistics, decisions, discussions and negotiations, especially during the period of Minister Jabbar al-Luaibi. International experience indicates that the lack of transparency and the spread of secrecy aim to hide something important and cover illegal practices that fall within corruption activities.

The most important transparency standards - from a practical legal standpoint - are disclosure (complete, correct, accurate and periodic), accountability (responsiveness) and accountability (taking responsibility). Disclosure constitutes the basic commitment that falls on the Ministry of Oil, while the tasks of questioning and accountability are among the tasks of other authorities that must monitor the Ministry of Oil to ensure it fulfills its disclosure obligations.

Therefore, publishing accurate and complete information at specific and periodic times related to the activities, achievements, contracts and negotiations of all bodies, departments and companies affiliated with the Ministry of Oil and foreign companies contracted with it, according to the quantitative and descriptive standards of transparency applied internationally in extractive industries and in other oil industry activities, and considering all of this a legal obligation on the Ministry of Oil to implement fully. The ministry should commit to following up on the opinions, studies and reports that result from publishing that information.  

Sixth: Corruption problems in the oil sector and oil smuggling

It is not new to say that corruption has become a widespread, institutionalized and legalized phenomenon in Iraq; and in the Ministry of Oil where there are a large number of explicit or implicit accusations and sometimes names are mentioned and even amounts that indicate the involvement of senior officials in the ministry and its companies. But what is strange is that no official in the ministry or its companies who has been accused or suspected of corruption has taken legal action against the accuser.

Cases of encroachment on oil and petroleum product pipelines have also multiplied and the phenomenon of "oil smuggling" has emerged, especially in Basra province, and the involvement of official officials in this phenomenon has also been indicated.

Due to the negative and catastrophic effects of various forms of corruption and oil smuggling on this sector and on the national economy, the new government must take a decisive, clear and firm position to combat and eliminate these negative phenomena and identify the means and indicators it will use to prove the achievement of its commitments.

Concluding Remarks

All serious specialized studies agree on the existence of a chronic structural imbalance represented by the monolithic nature of the Iraqi economy due to its very heavy dependence on crude oil exports; important analyses, explanations and propositions have been presented in this field including determinants of absorptive capacity, indicators and effects of Dutch disease, consequences of economic rent and behaviors of the rentier state, effects of resource curse, lack of sound development policy, spread of kleptocracy (legalized corruption) in the stage of immature democratization (post-2003 period).

The only cure for this chronic structural imbalance lies in achieving structural diversification in both its horizontal form (across all sectors of the real productive economy) and vertical form (in the value chain of each productive sector away from raw material production to high-value products). However, this structural diversification is usually gradual and cumulative  and requires the existence of a sound, sustainable development policy that is binding in implementation. In light of all available indicators, there is nothing to suggest the ability, interest, readiness and commitment of the forces controlling decision-making in Iraq to achieve real structural diversification at the macroeconomic level in the foreseeable future.

But vertical structural diversification in the oil sector represents an important, feasible and achievable opportunity which can be summarized in: (1) building - inside Iraq only -  modern technological refineries (exporting petroleum products instead of exporting crude oil); (2) processing and using all associated gas (exporting - for example - electrical energy instead of exporting raw gas);

(3) Expanding the petrochemical industry (manufacturing and exporting various petrochemical products instead of exporting crude oil and gas).

This is what should be focused on and given priority and preference over the next ten years instead of expanding crude oil production capacity; the state should have the leading role in creating this necessary sectoral vertical structural change.

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Note on research sources. This study relied on many of my previous studies and the sources mentioned in them. Those studies can be viewed in both Arabic and English through the following links:

http://www.akhbaar.org/home/search/?sq=Ahmed%20Mousa%20jiyad

http://www.iraq-businessnews.com/category/oil-gas/ahmed-mousa-jiyad/

Appendix

Quantitative Indicators for Oil Sector Budgets

Appendix Notes: MBD = Million Barrels per Day; 1- Eight-month average; 2- Excluding North Oil Company exports (Kirkuk oil) for comparison purposes, and the daily average becomes 1.913 MBD when including Kirkuk oil exports; 3- Ten-month average for 2018 excluding Kirkuk oil due to absence of exports; 4- Eight-month average; TB = Thousand Barrels for the first half of the year; # Kerosene (white oil) including jet fuel; 5- Eight-month average; H1 - First half of the relevant year. 

Appendix Sources: Author's compilation and estimates - Author's database; Monthly basic statistics from the Ministry of Oil regarding oil and gas production and oil supplies to power plants; SOMO regarding oil exports and JODI regarding oil supply to refineries, refinery production and demand for petroleum products.  

This study was prepared and submitted on December 15, 2018, in response to a prior request from the late brother Dr. Basem Sifi to be published in Issue 7/2019 of the periodic journal "Strategic Issues". 

Ahmed Mousa Jiyad,
Iraq/ Development Consultancy & Research,
Norway.
Email: mou-jiya(at)online.no
Skype ID; ahmed.mousa.jiyad
Tel: (+47) 5659 5699 (Landline); Mobil: (+47) 970 763 64