Introduction to Iraq's Petroleum Industry: Unsettled Issues

Originally posted April 2010

With the recent conclusion of the first and second bid rounds to license foreign international oil companies (IOCs) to operate in specific Iraqi fields, many commentators have predicted that the country is now on its way to meeting the very ambitious 12 million barrel per day (bpd) oil production benchmark. In making such predictions they cite the diminished violence in the nation, the seemingly free and fair 2010 elections, and especially the better organized 2009 bid rounds which granted IOCs the ability to develop petroleum in a profit sharing capacity.   

While all of us involved in Iraq want the best for the Iraqi Government and its people - who have endured so much - it is difficult to overlook several major obstacles in the upstream petroleum industry. A viable and dependable upstream production cannot take hold in Iraq without clear and timely resolution of several integral issues. This special edition of Viewpoints, which I am pleased to moderate, seeks to isolate these issues, understand them in a domestic and regional light, and offer pointed assertions by leaders in their field on how to improve the upstream production and domestic off-loading capacity. The stakes could not be higher:  the future of stable worldwide petroleum production and the ability to fund a democratic Iraq hang in the balance. 

The Prize

According to dated publicly available surveys, there are 28 giant fields in Iraq, which hold an estimated 12% of the entire proven global reserves. Discovered as early as the Ottoman Empire, the largest giant field is Rumaila, located near Basrah in southern Iraq. The giant field of Qurna (also called West Qurna or Qurna I & II) is also located in the Basrah Governorate. The Majnoon field in the north is the third largest giant in Iraq. Each of these fields is estimated to be between the 3rd and 9th largest fields in the world. 

The extraordinary size of these fields and their highly sustained productivity are due to a nearly perfect combination of a large subterraneous geological structure and a highly permeable reservoir. These special sedimentary properties make the ultimate recovery (ability to extract a high percentage from the giant field) and success rate (defined as the number of successful wells completed as divided by the number of wells drilled) among the highest in the world. Moreover, the proximity of these giant fields to a usable port for offloading via pipeline in Umm Qasr (located on the Persian Gulf in the disputed Shatt al-Arab waterway) is small as compared to other giant fields in the North Slope of Alaska or Central Asia. This proximity to a port, high success and recovery rate, along with the superb geological properties of the petroleum itself, contributes to a highly lucrative prize for any IOC willing to engage in the sizeable risks associated with an Iraqi investment. 

Understandably, this prize has brought serious international competition. Of the 21 bidding consortiums involved in the 2009 petroleum bidding, 17 involved Chinese parties. Once added to overall demand from mainland China, Chinese corporate interests are now the largest foreign investor in Iraq and the largest developer and consumer of upstream petroleum in Iraq as well as the largest recipient of petroleum from the Middle East.

Political and Legal Considerations

Notwithstanding the ultimate prize of Iraqi upstream production, there remain several legal and political risks which cannot be ignored. These risks remain, as with everything in Iraq, disproportionately high as compared to other developing democracies. Specifically, such issues as security concerns, Kurdish political disputes, the dubious legal structure of the petroleum regime itself, and legal inconsistencies with the production sharing contracts signed by IOCs in the 2009 bid rounds add to the legal and political risk.

Any discussion of the development of the Iraqi petroleum industry cannot underestimate the differences in legal treatment between the areas of federal Iraq and the semi-autonomous area under the rule of the Kurdistan Regional Government (KRG). Despite the 2005 federal Iraqi Constitution which has ambiguous language to the contrary, the KRG today formulates and governs upstream petroleum production in the provinces under its control; namely Dohuk, Erbil, and Sulamaneiyah. In a possible contravention of law, all licensing, monitoring, and production sharing is conducted by and between the KRG and the IOCs. 

The KRG issued a parsimonious petroleum law well before it began production in 2009, granted concessions in a profit sharing capacity with foreign operators, and has today many large international petroleum corporations actively operating within its borders. While the production and development is still in the early stages, the international corporations have a vested interest in the development and further estrangement of the KRG from the rest of federal Iraq. The producing fields in the KRG are smaller than the giant fields in federal Iraq. Granted, the federal government believes that the KRG is overstepping its bounds and cites the clear provisions of the 2005 Constitution in support. However, as these Kurdish political factions are needed to create a workable majority in Iraq’s Parliament and therefore form a federal government, there exists no ultimate deterrence for their actions. In the absence of such, the KRG has aggressively pushed forward in developing, marketing, and exporting its own reserves.

Unlike the KRG, federal Iraq has been acting without a parsimonious oil law since the current sovereign Government of Iraq has been in existence. The environmental and legal underpinnings of upstream production are instead grounded in the laws which remain in force from the previous Saddam Husayn and General Qasim regimes. These authoritarian and socialist structures created a nationalist monopoly on the production, transport, and export of oil, and only allowed the involvement of foreign companies if the Iraqi Parliament specifically allowed such activity (Law 97 of 1967). In the absence of a direct approval by Parliament, and incorporating a strict interpretation of Law 97, each and every IOC in Iraq successful in the 2009 bid rounds would need a specific vote in Parliament to be operating in Iraq legally. If there is no such authorizing vote, their presence is arguably illegal under Iraqi domestic law or operating in an ultra vires capacity. This dubious legal structure has dissuaded many supermajor petroleum companies from investing in Iraq and participating in the bid rounds.

This gap in Iraqi jurisprudence has recently been challenged in federal Iraqi court by former parliamentarian Shadha Musawi. She argues that the Prime Minister and the Oil Minister had begun, without Parliament’s approval, to decide the nation’s petroleum policy through their licensing efforts in the first and second bid rounds. Musawi’s contentions are that oil policies, contracts, and licenses should be approved in greater concert with the regional governorates (which includes her native Basra Governorate) as well as the federal Parliament. In Musawi’s view, and in a strict and literal reading of Law 97 of 1967, all contracts between Iraq’s Ministry of Oil and any third parties must obtain a separate vote of approval from Parliament to prove binding, legal, and enforceable under Iraqi law. The case is now pending in a Baghdad federal court. Its potential success on its merits is keenly watched by international observers. 

One of the most interesting aspects of the growth in the upstream petroleum production is that internal refining and distribution capacity within Iraq has not developed significantly. Still operating on a pre-war level, the increase in infrastructure development consistent with the sheer massive foreign investment following the bid rounds will undoubtedly grow. The opportunities for foreign investment in this sector will also be large and keenly competitive between American, European, and Chinese interests, among others.

Conclusion

The current chapter in Iraq’s modern history will ultimately be judged by the capacity and pace with which it re-engages its Middle East neighbors and immerses itself in the rapidly changing global economy. While always a steep road to plough, it will be markedly more difficult without a clear resolution of the legal and political issues herein presented as well as the internal political and bureaucratic obstacles which exacerbate the enormous risks associated with any Iraqi investment. Therefore, I am pleased to introduce this special edition of MEI Viewpoints. As always, the authors welcome readers’ contributions and feedback, which undoubtedly contribute to the greater understanding of these issues and how they present themselves in our interconnected world.