Big Oil's big plans for Iraq

By Michael Park

In his debut piece for Applied Hermeneutics, our foreign affairs correspondent, Michael Park, goes after the devil in the detail of the oil distribution arrangements for post-Saddam Iraq.

In the run up to war and subsequent upon the invasion, much ink was expended on the notion that the war was about resources. One resource in particular: oil.

The basis of this argument revolved around US/UK control of Iraqi oil reserves then and currently under Iraqi government control by way of "free market reform" and privatisation. The prediction was for the occupying powers to privatise – by way of abolishing the nationalisation of Iraqi oil which took place during 1961-1970 – the entire industry and open that industry up to the "ownership" of "big oil". The theory being that the Conoco-Phillips, Chevrons and Exxon/Mobils would swoop and ensure the (relatively) cheap flow of oil to "the West", all the while garnering the US (by virtue of its privatised ownership of Iraqi production) a seat at the OPEC cartel's table.

The fly in this ointment was that "big oil" does not necessarily wish to "own" the oil. That belongs to the older "concession" style thinking where the International Oil Company (IOC) owned the reserve and took all the risks associated with its exploitation.

Businesses run businesses and like to do so with minimal risk. Whilst it might be nice to "own" what is currently in the ground and in production, big oil is more interested in future production: that which will come from new, undeveloped fields. There are eighty known fields in Iraq, of which seventeen are currently "on line". Big oil has little interest in the possible failures of these as yet unexploited reserves as they are developed – much better to leave the ownership (and problems) in Iraqi hands.

There are problems with "privatisation" in the classic sense: the competition involved in the acquiring of the reserves, and the ability of that process to lock out certain foreign bidders. Russia, after the communist collapse in the early nineties, did this to US IOCs during the privatisation of its petroleum industry.

Such a prospect is not entirely palatable to US/UK IOCs. Their view? If you've gone to all the trouble of a war and then stuffed up the peace planning, do not let the same people stuff up the profit planning. So, what to do if you are a US/UK oil conglomerate?

Investigative journalist Greg Palast in a Newsnight report of March this year summarises the situation:

In fact there were two conflicting plans, setting off a hidden policy war between neo-conservatives at the Pentagon, on one side, versus a combination of "Big Oil" executives and US State Department "pragmatists"…

The industry-favoured plan was pushed aside by a secret plan, drafted just before the invasion in 2003, which called for the sell-off of all of Iraq's oil fields. The new plan was crafted by neo-conservatives intent on using Iraq's oil to destroy the Opec cartel through massive increases in production above Opec quotas…

Philip Carroll, the former CEO of Shell Oil USA who took control of Iraq's oil production for the US Government a month after the invasion, stalled the sell-off scheme.

Mr Carroll told us he made it clear to Paul Bremer, the US occupation chief who arrived in Iraq in May 2003, that: "There was to be no privatisation of Iraqi oil resources or facilities while I was involved."

Ariel Cohen, of the neo-conservative Heritage Foundation, told Newsnight that an opportunity had been missed to privatise Iraq's oil fields. He advocated the plan as a means to help the US defeat Opec, and said America should have gone ahead with what he called a "no-brainer" decision. Mr Carroll hit back, telling Newsnight, "I would agree with that statement. To privatise would be a no-brainer. It would only be thought about by someone with no brain."

Not for the first time, the civilian incompetents-in-charge at the Pentagon had decided to plough on regardless of advice to the contrary – this time advice from a lobby a little more influential than the "please retire" General Eric Sinsheki. A lobby group that included the "Oil and Energy" working group of the "US State Department’s Future of Iraq project" – the group that included oil industry executives and Ibrahim Bahr al-Uloum, the subsequently CPA appointed oil minister. US IOCs were not about to have their black-golden egg "shock and awed" from their grasp. Criminally incompetent "planning for the peace" was not about to be replicated as a plan for the profit:

New plans, obtained from the State Department by Newsnight and Harper's Magazine under the US Freedom of Information Act, called for creation of a state-owned oil company favoured by the US oil industry. It was completed in January 2004 under the guidance of Amy Jaffe of the James Baker Institute in Texas.

On first blush it doesn't really gel does it? Why create a state owned oil comapany (INOC) and not just privatise the whole lot and structure matters in favour of the relevant oil interests? Because "Big Oil" has a much better way of dealing with complexities of oil extraction and the hard-and-fast securing of the profits to be made. This takes the form of a (usually very complex) contract with the "host nation" called a PSA or Production Sharing Agreement. A publication from Institute for Policy Studies, cleverly titled "Crude Designs: The Rip-Off of Iraq's Oil wealth" explains:

The PRODUCTION SHARING AGREEMENT (PSA) is a more complex system. In theory, the state has ultimate control over the oil, while a private company or consortium of companies extracts it under contract. In practice, however, the actions of the state are severely constrained by stipulations in the contract. In a PSA, the private company provides the capital investment, first in exploration, then drilling and the construction of infrastructure. The first proportion of oil extracted is then allocated to the company, which uses oil sales to recoup its costs and capital investment – the oil used for this purpose is termed ‘cost oil’. There is usually a limit on what proportion of oil production in any year can count as cost oil. Once costs have been recovered, the remaining ‘profit oil’ is divided between state and company in agreed proportions. The company is usually taxed on its profit oil. There may also be a royalty payable on all oil produced.

What are the benefits of such a contractual arrangement? Many-fold. First it leaves the ownership of the oil in the host country's hands. Secondly it (depending on the contractual terms) guarantees the oil company profits and the basis on which they are calculated for the period of the contract – twenty-five to forty years – as well as protecting the arrangement against attempts to legislate to change it by the newly elected or any future government . Thirdly – and most importantly – it facilitates the "booking" of the oil reserves in the company's accounts.

This should not be underestimated. Essentially the company has "privatised" the reserve (it is an asset in its ledger) without shelling (pardon the pun) out a cent. On that pun, Shell is an outstanding example of the importance of this:

Companies want a deal that guarantees their right to extract the reserves for many years, thus ensuring their future growth and profits. Furthermore, they want a contract that allows them to ‘book’ these reserves – including them in their accounts – which increases their company value. Production sharing agreements, like concession contracts, permit companies to book reserves in their accounts. The importance of this should not be underestimated for the oil majors. In 2004, when British/Dutch oil company Shell was found to have overstated the size of its ‘booked’ reserves by over 20%, it lost the faith of the financial markets: this impacted heavily on its share price and credit rating.

So we have big oil quietly behind the scenes directing US policy away from "privatisation" and towards their much preferred modus operandi: PSAs. This is the major reason the CPA and the Interim Iraqi government had been so "silent" on the future of Iraqi oil. The Exxon/Mobils will get what they desire without an unseemly buying war or actually being "seen" as having "nicked" Iraq's oil.

And don't think the Iraqi National Oil Co is as safe as it seems either (below). This policy was being shaped throughout 2002/3 by a group called the "Oil and Energy Working Group" of the US State Department’s Future of Iraq project. From Crude Designs:

The “Oil and Energy” working group met four times between December 2002 and April 2003. Although the full membership of the group has never been revealed, it is known that Ibrahim Bahr al-Uloum, the current Iraqi Oil Minister, was a member.34 The 15-strong oil working group concluded that Iraq “should be opened to international oil companies as quickly as possible after the war” and that “the country should establish a conducive business environment to attract investment of oil and gas resources.”

The subgroup went on to recommend production sharing agreements (PSAs) as their favoured model for attracting foreign investment. Comments by the handpicked participants revealed that “many in the group favoured production-sharing agreements with oil companies.” Another representative commented, “Everybody keeps coming back to PSAs.”

The reasons for this choice were explained in the formal policy recommendations of the working group, published in April 2003: “Key attractions of production sharing agreements to private oil companies are that although the reserves are owned by the state, accounting procedures permit the companies to book the reserves in their accounts, but, other things being equal, the most important feature from the perspective of private oil companies is that the government take is defined in the terms of the [PSA] and the oil companies are therefore protected under a PSA from future adverse legislation.”

The group also made it clear that in order to maximize investments, the specific terms of the PSAs should be favourable to foreign investors: “PSAs can induce many billions of dollars of foreign direct investment into Iraq, but only with the right terms, conditions, regulatory framework, laws, oil industry structure and perceived attitude to foreign participation.”

So the upshot is that "Big Oil" gets its way: Iraqi oil (at least that yet to be put into production) would be "booked" as opposed to privatised. Those (yet to be exploited) reserves are just as good as privatised as they will now show as assets in the IOCs' ledgers. Share prices bulwarked and neatly done.

Completing the circle, later, in 2003, Paul Bremmer appointed Ibrahim Bahr al-Uloum as oil minister. Al Uloum promptly announced that plans to privatise Iraq's oil would be drawn up but that nothing would be done until after the scheduled 2005 elections. One would assume this to have something to do with the probity of involving the Iraqi people by way of their (to be elected) parliament. He then told the Financial Times that:

"The Iraqi oil sector needs privatisation, but it's a cultural issue," noting the difficulty of persuading the Iraqi people of such a policy. He then proceeded to announce that he personally supported: Production sharing agreements for upstream (i.e. extraction of crude oil) development; giving priority to US oil companies, “and European companies, probably.”

One would assume incorrectly. This proved a neat delaying/defusing ploy whilst Iyad Allawi, as interim Prime Minister, appointed one Thamir al-Ghadban, a "UK-trained petroleum engineer" and former senior adviser to Bahr al-Uloum, who then announced that 2005 would be a year of dialogue on this issue – evidently leading up to the 2005 elections. All this time, the constitutional process proceeded, leaving the oil industry (like much of the document's wording) loose. As well, the writing of the Iraqi "Petroleum Law" is still a work in progress:

By June 2005, government sources reported that a Petroleum Law had been drafted, ready to be enacted after the December elections. According to the sources – although some details are still being debated – the draft of the Law specifies that while Iraq’s currently producing fields should be developed by INOC, new fields should be developed by private companies.

Meanwhile, Ahmad Chalabi, the Pentagon’s former favourite to run Iraq, was appointed chair of the Energy Council, which replaced the Supreme Council for Oil Policy as the key overseer of energy and oil policy. Back in 2002 Chalabi had famously promised that “US companies will have a big shot at Iraqi oil.”

Under the auspices of Chalabi, the above dialogue has transformed into the Energy Ministry actively encouraging contracts to be signed as quickly as possible – preferably before the December 15 elections, and certainly within the time frame allowed for alteration of the constitution whilst the country and its institutions are in flux. Now why would that be? Crude Designs offers the following:

In so far as the decision rests with Baghdad, the Oil Ministry is keen to sign contracts as quickly as possible. According to officials in the Ministry, their aim is to begin signing long-term contracts with foreign oil companies during the first nine months of 2006.54 In order to achieve this goal, officials wanted to start negotiations with oil companies during the second half of 2005, before a legitimate Iraqi government is elected and in parallel with the writing of a Petroleum Law. This time frame means that contracts will be negotiated without public participation or debate, or proper legal framework.

The cost of this to Iraq? Crude Designs estimates that it is enormous. Amongst its findings:

At an oil price of $40 per barrel, Iraq stands to lose between $74 billion and $194 billion over the lifetime of the proposed contracts, from only the first 12 oilfields to be developed. These estimates, based on conservative assumptions, represent between two and seven times the current Iraqi government budget. Under the likely terms of the contracts, oil company rates of return from investing in Iraq would range from 42% to 162%, far in excess of usual industry minimum target of around 12% return on investment.

It may yet be that, depending on electoral outcomes, INOC is eventually opened up to foreign investment as well. Foreign Policy in Focus fellow, Antonia Juhasz quotes the following (Jan 2005):

On Dec. 22, 2004, Iraqi Finance Minister Abdel Mahdi told a handful of reporters and industry insiders at the National Press Club in Washington, D.C. that Iraq wants to issue a new oil law that would open Iraq's national oil company to private foreign investment. As Mahdi explained: "So I think this is very promising to the American investors and to American enterprise, certainly to oil companies."

As we have seen, that law, whilst contract negotiations ("dialogues") proceed apace, is a private work in progress. It is worth noting that this fellow is a prominent SCIRI (Supreme Council for the Islamic Revoltion in Iraq) politician.

So as the Bush administration continues re-writing history and creating "new realities", with ever burgeoning altruistic platitudes of freedom and democracy thrown about with gay abandon, don't ever let it be said we didn’t go there for the oil. In the words of Greg Palast, we may not have gone there for the oil, but we sure aren't leaving without it.