1.

Unraveling the Carbon Web

CRUDE DESIGNS -- THE RIP-OFF OF IRAQ'S OIL WEALTH

Platform
November 2005

http://www.crudedesigns.org/

Control of Iraq's future oil wealth is being handed to multinational oil companies through long-term contracts that will cost Iraq hundreds of billions of dollars.

Crude Designs: The Rip-Off of Iraq's Oil Wealth reveals that current Iraqi oil policy will allocate the development of at least 64% of Iraq’s reserves to foreign oil companies. Iraq has the world’s third largest oil reserves.

Figures published in the report for the first time show:

--the estimated cost to Iraq over the life of the new oil contracts is $74 to $194 billion, compared with leaving oil development in public hands. These sums represent between two and seven times the current Iraqi state budget.

--the contracts would guarantee massive profits to foreign companies, with rates of return of 42% to 162%.

The kinds of contracts that will provide these returns are known as production sharing agreements (PSAs). PSAs have been heavily promoted by the U.S. government and oil majors and have the backing of senior figures in the Iraqi Oil Ministry. Britain has also encouraged Iraq to open its oilfields to foreign investment.

However, PSAs last for 25-40 years, are usually secret, and prevent governments from later altering the terms of the contract.

2.

Crude Designs: The Rip-Off of Iraq's Oil Wealth
By Greg Mottiett
November 2005

EXECUTIVE SUMMARY

http://www.carbonweb.org/documents/Crude%20Designs%20report%20-%20final.pdf

While the Iraqi people struggle to define their future amid political chaos and violence, the fate of their most valuable economic asset, oil, is being decided behind closed doors. This report reveals how an oil policy with origins in the U.S. State Department is on course to be adopted in Iraq, soon after the December elections, with no public debate and at enormous potential cost. The policy allocates the majority [Note 1: The Iraqi government would be left with control of only the 17 fields that are already in production, out of around 80 known fields] of Iraq’s oilfields -- accounting for at least 64% of the country’s oil reserves -- for development by multinational oil companies. Iraqi public opinion is strongly opposed to handing control over oil development to foreign companies. But with the active involvement of the U.S. and British governments a group of powerful Iraqi politicians and technocrats is pushing for a system of long term contracts with foreign oil companies which will be beyond the reach of Iraqi courts, public scrutiny, or democratic control.

COSTING IRAQ BILLIONS

Economic projections published here for the first time show that the model of oil development that is being proposed will cost Iraq hundreds of billions of dollars in lost revenue, while providing foreign companies with enormous profits. Our key findings are:

--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 [Note 2: The precise terms of proposed contracts are obviously be subject to negotiation: our projections are based on a range of terms used in the most comparable countries, including Libya, which is commonly viewed as having some of the most stringent in the world]. Multinational oil companies are pushing for lucrative terms by international standards, based on Iraq’s high level of political and security risk. These risks place the Iraqi government in an extremely weak negotiating position. The projections are given in undiscounted real terms (2006 prices). The contract duration is assumed to be [Note 3: The terminology of PSAs labels the private companies as “contractors”. This report illustrates that this label is misleading because PSAs give companies control over oil development and access to extensive profits] 30 years as 25-40 years is the common length. The (2006) net present value of the loss to Iraq amounts to between $16 billion and $43 billion at 12% discount rate, 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.

A CONTRACTUAL RIP-OFF

The debate over oil “privatization” in Iraq has often been misleading due to the technical nature of the term, which refers to legal ownership of oil reserves. This has allowed governments and companies to deny that “privatization” is taking place. Meanwhile, important practical questions, of public versus private control over oil development and revenues, have not been addressed.

The development model being promoted in Iraq, and supported by key figures in the Oil Ministry, is based on contracts known as production sharing agreements (PSAs), which have existed in the oil industry since the late 1960s. Oil experts agree that their purpose is largely political: technically they keep legal ownership of oil reserves in state hands, while practically delivering oil companies the same results as the concession agreements they replaced. Running to hundreds of pages of complex legal and financial language and generally subject to commercial confidentiality provisions, PSAs are effectively immune from public scrutiny and lock governments into economic terms that cannot be altered for decades.

In Iraq’s case, these contracts could be signed while the government is new and weak, the security situation dire, and the country still under military occupation. As such the terms are likely to be highly unfavorable, but could persist for up to 40 years.

Furthermore, PSAs generally exempt foreign oil companies from any new laws that might affect their profits. And the contracts often stipulate that disputes are heard not in the country’s own courts but in international investment tribunals, which make their decisions on commercial grounds and do not consider the national interest or other national laws. Iraq could be surrendering its democracy as soon as it achieves it.

POLICY DELIVERED FROM AMERICA TO IRAQ

Production sharing agreements have been heavily promoted by oil companies and by the U.S. Administration. The use of PSAs in Iraq was proposed by the Future of Iraq project, the U.S. State Department’s planning mechanism, prior to the 2003 invasion. These proposals were subsequently developed by the Coalition Provisional Authority, by the Iraq Interim Government and by the current Transitional Government. The Iraqi Constitution also opens the door to foreign companies, albeit in legally vague terms. Of course, what ultimately happens will depend on the outcome of the elections, on the broader political and security situation, and on negotiations with oil companies. However, the pressure for Iraq to adopt PSAs is substantial. The current government is fast-tracking the process and is already negotiating contracts with oil companies in parallel with the constitutional process, elections and passage of a Petroleum Law.

The Constitution also suggests a decentralization of authority over oil contracts, from the national level to Iraq’s regions. If implemented, the regions would have weaker bargaining power than a national government, leading to poorer terms for Iraq in any deal with oil companies.

A RADICAL DEPARTURE

In order to make their case, oil companies and their supporters argue that PSAs are standard practice in the oil industry and that Iraq has no other option to finance oil development. Neither of these assertions is true.

According to International Energy Agency figures, PSAs are only used in respect of about 12% of world oil reserves, in countries where oilfields are small (and often offshore), production costs are high, and exploration prospects are uncertain. None of these conditions applies to Iraq. None of the top oil producers in the Middle East uses PSAs. Some governments that have signed them regret doing so. In Russia, where political upheaval was followed by rapid opening up to the private sector in the 1990s, PSAs have cost the state billions of dollars, making it unlikely that any more will be signed. The parallel with Iraq's current transition is obvious. The advocates of PSAs also claim that obtaining investment from foreign companies through these types of contracts would save the government up to $2.5 billion a year, freeing up funds for other public spending. Although this is true, the investment by oil companies now would be massively offset by the loss of state revenues later.

Our calculations show that were the Iraqi government to use PSAs, its cost of capital would be between 75% and 119%. At this cost, the advantages referred to are simply not worth it. Iraq has a range of less damaging and expensive options for generating investment in its oil sector. These include: financing oil development through government budgetary expenditure (as is currently the case), using future oil flows as collateral to borrow money, or using international oil companies through shorter-term, less restrictive and less lucrative contracts than PSAs [Note 4: These might include buyback contracts, risk service contracts, or development and production contracts].

IN WHOSE INTERESTS?

PSAs represent a radical redesign of Iraq's oil industry, wrenching it from public into private hands. The strategic drivers for this are the U.S./U.K. push for “energy security” in a constrained market and the multinational oil companies’ need to “book” new reserves to secure future growth. Despite their disadvantages to the Iraqi economy and democracy, they are being introduced in Iraq without public debate.

It is up to the Iraqi people to decide the terms for the development of their oil resources. We hope that this report will help explain the likely consequences of decisions being made in secret on their behalf.

1. THE ULTIMATE PRIZE: ANGLO-AMERICAN INTERESTS IN GULF OIL

The U.K. and U.S. have long had their eyes on the massive energy resources of Iraq and the Gulf. In 1918 Sir Maurice Hankey, Britain’s First Secretary of the War Cabinet wrote: “Oil in the next war will occupy the place of coal in the present war, or at least a parallel place to coal. The only big potential supply that we can get under British control is the Persian [now Iran] and Mesopotamian [now Iraq] supply . . . Control over these oil supplies becomes a first class British war aim." [Note 1: Letter to Arthur Balfour, Foreign Secretary, 1918, cited in Daniel Yergin, The Prize (Simon & Schuster, London, 1991), p. 188] After World War II both the U.S. and U.K. identified the importance of Middle Eastern oil. British officials believed that the area was “a vital prize for any power interested in world influence or domination” [Note 2: Introductory paper on the Middle East by the UK, undated [1947], FRUS, 1947, Vol. V, p. 569, cited in Mark Curtis, The Ambiguities of Power (Zed Books, London, 1995), p. 21], while their U.S. counterparts saw the oil resources of Saudi Arabia as a “stupendous source of strategic power and one of the greatest material prizes in world history” [Note 3: Memorandum by the Chief of the Division of Near Eastern Affairs, undated [1945], FRUS, 1945, Vol. VIII, p.45, cited in Mark Curtis, The Ambiguities of Power (Zed Books, London, 1995), p. 21].

TURNING BACK TO THE MIDDLE EAST

With over 60% of the world’s oil reserves, [Note 4: BP, Putting energy in the spotlight, Statistical Review of World Energy, June 2005] their interest in the Gulf region is unsurprising. Iraq alone has the third largest oil reserves on the planet -- accounting for 10% of the world total. Iraq is also reckoned to have the world’s largest unexplored potential, primarily in the Western Desert. On top of its 115 billion barrels of proven reserves, Iraq is estimated to have between 100 and 200 billion barrels of further possible (as yet undiscovered) reserves. Furthermore, not only are Iraqi and Gulf reserves huge, they are mostly onshore, in favorable reservoir structures, and extractable at extremely low cost. Since the nationalization of the major oil industries of the Middle East in the 1970s, Gulf reserves have been out of the direct control of the West and off the balance sheets of its companies. The oil companies have filled the gap by moving into the North Sea and Alaska in the 1970s and 1980s, and then in the 1990s by opening new ‘frontier’ areas such as the Caspian Sea and offshore West Africa.

However, the North Sea and Alaska are now in decline and while companies continue to actively pursue frontier oil development, the opportunities for growth there are limited and costs high. Thus, unable to escape from the arithmetic of where the giant reserves are, the U.S. and U.K. are turning back their attention to the Middle East. In a speech to the Institute of Petroleum in London in 1999, Dick Cheney, then CEO of oil services company Halliburton, commented: “By 2010 we will need on the order of an additional fifty million barrels a day. So where is the oil going to come from? . . . While many regions of the world offer great oil opportunities, the Middle East with two thirds of the world's oil and the lowest cost, is still where the prize ultimately lies.” [Note 5: Dick Cheney, speech at the Institute of Petroleum Autumn lunch, London, 15 November 1999] To this analysis, he added a note of frustration: “Even though companies are anxious for greater access there, progress continues to be slow.”

[Pie chart showing World Oil Reserves, 2004: Saudi Arabia, about 22%; Iran, about 11%; Iraq, about 10%; Kuwait, about 9%; United Arab Emirates, about 9%; other Middle East, about 2% (total Middle East, about 63%); rest of world, about 37%]

A PRIMARY FOCUS OF U.S./U.K. ENERGY POLICY

Two years later, one of the Bush Administration’s first actions was to appoint Cheney, as U.S. Vice President, to lead an Energy Task Force to consider where the U.S.A.’s long-term energy supplies would come from. His report noted: “By any estimation, Middle East oil producers will remain central to world oil security. The Gulf will be a primary focus of U.S. international energy policy.” [Note 6: National Energy Policy Development Group, National Energy Policy report, May 2001, p. 8-5] While U.S. interest in Middle Eastern oil has been well-documented, similar considerations play in British strategic planning too. In January 2003, Foreign Secretary Jack Straw announced that one of the Foreign Office’s seven priorities was “to bolster the security of British and global energy supplies.” [Note 7: Jack Straw, Secretary of State for Foreign & Commonwealth Affairs, speech on 'Strategic priorities for British foreign policy', 6 January 2003.] The geography of such a policy had been spelled out in the 1998 Strategic Defence Review white paper: “Outside Europe our interests are most likely to be affected by events in the Gulf and the Mediterranean. Instability in these areas also carries wider risks. We have particularly important national interests and close friendships in the Gulf. Oil supplies from the Gulf are crucial to the world economy.” [Note 8: Ministry of Defense, White Paper: "Modern Forces for the Modern World" (Strategic Defense Review), July 1998, chapter 2, paragraph 40] Pointing to the government’s partnership on these issues with major oil companies, a further Foreign Office strategy paper later in 2003 identified a key objective as to:

“improve investment regimes and energy sector management in these regions [the Middle East, parts of Africa and the former Soviet Union], focusing on key links in the supply chain to the U.K.” [Note 9: Foreign and Commonwealth Office, "UK International Priorities: A Strategy for the FCO," December 2003] (emphasis added). Importantly, these policies in America and Britain are coordinated. The U.S.-U.K. Energy Dialogue -- a bilateral initiative established during the April 2002 meeting of Prime Minister Blair and President Bush in Crawford, Texas [Note 10: U.S. Department of Commerce, Memorandum for the President, "Transmittal of the Report on the U.S.-U.K. Energy Dialogue," 30 July 2003], and designed to “enhance coordination and cooperation on energy issues” -- demonstrates the close convergence of Anglo-American views and interests on Middle Eastern oil: “Current forecasts for the oil sector put global demand by 2030 at about 120 million barrels per day (mbd), which is roughly 45 mbd higher than today. While recognizing that the increasing role of Russia and other non-OPEC producers, a large proportion of the world's additional demand will likely be met by the Middle East (mainly Middle East Gulf) producers. They hold over half of current proven reserves, exploration and production costs are the lowest in the world, and production in many mature fields in the OECD area is likely to fall. To meet future world energy demand, the current installed capacity in the Gulf (currently 23 mbd) may need to rise to as much as 52 mbd by 2030.” [Note 11: Ibid., Section 1]

PUSHING FOREIGN INVESTMENT

However, as noted in the Dialogue, one obstacle to “free access” to oil that concerns the British and Americans is the lack of ‘installed extraction capacity.’ To help deal with this problem President Bush and Prime Minister Blair tasked a joint Working Group with a list of planned activities. First on the list was to undertake “. . . a targeted study to examine the capital and investment needs of key Gulf countries . . .” [Note 12: Ibid, Section 1]

Within this context, it is perhaps unsurprising that in advising on the post-war reconstruction of Iraq, the British government has recommended that foreign investment in oilfields of most benefit to Iraq. In late summer 2004, the Foreign and Commonwealth Office issued a Code of Practice for the Iraqi oil industry, which argued that: “It has been estimated that a minimum of US$ 4 billion would be needed to restore production to its 1990 levels of 3.5 million barrels per day (mbd), and perhaps US$ 25 billion to achieve 5 mbd. . . . Given Iraq's needs, it is not realistic to cut government spending in other areas, and Iraq would need to engage with the International Oil Companies (IOCs) to provide appropriate levels of Foreign Direct Investment (FDI) to do this.” [Note 13: Foreign and Commonwealth Office (FCO), "Code of Practice for the Iraq Oil Industry," undated (summer 2004), pp.4-5] The Foreign Office subsequently went on to advise the Ministry of Oil on “fiscal and regulatory” issues. [Note 14: UK Secretary of State for Foreign and Commonwealth Affairs, Government Response to Seventh Report of the House of Commons Foreign Affairs Committee, on 'Foreign Policy Aspects of the War Against Terrorism', September 2004] Although this was never published in a formal policy document, it continued at an informal level, with Foreign Office minister Kim Howells stating that “We discuss with the Iraqi Ministries their priorities on a regular basis.” [Note 15: Dr. Kim Howells MP, answer to Parliamentary Question by Harry Cohen MP, 12 July 2005, Hansard column 878W] The FCO remains secretive about the content of this advice, refusing Freedom of Information applications. Tellingly, one of the exemptions used for their refusal was that the advice was “voluminous.” [Note 16: James McLaughlin (Iraq Policy Unit, Foreign & Commonwealth Office), letter to Lorne Stockman (PLATFORM), response to request under the Code of Practice on Access to Government Information, 9 December 2004] The U.S. government too has maintained close contacts with Iraqi decision-makers. [Note 17: For more on ongoing U.S. influence in Iraq, see Herbert Docena, "'Shock and Awe' Therapy," Focus on the Global South, April 2005] Speaking on the handover from the Coalition Provisional Authority to the Iraqi Interim Government, one senior U.S. official said: “We're still here. We'll be paying a lot of attention and we'll have a lot of influence. We're going to have the world's largest diplomatic mission with a significant amount of political weight." [Note 18: Jim Krane, "U.S. will retain sovereign power in Iraq," Associated Press, 21 March 2004] A report commissioned by the U.S. Agency for International Development was more specific about the form of contracts that should be used in Iraq, in order to achieve the West’s energy security goals: “Using some form of [production sharing agreements] with a competitive rate of return has proved the most successful way to attract [international oil company] investment to expand oil productive capacity significantly and quickly.” [Note 19: Bearing Point, report to USAID, Options for Developing a Long Term Sustainable Iraqi Oil Industry, 19 December 2003] As the above policies illustrate, the key U.S.-U.K. ‘energy security’ priority is secure control over an increasing supply of Gulf oil, preferably delivered by investment from their own oil companies. It is clear that Iraq's newly accessible oil is expected to play an important role in meeting these priorities. But as we shall see, implementing these arrangements could have severe impacts on Iraq’s future development.

--PLATFORM is an interdisciplinary organisation working on issues of environmental and social justice. Founded in 1984, it specializes in addressing the impacts of British oil corporations on development, environment and human rights. http://www.carbonweb.org

U.S. CO-PUBLISHERS

--Global Policy Forum monitors policy making at the United Nations, promotes accountability of global decisions, educates and mobilizes for global citizen participation, and advocates on vital issues of international peace and justice. http://www.globalpolicy.org

--The Institute for Policy Studies strengthens social movements with independent research, visionary thinking, and links to the grassroots, scholars and elected officials. With an emphasis on the U.N. and the Middle East, IPS's New Internationalism Project works to strengthen the U.S. and global peace movements. http://www.ips-dc.org

--Oil Change International campaigns to expose the true costs of oil and facilitate the coming transition towards clean energy. We are dedicated to identifying and overcoming political barriers to that transition. http://www.priceofoil.org

U.K. CO-PUBLISHERS

--The New Economics Foundation (NEF) works to construct a new economy centred on people and the environment. Founded in 1986, it is now one of Britain’s most creative and effective independent think tanks, combining research, policy, training, and practical action. http://www.neweconomics.org

--War on Want is a U.K.-based campaigning charity. Founded in 1951 it has links to the labor movement and supports progressive, people-centred development projects around the world. War on Want campaigns in the U.K. against the causes of world poverty. http://www.waronwant.org