How Iraqi Oil Is Changing the World

When the world’s top oil-producing countries sat down today in Vienna, there was a new 800-pound gorilla joining them in the room. It’s not a rising oil price, which now hovers at $80 per barrel; nor is it the U.S. Federal Reserve meetings, where governors will likely leave interest rates near flat. No, the 800-pound gorilla is far closer to home for most members of OPEC: It’s Iraq.

If Baghdad’s own projections are to be believed, Iraq could match Saudi Arabia’s daily crude output of 10 million to 12 million barrels within the next seven years, up from just 2.5 million barrels today. That means price stability, OPEC’s sine qua non, could go from being Saudi Arabia’s solo prerogative to a shared franchise of two states: one an entrenched monarchy, the other an unruly democracy with an uncertain future. And since Iraq held a successful tender for new oil exploration work in December, the country’s oil minister, Hussain al-Shahristani, has made it clear that Baghdad will ramp up production regardless of any restraints agreed upon by the world’s oil cartel.

It would be quite a change from the near hegemony that Saudi Arabia enjoys within OPEC today. For decades, Saudi Arabia has served as the world’s central banker of oil supplies. In unstable times, most famously in the wake of Iraqi’s 1990 invasion of Kuwait, it has drawn from its spare production capacity of some 1 million barrels to bring prices to heel. Today, Iran weighs in at a distant second place within the cartel, producing just over 4 million barrels per day. So at this week’s OPEC meeting, members paid Saudi Oil Minister Ali bin Ibrahim al-Naimi the appropriate levels of deference and respect. When Naimi appealed to his counterparts to keep production limits in place for the sake of a still-fragile global economy, most of them obeyed. When he departed for his ritual morning jog along the Viennese boardwalks, they likely said a quiet prayer for his safe return.

Iraq’s revival as a prominent oil exporter is bound to reshuffle a careful power balance in the energy-rich Arab world, particularly between bitter rivals Saudi Arabia and Iran. Saddam Hussein’s 2003 toppling created a vacuum that both sides rushed to fill, for example deploying proxy forces at the height of Iraq’s sectarian civil war. OPEC is another battlefield for the Saudi-Iran rivalry, and the Saudi kingdom is in no hurry to lose its uncontested status as No. 1. Now, as Iraq stabilizes politically and slowly rebuilds its oil-production capacity, both sides will have to accommodate a more assertive Baghdad. Even if oil production doesn’t reach the Iraqis’ goal, it will likely be higher than the approximately 1.7 million barrels per day that Iraq was producing just prior to the U.S. invasion.

"The Iraqis are saying, ‘Look, we’re not going to be on par with Iran; we have to be equal with Saudi Arabia,’" says Raad Alkadiri, an Iraq expert at PFC Energy, a Washington-based consulting firm. "They note how OPEC has benefited from the fact that Iraq has not produced to its potential, and given its reconstruction demands, its need of revenue must be acknowledged."

So the emergence of Baghdad as a rival to Riyadh could lead to some rancorous deliberations within the cartel. Naimi, highly regarded as a consensus-builder, will have to work overtime to win over Iraq when it comes to price targets; the last thing he’ll want is a revitalized Baghdad openly defying production ceilings for the sake of revenue. He already has his hands full dealing with inveterate quota smashers like Iran and Venezuela, who routinely oversell to pay for their costly entitlement programs.

Of course, Iraq won’t be ramping up production tomorrow. The biggest obstacles are political, not technical. Iraq’s politicians, divided as they are along ethnic and sectarian lines, have yet to pass a petroleum law. The recent parliamentary elections are only expected to complicate matters, particularly as Iraq’s Arab and Kurdish constituencies battle over who will control oil-rich Kirkuk.

Iraq also has yet to rebuild the expertise needed to develop its energy resources, and it will have to rely heavily on foreign help. The country’s fraternity of energy elites, once considered the Middle East’s finest, was scattered by decades of war and sanctions, followed by the U.S. invasion and the chaos that followed. To compensate, the best the Oil Ministry can do is usually to dispatch teams of administrators to work with foreign developers on new projects.

But though the challenges are clear, the country’s projections are not entirely unfeasible. Having cleaned up the Iraqi Oil Ministry of the corruption that thrived under his predecessor, the resourceful Ahmed Chalabi, Shahristani has awarded a series of development contracts to oil giants ranging from independents like BP to state-controlled companies like China’s Sinopec. They are structured so that the faster the developers pump oil, the greater will be their returns on investment. And even if Iraq could more or less double its daily crude output to 5.5 million within the decade, as Alkadiri and other oil analysts say is a more reasonable target, it would become the second-largest OPEC member, surpassing Iran.

That would effectively transform OPEC into a bipolar cartel, one in which close coordination between Riyadh and Baghdad would be vital for price stability. A mere ripple of tensions between the two sides, be they over production quotas or worse, geopolitics, could have dire consequences for energy markets.

Shahristani appears to have no delusions about how difficult the path he has set for himself will be. Although not a career oilman like Naimi, who learned his trade as a boy working for the Americans who controlled the Saudi oil industry before it was nationalized, Shahristani is at least shaping up to be a worthy junior partner.

That would be just the kind of gradual transition that reassures oil markets — if not the Saudis.