The Fuse

Iraqi Oil After the May Elections

July 31, 2018

Guest Post by Matthew M. Reed | @matthewmreed

Matthew Reed is Vice President of Foreign Reports, Inc. and a non-resident fellow at New America and the Payne Institute at the Colorado School of Mines.

Two months after Iraq’s parliamentary elections, the dust has hardly settled, and questions linger over how the results will impact the oil sector. On May 12, Iraqis went to the polls for the first time since ISIS took over roughly one-third of the country in mid-2014. Prime Minister Haider al-Abadi had hoped to turn his signature achievements into a strong showing and a second term. Having defeated ISIS, thwarted Kurdish aspirations for independence, kick-started relations with Saudi Arabia, and dispensed somewhat with the sectarian baggage of his predecessor, Abadi’s chances looked good. But the results were shocking.

Ahead of him, in first place with 54 seats, came a joint list led by the cleric Muqtada al-Sadr, once a sworn enemy of the U.S. who rebranded himself as a nationalist and anti-corruption crusader after the occupation. A coalition of militia personalities led by Hadi Amiri, a pro-Iranian fighter and former minister of transportation, came in second with 47 seats. The prime minister’s coalition came in third with just 42 seats.

Sadr and Amiri are not natural partners. Ultimately, they may or may not form a government together. But the rise of their respective factions points to a potential reset of the political scene and possibly Iraq’s oil and foreign policies.

The most urgent task of the outgoing government, led by Prime Minister Abadi, and any new government that replaces it, will be to address massive protests in Iraq’s oil-rich south. This month’s deadly protests were spawned by the government’s chronic failure to provide basic services like water and electricity; they boiled over because of a terrible heatwave; and in recent weeks they have disrupted operations at key oil fields, plus several other cities. Crude volumes remain steady but workers have been withdrawn and security forces are being deployed in greater numbers. Yet there are no quick fixes—excluding a change in weather. The top vote-getter in May, Sadr, now says that the government formation process should be put on hold until demands are satisfied, though this looks like a cynical ploy to avoid blame.

Sadr and Amiri are not natural partners. Ultimately, they may or may not form a government together. But the rise of their respective factions points to a potential reset of the political scene and possibly Iraq’s oil and foreign policies.

Protests aside, the oil sector could see renewed scrutiny from members of parliament and new ministers who want to leave their mark. It remains to be seen whether Sadr’s coalition will act on its anti-corruption agenda. But some Sadrists say they want to revisit oil contract terms and launch corruption probes. Such efforts could slow down future investment. Over the last decade, Iraq’s production capacity has doubled from just 2.4 million b/d in 2008 to 4.8 million b/d today. Achieving 5 million b/d may depend on how realistic the next government is.

Iraq’s near-term oil outlook also depends on whether or not Baghdad and Erbil can be reconciled soon. The Kurds began exporting oil independently through Turkey in early 2013. In June 2014, after federal forces retreated in the face of ISIS, the Kurds took over administration of Kirkuk and its oil fields, which were previously operated by Baghdad. They then connected those fields to a Kurdish pipeline network and began exporting additional—previously federal—volumes in November of that year. Deals came and went. Protests from Baghdad waxed and waned, but the central government had limited leverage and higher priorities. However, by 2017, ISIS was on the ropes and federal forces had started to reassert their authority in north, which left them on the doorstep of the Kurdistan Regional Government.

The oil dispute came to a head when the Kurds held an ill-conceived independence referendum last September. Weeks later, government forces recaptured Kirkuk and Baghdad gained control of nearly all disputed territories in the north. A blockade followed and Kurdish oil exports were slashed by half overnight. Kirkuk’s oil was back in Baghdad’s hands, but it was stranded because it still needed Kurdish pipelines to reach Turkey and be exported.

The question now is whether a new deal can unlock 200-300 thousand b/d of stranded exports. Unfortunately, Abadi’s caretaker government can’t be expected to reach a comprehensive revenue-sharing deal because there’s no telling whether a new government will honor its commitments. Serious talks can only begin once a new government is in place. In Iraq, that can take the better part of a year—when the results aren’t disputed.

It seems clarity on Kirkuk exports can only come after the voter fraud controversy is settled, a government is formed, and negotiations begin in earnest.

This year’s election was tainted by voter fraud claims and an attempt to destroy ballots after a recount was announced. Official results have yet to be finalized. Moreover, what the Kurds are willing to accept probably depends on where they stand with the new government. Combined, the top two Kurdish parties won 43 seats (that number may slip depending on the recount results). Yet the Kurdish bloc is crucial because it can help secure the 165+ seat majority needed to form a government. It seems clarity on Kirkuk exports can only come after the voter fraud controversy is settled, a government is formed, and negotiations begin in earnest.

Besides complicating contracts and revenue-sharing agreements, the Iraqi elections could also empower voices that have been critical of OPEC, particularly Iraq’s decision to restrain output with other members of the group. Some critics believe the country must max out production no matter what because it is still making up for decades of conflict. The catch is that Iraq is now OPEC’s #2 producer behind Saudi Arabia; it has considerable market influence and the group’s credibility hinges on Iraq’s commitment to common positions. The truth is that no country has benefited from the 2016 supply pact more than Iraq, given its weak quota compliance record, historically high exports, and increased prices.

OPEC stands to gain if Iraqi-Saudi relations continue to improve.

OPEC stands to gain if Iraqi-Saudi relations continue to improve. Under Prime Minister Abadi, Baghdad and Riyadh turned the page after 25 years of estrangement . A new Saudi ambassador arrived in Baghdad in 2016. Since then, high-profile meetings have become semi-regular, with energy delegations leading the way. In October 2017, the first meeting of a bilateral coordination council met in Riyadh, with then-Secretary of State Rex Tillerson in attendance. Direct flights were established and border crossings were reopened.

Will a new Iraqi government seek improved relations with Saudi Arabia? Sadr seems eager but Amiri is more closely aligned with Iran. Abadi would push for closer ties but his second term looks doubtful given the outrage in the streets. His predecessor—Nouri al-Maliki, whose State of Law party won 25 seats this time—blames Saudi Arabia for the rise of ISIS.

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