Middle East Economic Survey

VOL. LI

No 10

10-March-2008

Iraq Petroleum Law: Problematic Issues And its Fate (1/2)

By Tariq Shafiq

Tariq Shafiq is a Petroleum Consultant, Director of Petrolog & Associates, and Chair, Fertile Crescent Oil Fields Development Company. The following paper was presented at a Conference on Iraq Oil Policy: A Review, at the Centre for Iraqi Researchers in Paris on 25-27 February (tshafiq4@aol.com). Part 2 will be published next week.

1.0 Introduction

Iraq’s Petroleum Law is not only vital to Iraq but also to the global energy supply as will be illustrated here.

This paper discusses Iraq’s draft Petroleum Law. It begins with a description of Iraq’s oil in context to show the enormity of its oil resource and how important Iraq’s proven and potential resources are not only for Iraq but also for the global energy supply. I cover briefly the controversial legal issues that have posed and continue to pose problems for the application of a professionally sound petroleum law. Of these, three relating to the constitution have contributed to complicating the policy, planning and decision-making process in the negotiated and amended draft. These are:

• Constitutional Articles governing the management of the oil and gas assets and the Kurdistan Regional Government’s (KRG) negotiations strategy.
   

• Power of the national Government vs the Regions and Governorates.
   

• Federated Regions and Governorates and oil and gas resource management.

The discussions highlights the inadequacies of the constitutional articles in governing the management of oil and gas resources, the ambiguous nature of the language in which they are drafted, the exogenous factors at play while drafting the constitution, and the need for their revision. I discuss the KRG’s interpretation of the constitutional articles governing oil and gas resource management and a summary of an independent interpretation of these articles.

The discussion highlights the damaging pursuit of the KRG’s policy, the drawbacks of the amended draft Petroleum Law, the shift in the decision-making process from the centre, involving unified plans and policy by a collective but central authority, to the Regions and Governorates. I suggest the need to abandon ethno-sectarian politics and to reverse the damaging geopolitical trends and prevailing parameters which now characterise Iraq as a failed state.

I discuss the potential damage resulting from the management of exploration by the Regions and Governorates through their wholesale Production-Sharing Agreements (PSAs) to the International Oil Companies (IOCs) while lacking developed institutions at this embryonic stage. I then highlight the characteristics of PSAs, and the future relationship between the national oil companies (NOCs), the Majors of the day, and IOCs. The IOCs have provided, and can provide both technical and managerial services, in exchange for cash and crude oil purchase contracts which could well be the better model, within a culture which no longer should or need IOCs or NOCs to replace either.

The rejection of the PSAs is not only a result of the prevailing geopolitical climate, nor the bad press they have received, but also because of some of their intrinsic characteristics, licensing unprecedented large numbers of exploration blocks all over the country at a time when Iraq’s dormant proven reserves are sufficient over the next two-to-three decades.

Finally, the paper concludes that Iraq’s Petroleum Law and its oil industry will have no chance of revival nor survival unless professional amendments are made, along with positive constitutional revisions, and within an improved geopolitical climate, and ends with an expression of faith in the nation’s deep routed culture and ability to return to normality.

2.0 Iraq Oil In Context Of World Global Supply

Recovery Is Assumed 50% (From World Average Of 35% Justifiable From Future Enhanced Recovery) + Potential At 20% Of Published Proven Reserves Except Iraq At Petrolog 215Bn Barrels Estimate

The vital conceptual conclusions relevant to our issues are that:

• Iraq’s present proven reserves can create a production capacity of 10mn b/d and maintain it for a decade before decline sets in, while annual depletion rate is 4-5%. Consequently, with ample reserves Iraq’s priority should be to rehabilitate its infrastructure, build capacity and monetize reserves.
   

• Iraq’s developed production rates have always lagged behind its reserves capacity. Further exploration for reserves equates to additional frozen investment, generating no return.    
   

• With proven and potential reserves of 380bn barrels, on par with Saudi Arabia, Iraq will be able to raise its production capacity to over 12mn b/d and sustain it for over a decade at an annual depletion rate of 4-5%, when others would have gone into decline.

As rising world demand depletes reserves in most producing regions and peak oil decline sets in, Iraq’s oil gains increasing importance in global energy supplies. It is the furthest away from potential peak oil by some 174bn barrels. Iraq’s enormous proven and potential oil is the only major, practically untapped oil resource, making Iraq a tempting target for the oil consuming powers and their IOCs. At the same time, it raises alarm amongst Iraqis fearing continuing occupation and interference in its political and economic future, and fuelling the argument that the invasion was for oil.

3.0 Problematic Issues

3.1 Constitutional Articles Governing The Management Of Oil And Gas Assets And The KRG’s Strategy

The constitutional articles governing Iraq’s oil and gas assets were drafted in ambiguous language giving rise to different interpretations. This is particularly evident in the KRG’s controversial interpretation of the articles in their first draft petroleum law. By way of illustration, I will give one example:

• Article 111 which states that “oil and gas are the property of the people, in all the regions and governorates” was interpreted to mean that oil in the Kurdistan Region is the property of the people of Kurdistan. Logic suggests that the clarification “all the region and governorates” does not support this interpretation. It is for emphasis.

However, this interpretation appears to have remained their position throughout. The KRG’s interpretations of the other articles are as controversial. Nonetheless, they were used successfully to exact maximum concessions from the national Iraqi government position, shifting authority from a national neutral position to the Regions and Governorates. However, the KRG’s position has kept oscillating between their original interpretation and the acceptance of the legal position of the first draft, conditional on appropriate revenue distribution (as declared in an oil conference in December 2006) to suit their negotiation strategy.

The first original draft’s legal basis is compatible with the constitutional interpretation of a prominent Iraqi authority, Dr Malek Dohan al-Hassan, and study by Joseph C Bell, Hogan and Hartson LLP, and Professor Cheryl Saunders, University of Melbourne, Australia, ‘Iraqi Oil Policy – Constitutional Issues Regarding Federal and Regional Authority’ – written for the public domain, published on www.iraqrevenuewatch.org.

The legal interpretation by the independent authors referred to above is summarised as follows:

Article 112, First, provides that the federal government, with the “producing” governorates and regional governments, shall manage oil and gas “extracted from present fields” subject to a revenue distribution formula.  “Management” in Article 112 is not defined nor is it subject to any words of limitation. Thus management should be read in the ordinary sense of conducting or supervising all of the business aspects relating to oil and gas extracted from present fields; eg production, transport, refining, disposition.  

Article 112, Second, provides that the federal government, again with the producing regional and governorate governments, shall establish the strategic policies for the development of oil and gas in accordance with certain standards. Article 112, Second, does not contain the limiting words “extracted from present fields.”

Thus Article 112 provides a general structure for the oil and gas sector (exploration, development and exploitation in general) in which strategic policies are set on a unified basis for all of the oil and gas resources of the country and those policies are implemented, in the case of present fields, by the federal government with the producing governorates and regional governments. 

The word “extracted” does not connote a limitation on this management authority but rather should be read as defining what oil and gas resources are subject to the management authority of Article 112 First, ie, oil and gas “extracted from present fields.” Article 112 envisions two functions:  the establishment of oil and gas policies and management of the oil and gas resource.

The leadership of the federal government in Article 112 is further reinforced by Article 110 which sets out those areas where the federal government has “exclusive” authority.  Among the exclusive authorities of the federal government are “formulating foreign sovereign economic and trade policy;” and “regulating commercial policy across regional and governorate boundaries in Iraq.” Thus, the shared authority of Section 112 is cabined by the power of the federal government to prescribe and set policies whenever trade or investment crosses national, regional or governorate boundaries or involves trade or investment moving in and out of Iraq. Regional action in violation of such policies would be unconstitutional as it infringes upon areas committed to the exclusive authority of the federal government.

The Society of Petroleum Engineers defines field as follows:

“Field: an area consisting of a single reservoir or multiple reservoirs all grouped on, or related to, the same individual geological structural feature or stratigraphic condition. The field name refers to the surface area, although it may refer to both the surface and the underground productive formations.” And, if I may add that:

 

It denotes what is always referred to as an anomaly until oil is discovered when it is only then called “field,” regardless of the status of its development; whether being produced or delineated or semi-developed for production.

This, however, has not prevented the KRG from taking over the Khurmala dome, which is the third drilled producing dome of Kirkuk oil field or interpreting present fields to mean only the ones producing at the present time and act accordingly.

The first draft petroleum law was designed not only to accommodate full cooperation between the national government and the Regions and Governorates, but also with the full participation of the latter in exploration and development planning and execution. It was designed to ensure uniformity of plans and policy throughout the country. It provides prior consultation with the provinces. Decisions taken at the centre involves provincial participation. Supervision of oil and gas operations is shared between the Provinces and the Ministry. The decision-making process has checks and balances to enhance transparency and anti-corruption practices. The overall objective is to optimize oil and gas exploitation, maximize the return to the nation and unite the country.   

However, a leading KRG member declared in a conference that the KRG rejected the first draft and “threw it in the rubbish bin” on account of it being written by “Ba΄thists’ and ‘Chauvinists’; not a very helpful conciliatory attitude.  

Similarly, the last negotiated draft of June 2007 which gained Cabinet and Shura Council approval, was rejected by KRG on account of “unauthorized changes,” referring to changes that were basically linguistic in nature, and the inclusion of four Annexes. These annexes define 65 exploration blocks and allocate the present fields among the Ministry of Oil, INOC and the KRG. However, by not allocating all the present fields to INOC, this is in itself a compromise, according to the above legal interpretation of the articles.

Since then, the KRG has gone further to enact additional PSAs to a total of 20 contracts, of which 12 were signed in record time of one month or so, some in areas outside the KRG boundary, in violation to existing laws and regulations in force which give authority for contracts to the central Ministry of Oil. It is also in contradiction to the very articles of the draft law which the KRG had agreed to which include the absence of PSA as a model contract. In doing so, the KRG is assuming powers over a national asset of the Iraqi nation, whose only representative is the national parliament and its elected national government.

These agreements have been declared illegal by the Minister of Oil. At the same time, the KRG has alienated 12 Iraqi political parties whose voting power amounts to half the parliamentary total, as well as the bulk of Iraq’s oil technocrats and oil unions among others, who have announced their support for the position taken by the national oil minister. The KRG’s stated policy, however, is to reject changes to the draft Petroleum Law which were made following the Ministerial Negotiations Committee. That is to say, they reject the authority of the Cabinet, Shura Council and Iraqi national Parliament.