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Oil and One-Upmanship: The Iran-Iraq Rivalry

by THOMAS STROUSE in Washington, D.C.

01 Nov 2010 20:53No Comments
the-opec-logo-in-vienna-austria.jpgVying reserve figures may point to future clashes over production.

[ business ] Although friendly in tone, a public duel in early October over revised oil reserve estimates could point to the reemergence of a tense rivalry between Iraq and Iran over their relative positions among the region's key oil producers and within the regional balance of power.

On October 4, Iraqi Oil Minister Hussein Shahristani announced that his country's estimated oil reserves had risen from 115 billion barrels to 143.1 billion barrels. This increase pushed Iraq just ahead of Iran as holder of the second largest conventional crude oil reserves in the world after Saudi Arabia. On October 11, one week later, Iranian Oil Minister Massoud Mirkazemi announced an increase in his country's reserves from 138 billion barrels to 150.31 billion barrels, putting Iran back ahead of Iraq.

When asked by reporters about the Iranian announcement, Shahristani said, "My reaction to Iran is to congratulate them. As for Iraq's figures, these have been very carefully estimated, not only by our own reserves department in the Ministry of Oil, but also by the oil companies that have signed contracts with us. These figures are actually quite conservative."

Iraq officially notified OPEC of its revision but Iran has announced that it will do so later in the year. Both ministers said that they expect additional increases in the future, possibly by the end of 2010.

Iran's announced revision came three days prior to the OPEC ministerial meeting in Vienna on October 14. At the meeting, Iran was elected the group's president for 2011.

Upon his return to Tehran two days later, Mirkazemi told reporters that the decision to name Iran as OPEC president for the first time in 36 years indicates his country's dignity and might. He added that positive developments within Iran's Oil Ministry and among international circles, as well as Iran's ability to become self-sufficient in gasoline production, were among the main reasons it was voted into the leadership position.

In 2007, OPEC adopted an alphabetical rotation system for the organization's one-year presidency. Algeria was elected to the presidency in 2008, followed by Angola in 2009 and Ecuador in 2010. Iran was thus "elected" to the presidency for 2011, after last holding the post in 1975 when Jamshid Amouzegar was OPEC president. Saudi Arabia, the de facto leader of the organization, last held the presidency in 1972.

Although the presidency post comes with few real powers, it will give Iran a louder voice in global oil affairs, potentially adding a politicized dimension to next year's OPEC pronouncements. The president plays a significant role in setting the tone prior to and during the group's meetings.

With Iran elected to hold the presidency in 2011, based on the current rotation system, Iraq is due to hold the post in 2012. After signing a number of large development contracts with international oil companies in 2009, Iraq gained renewed confidence in its ability not only to dramatically increase its oil production, but also to rival OPEC's two leading producers, Saudi Arabia and Iran. Although outside of the OPEC production quota system since 1990, Iraqi production is presently on a par with Kuwait, the United Arab Emirates, and Venezuela. According to OPEC's most recent Monthly Oil Market Report, during the month of September, Iraq produced around 2.42 million barrels per day (b/d), Iran produced 3.65 million b/d, and Saudi Arabia produced 8.2 million b/d.

Iraq has set an ambitious goal of increasing its productive capacity to 12 million b/d by 2017, far exceeding Iran's own stated ambitions. Some analysts project that Iraq could produce as much as 5 million b/d by 2017, which is an average annual incremental increase of around 350,000 b/d. If realized, this would put Iraq ahead of Iran as OPEC's second largest producer in a matter of a few years. Iran has historically been OPEC's second largest producer, although significantly behind Saudi Arabia in recent years. If history is any guide, Iran will not want to easily relinquish this position. Baghdad and Tehran's revised oil reserve estimates earlier this month was a reminder of the intense and often bitter battles fought within OPEC over production parity between the two countries in the 1980s.

The mutually destructive war in which Iraq and Iran engaged from September 1980 until August 1988 led to a fragmentation of OPEC along political lines, undermining the organization's ability to cooperate and maintain stability in world oil markets. Specifically, Iran and Saudi Arabia repeatedly clashed over oil policies -- in effect, a power struggle over the leadership of the organization. Each was seen as the linchpin of opposing blocs within OPEC that shared like-minded foreign policies and similar approaches to oil-pricing policies. Iran accused Saudi Arabia of boosting its own production to drive down prices, in an effort to deprive Iran of revenues essential to its war effort against Iraq. Saudi Arabia, Kuwait, and the UAE financially supported Iraq during the war, helping Baghdad compensate for lost oil revenues.

In the war's early phases, Iranian oil exports were greatly reduced and Iraq's were halted almost entirely. The closing of Iraq's oil loading platforms in the Persian Gulf were not matched by a comparative shutdown in Iranian production, which initially was less vulnerable to Iraqi air attacks. According to industry figures, Iraqi production averaged 1.4 million b/d from 1981 to 1987, taking until the later years of the war to begin reviving output. During the same period, Iran produced an average of 2.1 million b/d, despite frequent Iraqi air attacks on its tankers and oil facilities in the Persian Gulf.

Iraq began demanding production parity with Iran in 1986, just as Iraqi production began picking up. Iran adamantly refused, arguing in part that its population, three times larger than Iraq's, entitled it to a larger production quota. Iraq argued that with its dire need for cash and with larger estimated crude oil reserves than Iran at the time -- reported to be 100 billion barrels compared to Iran's 92 billion -- it should be permitted an equal quota. It rejected the quota it was ultimately granted -- 1.5 million b/d -- as too low, and shortly thereafter withdrew from OPEC's production control system.

By the time the war ended in August 1988, the dispute over oil quotas and production parity had escalated into one of the most divisive matters to ever confront OPEC. Discipline within the organization was breaking down and it risked a major price collapse. Not long after the ceasefire went into effect, Iraq began shipping oil from its ports in the Persian Gulf -- which it had been unable to do throughout the war -- symbolizing the victory that it claimed. As a result, Iraq quickly increased output to 2.7 million b/d, slightly above Iran's production. Emboldened by its supposed victory, receiving backing from other key producers in the Persian Gulf, and with its production capacity on the rise, Iraq refused to accept an OPEC quota that was a single barrel less than Iran's.

Iraqi oil officials would often make a point to say that the final barrel was the most important of all, for that is the "political barrel." For its part, Iran believed that it had the right to remain OPEC's second largest producer, refusing to sign any agreement that would reduce its market share, and secondly, give it an equal production share as Iraq. Iran's position, articulated by then Oil Minister Gholam Reza Aghazadeh, was that for every extra barrel increase given to Iraq in any new agreement, Iran would produce two extra barrels. Throughout the 1970s, Iran produced about twice as much as Iraq. Prior to the 1979 Islamic Revolution, Iran produced between 5 and 6 million b/d, although it has never again reached this level of output. During the same period, Iraq was producing between 2 and 3 million b/d.

During the latter part of the Iran-Iraq War, Iran's oil policy, despite requiring final approval from Tehran, was being spearheaded by Aghazadeh, who became Iran's oil minister in 1985 at the age of 36 and held the post until 1997. He quickly took on a leading role within OPEC, despite being the youngest and newest member. At various points during the negotiations, Aghazadeh said that he would prefer to resign or even have prices crash below $12 per barrel than accept the humiliation of agreeing to parity with Iraq.

After a stalemate lasting more than three months, an agreement was finally reached during a late-night breakthrough in November 1988. A compromise was reached after Aghazadeh's peers in OPEC made it clear to him that he would be to blame for a price collapse, which seemed inevitable if the organization was unable to reach a new agreement on production quotas. Iran eventually capitulated to Iraq's demand for production parity and both were assigned a quota of 2.64 million b/d for 1989. The other 11 members agreed to forfeit a portion of their relative percentage of total OPEC production to make up for Iraq's newly increased share. At the same time, Iran was able to maintain its desired 14.27 percent share by gaining an increase from its previous quota of 2.37 million b/d, largely as a result of Aghazadeh's tough negotiating stance.

In the end, despite its combative and ideologically driven foreign policy, Iran exhibited a sense of pragmatism in its oil policy by agreeing to parity with Iraq, although at the time it was seen as a postwar concession. The production accord agreed upon in November 1988 was taken seriously enough by OPEC members throughout 1989 that after a number of difficult years for producers, a period of steady price recovery appeared to be under way.

Parity between Iraq and Iran did not last long, however, because Iraq invaded Kuwait less than two years later. While Iran has been able to consistently maintain production above 3 million b/d from 1990 until today, it has obviously been a different story for Iraq. Following its invasion of Kuwait and the aftermath, Iraq was unable to export any oil until the oil-for-food deal was reached with the United Nations in late 1996. Despite reaching output above 2.5 million b/d prior to the U.S. invasion of Iraq in 2003, Iraq continues to be exempt from OPEC's quota system. Nevertheless, with significant increases in Iraqi production expected in the future, it is only a matter of time before OPEC is forced to take up the issue of Iraq's reentrance into the organization's quota system. Shahristani is on the record as saying that it is not even necessary to begin discussing a quota for Iraq until it reaches 4 million b/d, which he expects to occur in two to three years. On this issue, the positions of the leading members of OPEC, including Iran and Saudi Arabia, appear to be fluid and subject to change depending on a number of factors.

Among the key factors that will influence the intensity and transparency of a potential rivalry between Iraq and Iran include the trajectory of regional political dynamics, the political orientation of future governments in Baghdad and Tehran, and how successful both countries are in managing the development of their oil sectors in the coming years.

It is possible that Iraq will take over OPEC's presidency at a time when its reentry into the quota system may be in order. Baghdad and Tehran's recent dueling claims of increased reserves will have little bearing on their future oil quotas, but if Iraqi production were to exceed parity with Iran that would likely elicit a strong response from Tehran. The Iranian government views parity as one of the major concessions it had to make following the end of its war with Iraq. Iraq's revised estimate earlier this month was largely a political statement directed toward potential foreign investors, but also toward Iran and Saudi Arabia. Iran's revision one week later was intended to send a message to Iraq that it will not easily give up its coveted position within OPEC. Of course though, Baghdad and Tehran have a much better relationship today than they did during the reign of Saddam Hussein and the ultimate low point of the Iran-Iraq War.

If Iraq's government continues to maintain its close relations with Tehran, it is likely that an intense, public rivalry can be more easily averted. However, if Iraq begins to lean closer to its Arab neighbors, particularly Saudi Arabia, then it is more likely that the rivalry between Iraq and Iran's oil policies will come into the open. Additionally, Saudi Arabia may be more flexible with unilateral Iraqi decisions on oil production if Baghdad and Riyadh have closer ties than they do today.

The debate over Iraq's position within OPEC will also hinge on the rate by which the country increases production and the rate by which Iranian production may decline over the next several years. Expected declines in Iranian production are due in part to the impact of international sanctions and its well-established reputation as a difficult negotiating partner with potential foreign investors. Furthermore, the two countries are pursuing different overall oil strategies which are reflective of the current realities of their respective oil sectors. Iraq's strategy is to expand output in order to increase revenues, while Iran's strategy is to maximize revenues through higher oil prices, considering its inability to increase output. The status of Iraq's security situation and the management of its oil sector will have a significant impact on its ability to even come close to meeting its future production goals. But with the help of considerable foreign investment, Iraq will at least have a chance at providing itself with something that it has not seen in recent history -- the opportunity to become one of the world's largest oil producers, competing with Iran and Saudi Arabia on oil and other regional matters.

Thomas Strouse, an analyst at Foreign Reports, covers the oil industry for Tehran Bureau.

Copyright © 2010 Tehran Bureau

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