Iraq is an interesting place — often forgotten in the international oil discussion, it’s the second largest producing member in OPEC, and the third largest in the broader OPEC+ group, with production comfortably cresting above 4mb/d in 2H22. Iraq produces almost as much oil and liquids as Canada — around 4% of global supply. While they have certainly had their share of geopolitical struggles, and have failed multiple times to reach the ambitious goal of overtaking Saudi Arabia’s oil production figures — securing top spot as the world’s biggest oil producer (in the late 2000s, Iraq had the goal to produce 12mb/d, blandishing headlines eerily similar to today); Iraq has some serious potential to meaningfully add production over the coming decade. Since the 2003 invasion by the USA, political instability has been the headline — with little to no relief from deteriorating quality of life, increasing unemployment, bouts of hyperinflation, terrorism, and growing tensions in the north with the autonomous Kurdish government, an area in Iraq (and neighbouring countries) that holds up to 45 billion barrels of oil. This is part 1 in a series where I discuss the state of the industry in countries under conflict, embargo, or where data is otherwise hard to come by — Libya, Iran, Russia, Algeria, etc. — today we start with Iraq.
To understand Iraq’s oil production potential, you must understand the history, and dynamics of Kurdistan. The Kurdish people (Kurds) are an ethnic group living in the western parts of Iran, northern parts of Iraq and Syria, and the eastern part of Turkey, this area (shaded in orange below) is called Kurdistan, with majority of its self-identified inhabitants living in Iraq and Turkey. For decades, Kurdish nationalists have pushed for an independent Kurdistan, as early as Iraq’s independence from Britain in 1932 they have been fighting for autonomy. Tensions rose throughout the 60s when the Kurds (supplied by the Iranians) and the Iraqi government (funded by Baghdad) clashed, in a conflict that left over 10,000 dead, and lasted almost the entire decade. Between 1970 and the 2003 invasion, Erbil (the capital of Iraqi Kurdistan) and Baghdad (the capital of Iraq) fought numerous times in bids for the state’s autonomy. In 2005, Iraqi Kurdistan was recognized as an autonomous region by Baghdad, and gained its official independence in 2017.
Though, the contention of natural resource control has remained. The the nature of the basinal geography in the Middle East is such that the larger structure known as the “Gotnia Sub-Basin” straddles both Iraq and Iran — and the shape of Iraq means their massive oil deposits are bifurcated between the north (Kurdistan) and the south (Basra). Much to the chagrin of Baghdad, this means that the Kurdistan autonomous region sits atop ~30% of the nation’s oil reserves. This is what has been so vehemently contested — Erbil believes they should have autonomy over the export of their resource, while Baghdad continues to insist the state oil marketer (SOMO) should control the export of Kurdish oil, depositing the proceeds into a Kurdish state-held bank account at the Iraqi Central Bank.
In 2014, a lawsuit was brought to the International Court of Arbitration to decide who controlled the claim to export the oil produced in the (at the time, only autonomous) region of Kurdistan. Throughout this arbitration, Kurdistan continued to export ~350kb/d of crude through Turkey, to the port of Ceyhan on the Mediterranean Sea.
In March 2023 — the International Court of Arbitration ruled that Baghdad had control over the export of Kurdish oil, and flows through Turkey to Ceyhan stopped — they’ve been nil for a month now. Ankara was also ordered to pay a (net) ~$800m fine to Baghdad — the approximate proceeds they earned as a transit country for Kurdish crude between 2014 and 2018.
Below is a map that details Iraq’s current petroleum infrastructure. The major fields (Kirkuk in the north, and Rumaila in the south) are under control of Baghdad (though Kirkuk is in mostly Kurdish territory, it was seized by the Kurds in 2014, and returned in 2017 following the Kurdish independence referendum). To the west, Iraq currently trucks oil to Jordan, though in the mid-1900s had a pipeline through Jordan to the Israeli port of Haifa. There is currently a proposed pipeline project which would bring Iraqi oil to the port of Aqaba in Jordan, giving Iraqi crude a direct route east through the Red Sea, or west through the Suez and into the mediterranean.
Now defunct, Iraq also had a pipeline running east through Syria, to the port of Baniyas, which was damaged beyond repair during the 2003 invasion. Since then, Syria and Iraq have attempted to construct a new twinned pipeline to Baniyas, along with a new natural gas pipeline that would connect Iran, and Iraq with Europe, through the Aegean states.
The main export line from the north leaves Iraqi Kurdistan through the Duhok province, into Turkey, and reaches water through Ceyhan. The ruling that Iraqi Kurdistan cannot control their own exports, severely undermines the region’s independence, as without revenues from oil, their economy is critically stunted. As of now, no arrangement with SOMO has been made, and Iraqi Kurdistan is not receiving oil revenue. Erbil has agreed to negotiate with Baghdad, but no agreement has been reached a month later. On April 24th, Reuters reported that ‘Iraq’s northern oil exports show few signs of restarting after stoppage’. On April 4th, a week after the initial stoppage, Erbil and Baghdad had reportedly reached a deal to restart exports, though exports have not resumed as they “work to iron out several aspects of the deal”. The arbitration that came in March only covered the period between 2014 and 2018 — Turkey wants to reach a settlement for oil exported between 2018 and 2023, but Baghdad has apparently been apprehensive. Approximately 3,000kbbl of tanker capacity has sat moored in the port of Ceyhan — waiting for flows to resume.
That’s generally what you need to know about the Kurdistan situation. They gained independence, marketed their own oil, an international court found that in violation of the original export agreement with Turkey, so now Erbil has to appeal to Baghdad and work out a deal to get their oil to market. This is not an ideal situation for Kurdistan who has recently gained their independence, as it routes their primary source of government funding through Baghdad — but if they want to continue to operate their government, it’s imperative they resume exports. The dynamic between Erbil and Baghdad is certainly changed, but this is a highly tame (and frankly one of the least bad things that has happened over the past few decades) impasse, and something that will likely be resolved. Baghdad has shown their willingness to ‘play ball’ with Kurdistan in the recent iteration of the nation’s budget — but more on that soon.
So, back to the buy-in-large state of Iraq’s oil industry — in 2023, Iraq should produce around 4mb/d, in accordance with their OPEC+ agreed-upon quota. They have brushed up on 5mb/d before (in 2019), and around 700kb/d of spare capacity post-cut, with 500kb/d of true capacity (able to be sustained for many months).
Relative to reserves though, Iraq is absolutely stacked with resource, at current production forecasts, their total 2PCX reserve life (proved, probable, contingent, and estimated) is ~70 years, which rivals Venezuela, Saudi Arabia, and the UAE. There is absolutely no shortage of oil in Iraq, and Iraq’s vast reserves are low-cost, relatively predictable conventional reservoirs, allowing for easy access with no need for fracking such as shale basins in the US.
Though, the history of field abuse by Iraq has presented a hurdle to seriously becoming the global oil superpower they had once hoped to be. As of today, they sit with 62 rotary rigs, according to Baker Hughes — they are a dozen short from their 2019 high, and two dozen short from their 2012 era high, though relative to total OPEC rigs, they have passed their 2018/19 high, and are spitting distance to the 2014 peak. The government has signalled their intentions to continue to grow production, with the new oil minister of the country aiming for 7mb/d of capacity in 2027.
The thing about Iraq, currently, is they can’t export any potential growth, they are volume constrained in the south (through Basra, by sea), and in the north (through Kurdistan, to Turkey) — not to mention the non-mandatory OPEC production quota they agreed to in April, but that isn’t stopping them from growing capacity, which is the key here. In a 2024/25 market that is likely to be cleared through OPEC spare capacity, it’s as good as production in my view, and while immediate spot prices may see volatility, spare capacity anchors the back ends of the curve, which is what really drives an E&Ps valuation (recall the discussion on curve shapes). While Iraq continues to add rigs, looking historically, any production that wasn’t immediately counted, was added to spare capacity. When Iraq is growing at 40% a year, they are also drawing down spare capacity. Today, we sit with ~60 rigs, which would imply a ~10%/yr growth rate (+500kb/d) — if that doesn’t make it to production (it won’t), it will manifest as spare capacity in the coming years.
Iraq has been getting busy indeed — from the Weatherford 3Q22 conference call, CEO Girish Saligram had said “we see over the next two to three years a tremendous amount of investment and it's in Saudi Arabia. It's in the UAE. It's in Oman. It's in Kuwait. It's in Qatar. It's in Iraq. So every country – and we are tremendously excited about the amount of investment that's going on there, the commitment of not just the national oil companies, but all the affiliated IOCs and their partners into it” (recall that Weatherford sold a chunk of their Iraq rigs to ADES International who now operates those rigs throughout the Gulf region). Along with Weatherford and ADES, a handful of international operators, and a few dozen local and Persian Gulf focused services companies are currently operating in Iraq. There is no shortage of rigs (though only a few which are effectively hot stacked in the region), and even the ambitious 300 well/yr goal by 2024 should be comfortably accommodated by regional providers. Like the US, labour is still a concern though the nature of the Gulf state economies, foreign labour practices, migration, and GDP makeups make it less of an issue. Gulf state government revenue is up to 70% oil based, while GDP is 30-40% oil based — compared to the US with both categories representing <10% of GDP and revenue. Western economies are significantly more diversified, allowing people to move between jobs/industry with relative ease — the same is not the story in Iraq or Iran where the unemployment/labour force makeup is much different. Skilled labour can generally not move regions or jobs, and unemployment is structurally high across all sectors. Not to say that they don’t have a labour issue in the Middle East, but it’s (logically and anecdotally) less of an issue.
Higher activity levels also mean rig contracts are renewed, extended, and added. KCA Deutag has extended or added a half dozen new rig contracts in the Middle East during 4Q22, with momentum likely to stick. With rigs being added, at 62 rigs (now) and 70 at EOYe — we’re looking at 10-20% total capacity growth per year, for the foreseeable future (just going off rig count, not holistically). The capacity growth, I would argue, is more important that production growth, as it’s what dictates the shape and movement of the strip.
Then, there’s China — there’s always something to do with China. In 2013 China announced their ‘One Belt One Road’ (OBOR) initiative, wherein they intended to invest five trillion dollars in countries across every populated continent. The project, lasting through to the PRC’s centennial celebration in 2049, intends to establish (and in some cases reestablish) economic corridors across Eurasia and Africa, with billions being spent on land and ocean infrastructure over the past decade, and trillions to come. Below depicts the current state of the Eurasia focused OBOR programme. Similar to the Silk Road of old, the OBOR initiative pushes to link China to Europe through the Central Asia, onto Iran, Iraq, Turkey, and up through the Balkans, to Moscow. Both Baghdad and Basra (two of the major petroleum focused areas of Iraq) have been targeted as majors stops along the OBOR route, one by land, and one by sea.
Since the implementation of the OBOR initiative, the balance of Chinese petroleum imports has also shifted — with China concentrating their African purchases from Angola, South American from Brazil, and increasing their import presence in the Middle East, with the UAE, and Kuwait both joining the ‘major supplier’ club in 2021 (compared to 2015). The Persian Gulf now accounts for ~50% of China’s total crude imports
While Iran and Venezuela are both not shown as major providers (as most imports are unofficial or not easily tracked), it’s important to note that Venezuela ships its crude through Malaysia, so while it is not considered currently as a major Chinese supplier, it is understood that Merey and Mesa crude is routed from Venezuela, through Malaysia, rebranded as Singma or Mal blends, then shipped onto whomever the ultimate buyer may be. From Iran, China was pegged as unofficially importing as much as 850kb/d in 1Q21, while official imports were reported as <100kb/d. In 2023, China will likely source ~80% of their total crude imports from just Russia, Kazakhstan, and the Persian Gulf, compared to ~60% from those countries in 2019, and ~65% in 2015 (the baseline for the map below).
Unsurprisingly, the countries which China has concentrated their oil imports from, have been major recipients of foreign investment from the People’s Republic. Both to the excitement, and vexation of spectators. While it has been estimated that the OBOR plan could add $7tn yearly to GDP by 2040, China has also been long accused of using ‘debt-trap diplomacy’ in a scheme where they seek to finance countries that may not otherwise be able to obtain debt, only to assert leverage in the future when the borrowers begin to default, or struggle with payments.
The main issue with the ‘debt-trap diplomacy’ thesis, is there isn’t really any trap. China issued these loans outside of the Paris Club (an international standard that is essentially a debt collector/counsellor for struggling sovereign nations), bilaterally with the borrowing nation, oftentimes competing with support offered by the IMF. Short of a military happening, there is no recourse to force payment for the debt, besides garnishing cashflow from the projects — which are mostly non-cashflowing infrastructure assets to begin with. While the OBOR certainly has the goal of bringing strategic benefit to China (economic influence, access to resources, soft power, etc.), a ‘debt-trap’ scheme would be a misclassification — it’s more of an ultra-nationalist, fairly open experiment to consolidate resources and expand their quasi-collectivist leadership throughout Asia. It’s important that the PRC (and the CCP) continue to proliferate a stance of unity throughout the continent, for their own survival (they lack natural resources, though have amassed serious human capital).
From the quashing of the Tibet separatists, to Muslim camps to fight the Turkestan Islamic Movement, to the swift reflexive implementation of national security legislation after Hong Kong’s failure to abide by Article 23 — the CCP has relied on fervid nationalism (and frankly, public anxiety) to maintain both economic utility, and collective unity. This mentality is being spread through Central Asia using the OBOR as a vehicle in a bid to drum up access to resources. Iraq is resource rich, and primed for some sweet Chinese intervention, and, no surprise, in 2021 Iraq received $10.5bn of infrastructure investment from Beijing, one of the largest beneficiaries of the past few years. The chart below shows the ramp of China’s foreign investment in Gulf states, and the relative stagnation of investment in non-resource-rich states.