Iraq’s recent efforts to rebuild its economy, by opening up its nationalized oil and gas sector to foreign companies, are attracting much global attention—no surprise since its proven reserves are among the world’s largest, and it has further unexplored potential. Global oil majors want a share of the Iraq hydrocarbon pie—the nation looms large on the energy security agenda of various countries, including China and Russia, apart from the US. For an India that has lagged behind others in efforts to widen its energy source base, Iraq offers the scope for converting adversity into opportunity—the political risk for the western oil majors would be higher, while India can manage that risk better with strategic oil diplomacy based on a deeper understanding of the country’s internal dynamics.
This entails engagement with the local and regional governments in Iraq, not just its central government whose representatives recently visited India to woo investment in their country. At the heart of the issue lies a crucial and currently controversial bit of legislation—the hydrocarbon framework (oil and gas law) awaiting the Iraqi Parliament’s approval. This will determine how the various regions will negotiate contracts with foreign investors and how revenues will be shared by the country’s factions—the main ones being the Shiite Arab, Sunni Arab and Kurdish political blocs. So, while dealing with Iraqi oil minister Hussein al-Shahristani as seen during his visit to India last week is the right thing to do, India needs to go a step further and build relationships with local and regional governments, gain their trust and thus manage its political risks.
Consider the backdrop: While the Sunnis and most Shiites in government want strong central control of the oil and the revenues, the Kurdistan regional government (KRG) wants maximum regional control. The Kurds insist on attracting foreign investors by using risk-reward terms based on market principles—which means offering higher returns through production sharing agreements (PSAs). The draft law agreed upon in February allowed for that as well as exploration service contracts. But, after much opposition to PSAs with foreign investors from other quarters including oil unions, Shahristani is quoted to have said a day after he left India that the modified draft did not mention PSAs.
As of now, it is not clear if PSAs would be allowed though the law is expected to be finalized in two months. Nonetheless, it’s time to develop alternate strategies. PSAs are oil equity deals in which the investing company, can sell enough of the oil initially extracted to recover its costs, and then share the rest with the government on terms agreed in a bidding process. For an investor, these deals provide not only supply security, but also price security, unlike in a service contract. But western companies may still see high political and operational risk here (geological risk is low as prospectivity of strikes is relatively high). But Indian bids could be more aggressive—offering a larger share than competing bidders—provided it reduces its political risks by building trust locally. This approach netted us a block in Sudan a few years ago, after Canadian firm Talisman exited on account of higher risk expectations due to the ongoing civil war.
But, if oil equity is not allowed—as in many of Iraq’s oil-rich neighbours which want to retain control on their assets—service contracts will be on offer. These entail a fee for exploring and extracting the oil and buying the produce at market price. India recently struck gas in Iran’s Farsi block, where it had entered on such terms. These do not assure price security unlike oil equity deals. But securing more supply sources is important to provide for any eventuality of global market disruptions. Here, it will be good to engage further with Iraq and negotiate hard for first rights for buying the oil supplies.
Either ways, it will pay to be forward-looking and support domestic oil companies’ bids with strategic diplomacy.
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