The Power and the Money

Occidental, Iraq, France, Britain, travel, my wife (♥) and whatever else

 The short answer to Bernard's question about Oxy is that they bid too high. They were the minority partner in a field with Eni, Sonangol, CNOOC and Kogas ... and they lost.

The rest of the final post in the Iraqi oil series is going to be held up for a bit. The reason is left for an exercise by the reader, but it is a good one. The worst case scenario is that you will see it here fast.

This month begins a horrendous travel month during which I will go from Boston to Los Angeles to New York to Tulsa to Shamrock TX to Burlington to New York to Miami to Atlanta to home and my wife!!! (Who will be visiting me in both New York stops, thank the Lord.) France was much more fun. Oddly enough, I'm really only looking forward to the Tulsa-Shamrock bit of the trip, although I will enjoy smoking cigars in New York and Miami with my hermanos if I get the chance.

As someone who has a great affinity, even a love, for both Britain and France (maybe it's a color-combo thing, or a losing land wars in Asia thing, or some else ... thing) I present you with the following:

The Daily Show With Jon Stewart	Mon - Thurs 11p / 10c
Sarkozy Visits the U.S.
www.thedailyshow.com
Daily Show Full Episodes Political Humor Health Care Reform

I eagerly await the Ranter's informed commentary.

The new Iraqi oil contracts

 LT asks, “What is your professional-grade suggestion for aligning the interests of oil ministry and oil drillers?”

Have the Oil Ministry pay the oil companies’ development costs. That way, the per-barrel fee turns into a true service fee, and the IOCs really are reduced the status of service companies. Which is exactly what the Iraqi government did in November, in the wake of failed auctions. (Perhaps they had a ringer from my old high school sitting in the HBS class? Omar? No, he was in the nuclear power class. Carlo!!)

Under the new terms, ExxonMobil and Shell retroactively agreed to the Iraqi government’s insistence on a fee of only $1.90. After all, if the government is going to subsidize most of their capex, then they can make money even at such a low fee. They signed a contract in November. In February, the Oil Ministry arranged auctions for a second group of fields.

Unsurprisingly, the next round was far more successful than the first:

Field	Consortium	Percent	Fee per barrel	Target, mbbd	Bond	Annual revenue, $m
West Qurna 1	ExxonMobil	80%	$1.90	2.33	$400	$1,197
	Shell	20%
Majnoon	Shell	60%	$1.39	1.80	$150	$878
	Petronas	40%
Halfaya	CNPC	50%	$1.40	0.54	$150	$238
	Petronas	25%
	Total	25%
Qaiyarah	Sonangol		$5.00	0.12	$100	$411
West Qurna 2	Lukoil	85%	$1.15	1.80	$150	$706
	Statoil	15%
Garraf	Petronas	60%	$1.49	0.23	$100	$106
	Japex	40%
Badra	Gazprom	40%	$5.50	0.17	$100	$340
	Kogas	30%
	Petronas	20%
	TPAO	10%
Najmah	Sonangol		$8.50	0.11	$100	$279
Rumalia	BP	67%	$2.00	2.85	$500	$804
	CNPC	33%

The Rumaila field at the bottom is actually the successful contract from Round 1. I put it in for completeness. The “bond” is actually the “recoverable signature bonus,” in millions of dollars.

A few things stand out about the second round. First, no American companies made it. ExxonMobil got its foot in back in November, but that was technically during the first round. In fact, only one American company even bothered to bid, despite the phenominally good new terms. The other bidders were:  B.P. (U.K.), CNOOC (China), CNPC (China), Edison (Italy ... although really France), Eni (Italy), Gazprom (Russia), Japex (Japan), KazMunaiGas (Kazakhstan), Kogas (Korea), Lukoil (Russia), Occidental (U.S.), Pertamina (Indonesia), Petronas (Malaysia), PetroVietnam (fairly obvious), Oil India (again, fairly obvious), ONGC (India), Shell (U.K.), Sonangol (Angola), Statoil (Norway), Total (France), and TPAO (Turkey).

Second, most of the bidders were state-owned, among them CNOOC, CNPC, Edison (indirectly, by France rather than Italy, via EDF), Eni (the Italian government owns a controlling stake), Gazprom, Japex (the Japanese government owns a third), KazMunaiGas, Kogas (owned by the Korean government), Pertamina, Petronas, PetroVietnam, Oil India, ONGC, Sonangol, Statoil, and TPAO.

Third ... Sonangol? In both fields, the company bid more than the Iraqi government would allow, and decided to agree to a lower price. But still. It is a good company, but this is going to be a reach. Qaiyarah (in Nineveh province, up near Kirkuk) has been in operation since 1936, but produces very heavy oil and poses a lot of technical difficulties. Najmah is a little easier, but not by a lot. And both are in a very politically fraught area.

(The fourth thing that seems to stand out is not really surprising, which is the presence of ostensible gas companies. Gazprom has an oil subsidiary, Gazprom Neft, which will be the operator on the Badra field; Kogas is just a financial partner. The field, by the way, spans the Iranian border.)

If successful, Iraq’s output will rise from 2.4 million bpd (figures vary) to 10.5 million bpd by 2015. That’s a lotta oil, considering as world production was only 84.4 mbpd in the third quarter of 2009, up from ... well, down from 84.5 mbpd in 2005.

Thoughts?

Why aren’t all oil contracts service contracts? Evidence from Iraq

 When I first started to study oil contracts in a serious way, something puzzled me. Why weren’t all oil contracts service contracts? That is, why didn’t countries simply hire oil companies to extract their oil at a fixed fee per barrel? After all, that’s what many oil contracts turned into after the fact. Consider Venezuela: Chávez’s “nationalizations” basically had the effect of keeping the oil companies’ revenues per barrel around a flat $11. Or consider Chad, where the World Bank and major oil producers acquiesced in the Chadian government’s demands for more revenue as oil prices spiked above all expectations. (They didn’t have to: the government’s oil revenues were deposited with the World Bank, E.U. troops protected the facilities, and President Déby relied upon French military support to stay in power. But why not? It avoided all sorts of trouble.) Ecuador temporarily raised its windfall profits tax to 99% of all revenues when oil rose above the price at which the contracts had been signed, but implementation has been spotty. (Hm. Bernard may have been right about Mr. Correa, although the jury is still out.)

	Oil revenue		Payments to Chad
	Actual	Original	Actual	Original
2003	$234	$0	$45	$0
2004	$2,063	$600	$166	$31
2005	$3,138	$1,186	$300	$80
2006	$3,444	$1,197	$774	$88
2007	$3,600	$1,210	$1,220	$96
2008	$5,040	$1,216	$1,564	$1,000
Cumulative	$17,519	$5,409	$4,069	$1,295

Source: Ben Esty, World Bank.

The answer to the puzzle is simple: exploration risk. Lots of fields turn out to be much harder to work than anticipated. Similarly, exploring for oil is a very costly undertaking these days — in general, if the oil were easy to find, somebody would already be extracting it.

And that is exactly what Oil Minister Al-Shahristani realized made Iraq unique: the exploration risk was minimal. The fields had all been explored back in the 1970s. If it hadn’t been for the Iran-Iraq and First Gulf War, they would have been developed and on-line a long time ago. So why not auction off service contracts to the fields? Competing consortia were allowed to bid on how much they would increase production from the fields. They were also allowed to bid on the per barrel fee they would receive above a minimum level fixed by the Iraqi government. The winners would have to post a bond which they would lose if they didn’t invest a specific amount within a certain amount of time.

So how did it go? Not too well in the first round. There were few bidders—most fields were uncontested, in fact—and all the consortiums posted per-barrel fees that the Iraqi oil ministry considered too high. Lifting costs in Abu Dhabi are about $1.50 a barrel, and Baghdad considered $2.00 a reasonable maximum for most fields. The only bid to be accepted came from a consortium of British Petroleum (which isn’t called that anymore, but hey) and the China National Petroleum Company. The two bid $3.99 per barrel on the Rumaila field, but accepted the government’s insistence on $2. They also put up a bond (called, perplexingly, a “recoverable signature bonus”) of $500 million, and pledged to take production up from the current 1.02 million barrels per day to 2.85 million … although they would only earn a fee for production over 1.75 million bpd. The lowest bids on the other fields were rejected.

If that doesn’t sound like a good deal, that’s probably because it wasn’t. There were real questions as to whether BP-CNPC would exercise the option that it had (in effect) purchased for $500 million. Would it? Should it? What was BP thinking? Had Shahristani gotten a deal that really was too good to be true?

Many questions. Thoughts? More questions? Anyone? What about you, LT?

Obedezco pero no cumplo, o al revés

 The oil industry under direct and indirect American rule has an interesting history. It starts out paralleling the old Spanish Empire, and then reverses itself.

 
The Future of Iraq Project, the report by the liberal goo-goo State Department about how the U.S. should run its new satrapy had some pretty radical things to say about the future of the Iraqi oil industry. “There has been a massive trend to privatization or at least de-monopolization of national oil companies throughout the world and we are unaware of a single instance of re-nationalization or re-monopolization of a national oil company.”

That would have surprised Hugo Chávez, who was in the middle of remonopolizing the Venezuelan oil industry, but State used the above stylized fact as the basis for proposing that the industry be privatized.

They came up with three options. The first was straight privatization. Split the Oil Ministry into three or four corporate entities, sell up to 30% of ‘em, then give them and the international oil companies (IOCs) a straight shot at the oil. The second was the same, but keep the three or four resulting companies in the hands of the Iraqi state. The preferred third option, was to do things post-Soviet style, because it had worked so well the first time around. “IOC participation might be induced through their participation in private Iraqi oil companies that are themselves widely-held by the Iraqi public, through the issuance of vouchers to all Iraqi citizens. The citizens are then free to ... sell them.”

The Coalition Provisional Authority appointed Phillip Carroll ( formerly of Royal-Dutch Shell) to head the oil ministry. Carroll was the man in charge of Iraqi oil, he ran the ministry and he represented Iraq at OPEC meetings. He also refused to privatize Iraqi oil assets. The Bush Administration replaced Carroll with Robert McKee (R-ConocoPhillips) ... who issued a report calling for the retention of Iraqi control over a national oil company and self-financing of petroleum reconstruction. This led to a food fight within the CPA ... until Dick Cheney, of all people, intervened to prevent privatization. After all, the IOCs were used to doing business with national oil companies (NOCs), and nobody wanted to set up an institutional environment in Iraq that local governments would immediately start doing their damndest to reverse. Obedezco, pero no cumplo. 

McKee’s report was optimistic about the future of the Iraqi industry. “At oil prices of $25/bbl [barrel], about $12 billion will be available annually as the government’s share of oil revenues, after subtracting the real costs of sustaining oil production at 2.5 mmbd [million barrels a day], and after accounting for domestic consumption. Industry analysts believe that restoring pro-duction to 3-3.5 mmbd over 2 years will require about $5 billion in new investment. Financing such expansion out of current cash flow will take about $2.5 billion annually over 2 years, or about 21% of the government’s share of oil revenues. A more ambitious program, one aimed at reaching production in the 5.5-6 mmbd range is projected to cost about $20-30 billion over 5 years, or $4-6 billion annually. Iraq could afford this as well, though the initial proportion of the government’s annual share of revenues could be as high as 50%. However, during periods of unfavorable crude oil prices, say $18/bbl, an ambitious expansion plan could require as much as 85% of the government’s take.”

Needless to say, the Iraqi industry was not privatized. Problem was, the Iraqi parliament that took over legislative authority from the CPA — I know, in theory the CPA had no legislative authority, but whatever — couldn’t come up with a new oil law. In 2007, Baghdad and the Kurdistan Regional Government came up with a draft revenue-sharing law, but it wasn’t ratified. The Kurdish government was not willing to wait, so it started to issue its own exploration licenses. It stuck to the draft revenue-sharing agreement. In case of commercial discovery, the foreign investor would receive 15%, while the remaining 85% would be paid to Iraqi accounts. The KRG would keep 17% of the Iraqi revenue, and the central government would get the remaining 83%. In addition,the KRG reserved the right to demand equity participation in any oil projects up to 25%. All without any sort of federal authorization. No obedezco, pero cumplo.
 
And so, the Kurdish government started to sign production sharing agreements. Which infuriated Baghdad. Washington, worried about anything that could spark Arab-Kurdish tensions, discouraged American companies from prospecting in Kurdistan. They didn’t completely succeed: Hawler Energy, Hunt, Texas Keystone, HKN Energy, and General Exploration Partners all jumped in. But they mostly succeeded, and Americans mostly stayed out.

Of course, it was all new exploration in Kurdistan. Risky, tough, expensive, huge downside risk for the companies. The real prize was the oil down in the south, where all the really hard exploration work had already been done. But that brings us back to the problem that the Iraqi parliament could neither organize its own oil company to manage the needed investment nor come up with a framework to allow foreign companies to manage it for them. With an insurgency on and the Iraqi oil ministry working the good fields, wildcatting was not going to happen, but neither was any growth. 

So in July 2008, with the Iraqi insurgency winding down (sort of) and the American election coming up, Oil Minister Hussein al-Shahristani basically said to hell with it. If the Iraqi parliament couldn’t come up with a plan, he would come up with one on his own.  No hay que obedecer, pero cumplo.

Thoughts?

Who won Gulf War 2?

 Some say it was China.

T. Boone Pickens to Congress : “They’re opening them (oil fields) up to other companies all over the world ... We’re entitled to it. Heck, we even lost 5,000 of our people, 65,000 injured and a trillion, five hundred billion dollars. We leave there with the Chinese getting the oil!”

Wait … wasn’t the war about nuclear weapons in the hands of a dangerous regime? I won’t deny that’s true. It might even have been what President George Bush had in mind.

One thing that I can say, however, is that when the 369th Corps Support Battalion (aka the Harlem Hellfighters) was preparing to go to war back in 2002, one sergeant liked to motivate his soldiers by saying (among other things) “We’re in, we’re out, and by next year gas will be 60¢ a gallon!”

In other words, it wasn’t just Texan oilmen who thought that the war was fought for the economic benefit of the residents of the United States; cops and roofers and public school teachers (and at least one dude working in the Economic Growth Center at Yale University) pretty much thought the same thing. Moreover, the State Department’s Future of Iraq Project proposed that the industry be privatized after the war, and no less than Ahmed Chalabi promised, “American companies will have a big shot at Iraqi oil.”

So is T. Boone Pickens right? Did China win Gulf War 2? Let me propose here that the answer is “no.” Given the disasterous decision to go to war, America has probably won Gulf War 2, in callous economic and strategic terms. The decision by the Bush Administration to discourage Americans from investing in Kurdistan, followed by the (apparent) decision by the Obama Administration to extend that discouragement to the rest of Iraq, was quite smart. If it works out, two things will follow: (1) the U.S. will gain a huge amount of diplomatic leverage over a dangerous regime that is trying to procure nuclear weapons, and (2) the Second Gulf War may turn out to be a paying propostion in straight-up economic terms.

Don’t believe me? I don’t blame you. I’m not even sure that I believe me. But after writing a case about the Iraqi oil industry, teaching it to a bunch of mostly-American MBA students and then again to a group of mostly-European executives, and running some numbers, I’ve come to think that there’s a reasonable case to be made for the defense.  Over the next few posts, I’m going to try to make it.

The limits of empire

 The world really needs a good game-theoretic model of informal empire.  I suppose Bruce Bueno de Mesquita already has one, but I’d like to see something more specific. 

What’s informal empire?  Well, if “empire” happens whenever one sovereign state exerts its authority over an area previously under a different sovereignty (or none at all) then that empire is “formal” when the imperial state exerts its authority through a bureaucratic chain-of-command that runs from the imperial executive through the local government and down to the person in the street in the new territory.   (Similarly, an empire has formal characteristics if judicial decisions can be appealed upwards to courts in the center, or if the imperial legislature can pass laws for the subordinate territory.) 

Since 1898, the United States has generally eschewed formal empire.  The exceptions are Haiti in 1915-34, the Dominican in 1916-24, Japan in 1945-52, Germany in 1945-55, Okinawa in 1945-72, and Iraq in 2003-04.  (The European Union exercises formal authority over parts of the governments of Bosnia and Kosovo.)  The U.S. has relied on a combination of treaty arrangements, sanction mechanisms, and moral suasion to get its satraps to do what the government of day wants them to do.  The famous SOFAs kinda sorta sometimes formalize quasi-imperial arrangements by giving U.S. troops special privileges inside host countries, including sometimes the right to shoot people, but that is not the same thing as giving the American government the right to give local bureaucrats direct orders under the threat of unemployment or imprisonment.

Sometime informality works and sometimes it doesn’t.  Right now, informal empire has hit its limits in Afghanistan and Honduras.  The U.S. can’t make President Karzai crack down on corruption, form a coalition with Abdullah, or negotiate with the Taliban.  Considering both the number of troops we’ve got running around the country and the number of dollars we pour into its government budget, the lack of influence (let along control) is pretty depressing.  What kind of an empire is that?

In Honduras, the recent agreement between Micheletti and Zelaya appears to have collapsed.  The Honduran legislature has not voted to reinstate Zelaya, and Micheletti is continuing his modus operandi of “what the hell?” by picking a fight over who will lead the interim cabinet until Congress votes.  Washington may be able to pick something up out of this mess, but U.S. leverage is limited.  Aid is suspended and visas were as well until recently; stronger sanctions, meanwhile, will just sock it to a lot of very poor people.  We could give up and run out the clock, which would be the best option if the rest of the hemisphere agreed.  They don’t, so something had to be done, and a few days ago it looked as though the Secretary of State had done it, by brokering a solution.

Only now Micheletti keeps going off the reservation, and there seems to be no quiet easy way to keep him on it.  There is still something a little ridiculous about the lack of American leverage.  What kind of an empire is this?

Not much of one, actually.  To be honest, I suspect that the U.S. will be able to knock some sense into Micheletti.  If pushed, I’d bet on the agreement coming back to life.  But still, the limits of informality are clear.  Even in Afghanistan, let alone Honduras, local political actors are autonomous, and the threats that the U.S. could use to sanction them are not credible. 

Running an informal empire is complicated, and running a formal one is often impossible.  The implications are left as an exercise for the reader. 

Interlude: You might like him, but so what?

I like John McCain.  He seems like a genuinely nice fellow.  And unlike other past decisions of mine, I will say that while I would not have supported McCain in 2000 knowing what I know now, my decision stands given what was knowable at the time.  I do in fact think that his heart is in the right place, and unlike many of my fellow American lefties, I believe that his calls for national service and national greatness are respectable.  Mass economic sacrifice for social insurance and the environment, mass government service for emergency response and the occasional crazy man's strike at Pearl Harbor, all good things.  Matt Yglesias thinks that his call for service for its own sake is crazy; I think that the country would be well-served by sticking most of our youth in uniform for a couple of years, preferably to pick up trash and receive EMS training, but possibly to serve in You Know What.

But ... even though my respected colleague Niall Ferguson has attested to the man's character, the more I find out about Senator McCain, the more I think he's simply flat-out stupid.

And so, as a public service, here is a slightly overlong video of their man's greatest hits.  Enjoy.

UPDATE:  "Stupid," I'm now convinced is far too harsh, and certainly incorrect.  My difficulty with McCain is how readily he  abandoned so many of his 2000 positions in 2004, without any new facts coming to light that might have caused such a re-evaluation.  It was pure, crass political expediency.  Now the man feels free to dissemble all the time --- about the political complexities in Iraq, the history of American diplomacy, and even Obama's factual statements.  He's also taken nonsensical positions on taxes and health care while fearmongering about Iran. 

I can only find three positive things to say.  First, his climate change plan, while a giveaway to emitting companies, is a giveaway that reduces corporate opposition and might be smart politics.  Second, he supports free trade, and while my own doubts are growing, that's still probably the best position on average.  Of course, that means diddly with a Democratic congress, which is the third positive thing:  with no coattails to speak of, Congress would constrain him from doing crazy things at home (like his tax plan) ... emphasis on at home.   

But here's an opposing view from the fellow with the office next to mine.  If you're pressed for time, skip ahead to minute 4:00.  If you want to hear, well, things that are quite hard to understand, skip to minute 23:15.  It's quite ... judge for yourself. 

McCainiacs

How Others See Us:  "Obama wins Grammy and whitest US state," Times of India.  The Grammy does not, I should point out, refer to the "Yes We Can" video.

Of course, one great video begats another.  Go click the link.  Then watch the following.

Which brings me to an admission and an admonition.  The admission is that back in 2000 my journal tells me that I was a McCainiac.  I even gave my first ever recorded campaign contribution to the guy, a full $500.  What seems to have excited me was that he was against reducing federal taxes even one penny until the national debt was paid off, and in an election where nobody was talking about health care (Gore hadn't yet proposed to add a pharmaceutical benefit to Medicare) and war seemed far away, that seemed like the big issue.  Pay down that debt, baby!  Andrew Jackson's one good idea.  Plus, he didn't seem to, like, hate the environment. 

That McCain, well, I wouldn't vote for him now.  Times change, other issues take on salience.  But the new McCain?  Even less. 

The admonition is that anybody who is trying to decide between John McCain and whichever of the Democrats gets the nomination is simply not paying attention.  That is a decision that makes no sense.  One guy has pledged to make the Bush tax cuts permanent, keep us in Iraq for a century, confront Iran, and keep our insane health care system.  The others will do none of the above.  If McCain's platform seems reasonable, even desirable, then there is no way in hell that you should be even thinking of voting for the Democrat.  And vice versa. 

Will, I promise to get around to the Latino question that you posed, but c'mon man.  His choice of veep could sway you?