How ISIS Is Standing in the Way of Iraq’s Bright Oil Future

SAFIN HAMED/AFP/GETTY IMAGES

SAFIN HAMED/AFP/GETTY IMAGES

Last week’s oil agreement between Baghdad and the Kurdistan Regional Government (KRG) was a milestone event and the market reaction was largely fitting – Brent crude futures dropped nearly 3% and regional operators all saw a considerable boost in share value as production and export growth is expected to rise across Iraq. Still, the specter that is the Islamic State (ISIS) darkens what was a bright day for Iraqi unity and remains a significant stumbling block to the country’s rise to oil-superstardom.

The deal temporarily puts an end to Baghdad and KRG’s conflicting interpretations of oil-sharing agreements spelled out in Iraq’s 2006 constitution and allows for the immediate export of Kurdish oil. In all, 300,000 barrels per day (bpd) from the still disputed Kirkuk region and 250,000 bpd from Kurdistan will travel via pipeline to Turkey, where it will be sold by the state’s oil marketing organization. For its part, Baghdad will resume budget payments to Kurdistan and provide $1 billion toward salaries and equipment for Kurdish peshmerga fighters.

It’s all part of a plan to rejuvenate Iraqi oil production, which has struggled to live up to its potential amid the conflict and turmoil that has defined the past decade. Currently, Iraq produces only 3 million barrels per day (mbpd) of crude oil despite a heap of interest from Western majors. The International Energy Agency (IEA) estimates that current contracts imply a nearly five-fold increase of production by the end of the decade. In actuality, the IEA predicts more modest – though still impressive – output of 6.1 mbpd by 2020 and 8.3 mbpd by 2035. Under this scenario, Iraq accounts for 45% of the total growth in global oil output toward 2035.

While a large portion of said growth will come from a collection of supergiants around the southern city of Basra, the KRG has equally ambitious plans for the north. Enter ISIS – the terrorist group that occupies large swaths of land across northern Iraq and Syria.

ISIS targeted Iraq’s disgruntled Sunni population in the north and rapidly took control of a number of strategically important cities during its June offensive. However, its survival – at least as more than just an insurgency group – is predicated on its control of oil. Today, the group operates several fields in northwestern Iraq. Figures vary, but ISIS oil production is estimated at anywhere between 20,000 to 200,000 bpd, netting them approximately $1 million daily. ISIS lacks the ability to fully optimize production, however, and its sights are set on larger and more productive fields – namely the supergiant Kirkuk field and its satellite blocks.

The Kurdish peshmerga together with U.S. air strikes have thus far stunted ISIS’s advances northward and to the south, but the group’s presence on the fringe has a similar effect on future Iraqi oil production in the north.

Infrastructure constraints are hugely damning to the state’s oil growth and simple fixes are few and far between. Refining capacity has seen little expansion in the last four years and remains staggeringly low at approximately 600,000 bpd. The Baiji refinery – the nation’s largest, capable of 300,000 bpd – has been hotly contested since June and, though currently under Iraqi control, is deep in ISIS territory.

Iraqi pipelines – already old and inefficient – have been the target of attacks in the past, rendering them useless in several instances. Plans to expand capacity to Turkey will require a second look as finding a conflict-free route becomes more difficult and more expensive.

The fighting has spooked several western majors operating in the north. Chevron, Exxon, and Total among others have reduced the sizes of their staff in Iraqi Kurdistan. The KRG exudes an air of calm, but the money currently in limbo in the region is worrying.

In all, the IEA estimates Iraq will require energy investment of more than $530 billion to meet the mid-level, though increasingly optimistic, projection of 8.3 mbpd by 2035. Extended delays could mean a loss of more than $3 trillion for the Iraqi economy. Globally, it translates to more trying times for international oil markets.

Originally written for OilPrice.com, a website that focuses on news and analysis on the topics of alternative energy, geopolitics, and oil and gas. OilPrice.com is written for an educated audience that includes investors, fund managers, resource bankers, traders, and energy market professionals around the world.

More from Business Cheat Sheet: