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Iraq Facing Perfect Storm

Basrah Oil Field

Iraq has been pumping oil at record-high rates since the start of the year, with daily output reaching 4.31 million barrels last month, most of which was exported. Yet the figure is lower than the 4.51 million barrels produced in January, and it is likely to fall further as the government wants oil companies operating in the country to reduce spending.

Meanwhile demand is growing, especially in emerging markets.

Iraq, which is the second-biggest producer in OPEC, works with international oil companies under agreements that require the companies to coordinate their spending plans every year with the government. The reason is that they are not just extracting oil, they are also helping to develop the country’s production and transportation infrastructure in order to expand production. In exchange for this work, the government pays them in crude. Or so it was. Related: Who Will Benefit From The Electrification Of Transport?

Last week, Reuters reported that it has seen requests from the government to oil companies regarding their future investments. The requests are to lower these investments, in some cases by more than half, as the government is finding it increasingly difficult to juggle between vital exports and repayments to oilfield operators.

Like other OPEC members, Iraq is overly dependent on oil revenues. Unlike most of them, however, the country has urgent military spending needs as it tries to drive ISIS out of its north and west. Related: Why Jim Chanos is Shorting the Oil Majors

To complicate matters further and make the whole situation ironic in a way, Iraq has just become the largest supplier of oil to India, with April volumes up 41 percent on the month and 79 percent on the year, to a daily 960,700 barrels. India is pegged as the biggest driver of global oil demand in the near- to medium-term, as it takes China’s place as the world’s industrial hothouse. And Iraq may not be able to take sufficient advantage of this. Related: Are The Saudis Facing A Full-Blown Liquidity Crisis?

Iraq is in the perfect vicious circle. It needs to expand its oil production in order to take advantage of growing demand and increase its revenues, much of which it would use to continue the fight against ISIS. It cannot, however, grow production because at current oil prices and production volumes, it can’t afford to pay the oilfield operators. Without being paid, the operators will reduce their investments in Iraq’s production growth, slowing it down considerably and even possibly stopping it completely at some point before the end of this year.

None of the elements of this circle can be ignored. There’s no way of ignoring the Islamists in the north and west, and there’s no way of ignoring the demand increase. There is also no way out of the circle for Iraq, at least for the moment. If oil prices continue to rise, if there are more unanticipated production disruptions, and if the government manages to reach some kind of mutually beneficial agreement with the oilfield operators, then all could be well. The problem is, these are a lot of ifs.

By Irina Slav for Oilprice.com

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