x Abu Dhabi, UAESaturday 29 July 2017

Iran's tactics oil play may prove to be risky

Sanctions do not help, of course, but the real source of Iran's woes is mismanagement compounded by political deadlock and an unproductive, state-dominated economy.

Like a high-stakes game played with barrels of oil, Tehran told Baghdad last week: "I see your 143 billion and raise you 150 billion."

The Iranian minister of petroleum Masoud Mir Kazemi topped the Iraqi oil minister Hussein al Shahristani's earlier increase in proved reserves. But Iran is bluffing. Mr Mir Kazemi might hold good cards but he cannot play them.

Iraq's announcement, that its proved reserves had increased by a quarter, was an early move in a contest that will engage OPEC during the next few years.

Other OPEC members somehow have to find room to accommodate Iraq's ambitions which, taken literally, would make it a rival to Saudi Arabia. And Iraq is not the only challenger.

Other states, particularly Nigeria, are looking for the organisation's acquiescence in higher output.

Iran has historically been the second-largest player but it seems very unlikely that it will be able to retain that status, even though on Thursday Mr Mir Kazemi became the first Iranian for 36 years to hold the OPEC presidency.

To paraphrase the legendary Liverpool football manager Bill Shankly, the outcome of the quota game isn't a matter of life and death; it's more important than that.

For Iraq, the revenues from higher production are desperately needed to strengthen the fragile state, reward political constituencies and rebuild the country after three decades of near-continuous conflict.

With a few exceptions, such as Venezuela, other OPEC members are players with deep pockets. For them, given relatively healthy finances, the issue is important but manageable.

Saudi Arabia, the UAE and Kuwait, the most disciplined adherents to current quotas, could survive a period of lower production and prices with some trimming of budgets.

For the oil consumers, this debate raises some memories of the intra-OPEC dissension of the 1980s and 1990s. Then, unlike now, OPEC was pressured by strong competition from non-OPEC producers, notably those with North Sea oil.

But that factor could also return with the emergence of Brazil as a world-class oil province. And now, as then, there is a strong focus on reducing oil demand through new, more efficient technologies with the recent unveiling of a host of electric and hybrid car models.

Given these factors, it is surprising that oil prices, hovering above $80 a barrel, are so strong. OPEC's discipline is part of the explanation and the potential for that unity to crack is a reason oil producers and consumers alike should at least plan for the eventuality of falling prices.

For Iran, the quota stakes are highest precisely because it has no plan B for a period of lower oil prices. Inflation, officially 8.9 per cent, has been estimated at about 50 per cent by the Iranian Majlis's (parliament) research centre and many people go six months without being able to afford meat.

High inflation makes it difficult for the government to remove the burden of US$20 billion (Dh73.46bn) of subsidies from the budget. Unemployment, officially 15 per cent, may also be higher in reality and leads to a huge brain drain of educated young people. Corruption, capital outflow, financial aid to foreign allies and Soviet-style energy inefficiency are further problems.

Sanctions do not help, of course, but the real source of Iran's woes is mismanagement compounded by political deadlock and an unproductive, state-dominated economy.

When the oil price fell below $10 per barrel in 1998, the administration of Mohammed Khatami coped relatively successfully.

Under its current leadership, Iran would probably manage to create an economic crisis even at $200 a barrel.

This puts Iran in a weak position to play the quota game. Reserves are irrelevant: the contest is all about production. Boosted by a series of deals signed under Mr Khatami with Shell, Total, ENI and other major companies, the country's oil output climbed steadily since 2000 but recently began slowly to decline.

Oil exploration has been very successful but due to a lack of capital and new technology, developing the new fields has proved more problematic.

Symptomatic is the huge Azadegan field, found in 1999 and very similar to Iraq's super-giants such as Majnoon and West Qurna.

But while the world's leading oil companies are hastening to Baghdad, they are leaving Tehran. On Thursday, Japan's INPEX announced it was pulling out of Azadegan. Yet Iran has tried to export its failed petroleum industry model to Iraq.

Production may dip as low as 3.3 million barrels per day by 2015, contrasting to today's capacity of almost 4 million. Combined with rapidly rising demand, fuelled by subsidies, Iran might cease to be an oil exporter as soon as 2025.

Whether Iran has the 150 billion barrels it has just announced, or the previous 138 billion, or even somewhat lower, does not matter. We know nature has dealt Mr Mir Kazemi the oil equivalent of the grand prize.

But there is no magic formula for basing OPEC quotas on reserves - the decision depends on bargaining, in which the best argument is the cold reality of production capacity.

Without systemic reform of its oil sector and probably of the whole economy, this game within OPEC is not one Iran can win. Otherwise, it can only hope that Iraq's projects falter of their own accord and that Baghdad retires first.

Robin M Mills is an energy economist based in Dubai and the author of The Myth of the Oil Crisis