Iraq, OPEC’s second-largest oil producer, has a list of challenges that keeps growing. From the anti-government protests and the ongoing U.S.-Iran standoff, to U.S. President Donald Trump’s threats to hit Baghdad with sanctions, a myriad of issues have raised concerns in recent months about supply disruptions from southern Iraq. To make matters worse, Iraq is now watching a crisis, which no one saw coming, unfolding outside its borders that can potentially impact its oil sales.
In its January report, the International Energy Agency (IEA) called Iraq a “potentially vulnerable supplier” due to geopolitical risks—blamed on the U.S.-Iran tensions—and anti-government protests. Iraq relies heavily on oil revenues which make up around 90 percent of its budget. The country would suffer severely if crude exports drop sharply, especially amid volatile oil prices, with matters exacerbated by the inability of Iraq’s existing political and economic system to cope with the grave consequences. However, neither regional tensions nor the protests led to the imagined disruptions some had feared, and concerns over risks to oil flows from southern Iraq began to gradually fade around mid-January.
Then the outbreak of the novel coronavirus hit the global markets.
The focus shifted from possible oil supply disruptions in the Persian Gulf to the impact of the epidemic on China’s oil demand. As the world’s largest importer of crude oil, China is a key consumer of Iraqi crude that includes its flagship Basrah Light. According to TankerTrackers.com, the majority of Iraq’s southern crude exports in December went to China (33.40 percent) and India (28.42 percent). Saudi Arabia and Iraq are China’s top suppliers within the Persian Gulf. Most of the crude oil that transited the Strait of Hormuz in 2019 went to Asia, with China being the top importer, taking in 3.7 million barrels a day, data from Bloomberg show.
In early January, questions were raised about the impact of security developments in Iraq on the selling of Basrah crude to Asian refiners, including Chinese. Now, the question is the other way around: If the coronavirus outbreak is not contained soon, how will lower Chinese oil demand, accompanied by weak oil prices, affect a key oil supplier like Iraq that heavily relies on oil sales?
To put it bluntly: Iraq’s budget will suffer as the pillars of revenue falter, and the government will not be able to bury its head in the sand.
“Iraq will have a deficit in its budget which is mostly for paying public salaries,” said Ahmed Tabaqchali, a financial analyst and senior fellow at the Sulaimani-based Institute of Regional and International Studies (IRIS). During a phone interview he noted that Iraq, over the past few years, “has built up its foreign reserves because of higher oil prices, but it needs those reserves [not to pay public salaries] but because the country relies on importing goods and products.” Moreover, the country does not have a fiscal cushion to cope with the impact from a sharp drop in exports as well as oil prices. In January, Iraq’s federal oil revenues, and according to Iraq Oil Report, dropped by around 8 percent compared to December to settle at $6.195 billion due to lower crude exports and a drop in oil prices. And that was before coronavirus threw the global markets into turmoil.
The burgeoning problem of public payroll, since 2003, has been highlighted regularly by Iraqi researchers and analysts who have underlined the consequences that will hit the government hard if they are left unaddressed. Ali al-Mawlawi, the head of research at the Baghdad-based Al-Bayan Center, says in a research paper published last year that “one of the key lessons from the fiscal crisis that emerged in 2014 is that Iraq’s reliance on oil combined with the volatility in oil prices means that the country can no longer afford to grow the public wage bill without expecting severe consequences.” These, according to al-Mawlawi, include its failure to dedicate enough resources for rebuilding an infrastructure that has been badly damaged throughout years of violence, and most importantly, the government’s inability to address vital public services—a critical problem that has been fueling protests.
“There is a political will. But it is a political will to preserve the status quo.”
Tabaqchali explains that Iraq has a “structural problem” in its political system—built on al-Muhasasa (an Arabic term that refers to a quota system wherein each political group wants its own share)—which has been impeding any serious efforts to implement reforms. “The economy is the government and the government/power is diffused,” Tabaqchali said. “There is a political will. But it is a political will to preserve the status quo, not change it,” he added. The problem caused by this entrenched system have led to large-scale protests calling for its overhaul. More than 500 protesters have been reportedly killed since October 2019.
And it is not only the federal government in Baghdad that will bear the brunt of a budget in crisis.
The autonomous Kurdistan Regional Government (KRG) in the north relies on its independent oil sales—which averaged 446,000 barrels per day in December 2019, according to Iraq Oil Report—and on federal public salaries transfers. If Baghdad’s budget is dealt a blow because of the current shocks in the oil market due to the coronavirus, the KRG will feel the repercussions, Tabaqchali explains, directly due to a loss of income from its lower independent oil revenues, and indirectly from a potential drop in federal transfers. For instance, once the KRG’s income starts suffering, payments to International Oil Companies (IOCs) could be delayed, and if the situation worsens, the delays would be extended to public salaries, according to Tabaqchali. This last part in particular is a recipe for social unrest.
The Iraqi Response
“If the coronavirus continues and affects oil consumers, it will certainly backfire on us because most of our oil travels eastward,” a senior Iraqi official told me.
The relevant Iraqi authorities have taken measures to prevent the spread of coronavirus to the country, and there is no major impact, at least for now, on energy projects involving Chinese companies. Iraq’s oil ministry spokesman Asim Jihad told me on February 6 that “the workflow is ongoing and there is no impact on operations at the oilfields—whether those involving Chinese companies or others.”
Caretaker electricity minister Luay al-Khateeb, meanwhile, said that there “are no delays at the moment, and everything is on track,” with respect to projects at his ministry.
“At the moment, the current measures we have is that we want to make sure that the virus does not travel back to Iraq. We advised Chinese workers in Iraq to stay and not travel back to China [for the time being] because if they do, they will have [to go through a long process] to clear themselves before getting back. And all this leads to additional costs, logistics, all which will further delay any projects that we are working on,” al-Khateeb added during an interview on February 13. The various Chinese companies in Iraq include the China Machinery Engineering Corporation (CMEC) which is involved in building the Salah al-Din power station located in north-central Iraq.
A five-day visit by an Iraqi delegation to China last September, was hailed as “historic”, and signaled growing relations between the two countries. China is considered Iraq’s biggest trading partner and is heavily invested in its energy industry. In an interview with the state-run al-Sabah newspaper in May 2019, Chinese Ambassador to Baghdad Zhang Tao said that “the amount of Chinese investments in Iraq is very large, exceeding $20 billion in the oil sector.”
From the anti-government protests, to the U.S.-Iran confrontation, and now the novel coronavirus, a wide variety of geopolitical factors have all exposed the vulnerability of Iraq’s economy in its current form. So I asked Tabaqchali whether the government can diversify the economy instead of relying on oil sales. “The government cannot do that because the political system cannot support it. One of the major requirements when it comes to the private sector is that for it to develop you need rule of law and the state monopoly of violence,” he grimly said.
“These don’t exist in Iraq.”