War with Iraq: the oil connection

www.startribune.com Bob von Sternberg, Star Tribune Published Mar. 4, 2003 OIL04    As the United States draws ever closer to another war against Iraq, the role of oil in that struggle has come under increased scrutiny.

While antiwar activists boil their argument down to a chant of "no war for oil," the more hawkish advocates of war have gone so far as to say Iraq's vast oil wealth could be used to pay the costs of occupying the country.

Depending on the course of the fighting, its effect on U.S. consumers and the world's economy could be anything from trifling to catastrophic.

Start with the immediate economic effects when the bombs start dropping: If the experience of the 1991 Gulf War and the assessment of most oil industry analysts are any guide, the fallout should be relatively modest.

Iraq's invasion of Kuwait and the subsequent war spawned widespread fear that the world would plunge into an energy crisis. It never happened.

Demonstration of oil well firefighting techniques

Sue Ogrocki Associated Press

Immediately after Iraqi troops stormed into Kuwait, the price of oil shot up to about $40 a barrel. As soon as it was obvious that the war would be short and decisive, the price fell back below $20 a barrel. Other oil-producing nations had stepped into the breach.

This time around, jitters about war and the recent political chaos in oil-rich Venezuela have kept oil prices relatively high. Last week, prices reached their highest levels since the '91 Gulf War, briefly approaching $40 a barrel.

'Short-lived'

Although Iraq's oil reserves are second only to Saudi Arabia's, the effect of a war on the world's oil markets is likely to be even less than the the first Gulf War. Pumping only about 2 million barrels a day, its production represents a mere 2 percent of worldwide production.

"If the issue were simply the likely loss of Iraqi exports, most experts would agree that the market impact of military action would be manageable and short-lived," concluded a recent report by the Petroleum Industry Research Foundation in New York.

However, the report warned: "It should be kept in mind that while the U.S. may decide the timing of military action, the consequences for the region, and the ultimate impact on oil, remain unknown."

The impact depends on how quickly a war ends and whether Saddam Hussein's forces torch their oil fields as they did Kuwait's 12 years ago.

On Feb. 7, Iraq's ambassador to Russia, Abbas Khalaf, said his countrymen "will not blow up the oil fields in the event of strikes on its territory." Khalaf also told the ITAR-TASS news agency: "Oil is our national wealth."

Even so, Pentagon planners have spent long hours on a strategy for protecting the oil fields. The options reportedly range from dispatching special operations forces into Iraq's oil fields during the early fighting to using electronic jamming equipment to hinder a coordinated destruction of wells.

The Center for Strategic and International Studies recently analyzed likely scenarios.

If war is avoided, oil prices will quickly collapse worldwide, reaching a low of $16 a barrel late next year, the center predicted. A war that ends within weeks, with few casualties and no damage to Iraq's oil industry would cause a brief spike in prices into the $30 range, tailing off to about $20 a barrel at the end of 2004. In the worst case -- a protracted war in which weapons of mass destruction are employed -- the price would skyrocket to $80 shortly after the fighting begins, remaining above $60 throughout 2003 and falling only to $40 a barrel in 2004.

Such price increases could ripple catastrophically through the world's economy. The International Monetary Fund has a rule of thumb that for each $5-per-barrel annual increase in the price of oil, the world's gross domestic product drops 0.25 percent. A sustained oil price of $60 would knock a full 1.5 percent off the world GDP.

Unlike in 1990, when Iraq's invasion of Kuwait caught the oil industry by surprise, the Bush administration has given the industry ample time to prepare. The International Energy Agency has announced that its 26 member countries are holding 4 billion barrels of oil in reserve, equal to 114 days' worth of imports by the United States and other importing countries.

Agency officials say this war will not be a repeat of 1990, when months passed before it released stocks. This time, they have promised to act within hours of the start of fighting.

The United States has its own ace in the hole -- oil stored in the Strategic Petroleum Reserve, located in the Mississippi Gulf Coast's underground salt domes. Oil has been released from the reserve only once, when the first President Bush ordered the release the day the bombing started in 1991. His son has pledged to do the same.

The reserve holds about 550 million barrels, enough to supply the entire U.S. market for less than 29 days.

Perhaps the most vexing question about Iraq's oil is how it will be controlled once the war is over.

A U.S. task force is conferring with energy experts, industry executives and Iraqi opposition leaders on how to revive and expand Iraq's multibillion-dollar oil empire once Saddam is toppled. Bush administration officials consider revenue from oil exports essential to rebuilding the country once the fighting stops.

Those officials also are loath to say much publicly about Iraq's oil, lest they stoke criticism that a war with Saddam is as much about oil as it is about terrorism.

After reports surfaced in January that some administration officials were pushing for de facto U.S. control of Iraq's oil industry, Secretary of State Colin Powell was quick to quash the notion.

"The oil of Iraq belongs to the Iraqi people," Powell said during a Jan. 21 press conference. "It will not be exploited for the United States' own purpose."

Edward Djerejian, director of the James A. Baker Institute for Public Policy at Rice University, co-authored a recent report with the Council on Foreign Relations that analyzed a post-Saddam Iraq. The report urged that the Iraqis be allowed to retain control of their oil.

"One of the most important issues to address is the widely held view that the campaign against Iraq is driven by an American wish to 'steal' or at least control Iraqi oil," the report concluded. "U.S. statements and behavior must refute this."

Massive investment

Robert Ebel, one of the authors of the report by the Center for Strategic and International Studies, said it's impossible to predict Iraq's future oil production because "we don't know what kind of Iraq we're going to have in the morning after."

It is certain, though, that "there will be a massive investment program to get the Iraqi oil industry first back on its feet and then to top it off with expansion," he said.

The ultimate cost could reach $40 billion, according to Djerejian's report. Energy service companies such as Halliburton and Bechtel, which oversaw the repair of Kuwait's oil fields, could earn billions of dollars in deals to upgrade wells, pipes, pumping stations and export terminals in Iraq.

And the world's oil giants -- such as Exxon Mobil Corp., ChevronTexaco and Russia's Lukoil -- are looking for a chance to negotiate lucrative development deals with Iraq.

The fact that many of these companies have close ties to top Bush administration officials -- including Vice President Dick Cheney, who once ran Halliburton, and the president himself -- has fueled speculation among some critics that an attack on Iraq is mostly about oil. The administration strongly denies any such intent.

Also unanswered is how a cash-starved Iraq, under pressure to pump as much oil as possible, will deal with OPEC's strategy of limiting production to keep prices steady. The Saudis and other members of the Organization of Petroleum Exporting Countries (OPEC) are unlikely to allow Iraq to overproduce, which would drive down world oil prices.

The Middle East Economic Survey, a weekly oil newsletter published in Cyprus, recently reported that OPEC members are considering the prospect of a U.S. occupation of Iraq that would lead to the United States, in effect, sitting in as a temporary member of the cartel.

"If it is clearly in Iraq's interest to remain in OPEC, then the intriguing prospect must arise of the U.S. representing it during the occupation period," the newsletter said.

The Associated Press contributed to this report.-- Bob von Sternberg is at vonste@startribune.com.