Pipelines and the Challenges of Energy Integration in the Middle East

This article is part of a series exploring regional energy cooperation in the Gulf and is published in cooperation with Istituto Affari Internazionali.

Energy cooperation in the Middle East has long been pursued through the establishment of petroleum pipelines, built with the goals of connecting to energy markets in the broader Eurasian context, diversifying oil export routes, and reducing vulnerability. After several years of renewed regional diplomacy in the Gulf and an increase in the level of regional trade and investment, energy integration is once again on the agenda in bilateral and multilateral forums.

However, in a region characterised by both internal instability and external threats, most intra-regional energy trade agreements have been short-lived. The legacies of the Middle East’s major oil and gas pipelines offer important lessons for regional leaders hoping to integrate energy markets and infrastructure.

The region’s seven major pipelines have existed for a cumulative 445 years. But they have only been active for 168 of those years. In other words, the seven pipelines have been operational for just one-third of their lifetimes. Every international oil pipeline in the region has also shut down at least once, and the majority remain closed today.

Political conflicts within producing and transit countries, as well as interstate disputes, remain the primary reasons for pipeline shutdowns. While the mutual dependency stabilising factor ensures continued oil supply from the region, short-term interruptions persist due to geopolitical tensions. Historical events like the Arab oil embargoes and international sanctions against Iraq and Iran underscore the region's susceptibility to temporary disruptions. The military attacks during the eight-year war between Iran and Iraq (1980-88) prompted a reconsideration in pipeline strategies in the region as the conflict both underscored the vulnerability of the infrastructure to military attacks, but also their potential in assisting countries at times of isolation.

For example, Iraq, whose meagre Gulf coastline was blocked during the war and its export outlets through the Mediterranean (Syria and Lebanon) were shut down, sought to diversify its export channels through pipelines with Turkey and Saudi Arabia. Iran, on the other hand, facing security concerns due to sporadic Iraqi air strikes on its territories, also explored pipeline options to bypass vulnerable terminals. But the 1986 Iraqi strikes on Iran’s Larak and Sirri terminals raised doubts about the security and usefulness of such infrastructure, resulting in the postponement or cancelation of many pipeline projects.

In the 1980s, to reduce  dependence on the Strait of Hormuz and vulnerability to Iranian threats, Saudi Arabia built its main export pipeline “Petroline” from the oil-producing Eastern Province to Yanbu on the Red Sea. Yet, liftings at the Red Sea must transit through the Suez Canal which is controlled by Egypt or through the Strait of Bab Al-Mandeb which is controlled by Yemen. Oil could also be piped through the Sumed pipeline which links, within Egypt, the Gulf of Suez to the Mediterranean, or through the Eilat-Ashkelon pipeline in Israel. But these avenues pose their own challenges.

The Eilat–Ashkelon pipeline has recently gained attention, with press reports of the UAE considering it for transporting crude from the Red Sea to the Mediterranean. Interestingly, this pipeline was built in 1968 as a joint-venture between Israel and Iran to transport Iranian crude oil to Europe. However, Iran ceased using the pipeline following the 1979 Revolution and the subsequent nationalisation of the pipeline by Israel. Today, with the ongoing war in Gaza and the fate of Arab-Israeli normalisation agreements mean the future of this pipeline is uncertain.

Limited Success in Gas Cooperation

In the realm of gas pipelines, the Middle East has seen some limited success, but only few interstate gas pipelines have been built. The first interstate gas line in the region was built in 1986 linking Iraqi fields to Kuwait. This short-lived pipeline closed after the Iraqi invasion of Kuwait and switched to supplying water for Iraqi troops. Around the same time, a small gas link was constructed between Oman and the UAE’s emirate of Ras Al-Khaimah. That link later expanded and became the much larger Dolphin pipeline which came on stream in 2007, supplying Qatari gas to the UAE and Oman.

In the Eastern Mediterranean, a gas pipeline linking Egypt and Israel was initially built to channel Egyptian gas to Israel, before reversing its flow to supply Israeli gas to Egypt. On a more regional scale, the Arab Gas Pipeline (AGP), built in 2003, has been linking Egypt, Jordan, Syria, and Lebanon, and has plans to connect to the European network in Turkey. However, the AGP has faced serious challenges since its inauguration, including the acute shortage of gas feedstock from Egypt.

The development of liquified natural gas (LNG) has also dealt a blow to the prospects of increasing gas pipelines around the Middle East. In fact, Bahrain, the UAE, Kuwait, and Jordan are already operating LNG import terminals, while Oman, Saudi Arabia, and Lebanon are pursuing the same strategy as well. The LNG option has been favoured over gas pipelines as a result of many factors, including the security related factors as well as the competitive costs and prices for building the different parts of its chain, i.e. the liquefaction plants, transport vessels, and regasification units.

Revitalising Pipelines

Despite persistent challenges, international pipelines are needed in the region and they can be an efficient and secure way of energy trade, if operated properly. To turn a new page, addressing various issues is crucial. First and foremost, the issue of transit fees must be clearly resolved, especially if a third country is involved in the transit. Those fees, returned in cash or commodities, could well affect the entire economic feasibility of a pipeline network project.

Adherence to World Trade Organization (WTO) agreements is also a significant challenge. In fact, each member of the WTO has to give the owner or operator of any pipeline passing through its territories full and free access to its own domestic market. That right for market access has not always been admitted by all Middle Eastern countries.

There is also the question of “energy independency” which needs to be addressed. In the Gulf and the broader region, governments are hesitant to depend on neighbouring countries for their fuel supplies. At the same time, the psychological desire among oil-producing countries for self-sufficiency also promotes a greater willingness to burn more liquid fuels than import gas, despite their higher relative and opportunity costs and the damage they induce on the environment.

Trust building measures and gradual expansion of bilateral and multilateral engagements could contribute to increasing energy cooperation, in addition to increasing the interdependency between the countries along the routes of pipelines through transit fees and large reliance on the pumped supplies.

Gas pricing is a challenge which is further compounded by the fluctuations in demand throughout the year. Demand for electricity, and consequently for natural gas, peaks in the summer for the majority of countries in the region, and consequently gas sales fall in the winter. To offset these challenges, regional countries could either create storage facilities at the upstream producing end or at the downstream consuming side. This requires much closer regional cooperation on gas.

While the challenges are evident, the pursuit of energy cooperation through pipelines in the Middle East remains a complex yet vital endeavour, requiring continuous adaptation to geopolitical realities and global market dynamics. Despite the current favouring of LNG over gas pipelines, policymakers must keep the idea of building a regional gas network on the agenda.

Regional players need to learn from past failures and match infrastructure with institutions to provide platforms for dispute resolutions and enhanced cooperation. Such a way forward could bolster regional economic development, enhance intra-regional trade, and contribute to long-term political cooperation and economic integration in the broader region.

Photo: Aramco

Total CEO Pouyanné: Transatlantic Partners Risk Gifting Iran to 'China and Russia'

Speaking on Thursday at the Center for Strategic and International Studies, a Washington D.C. think tank, Total CEO Patrick Pouyanné faced several questions about his company’s recently announced decision to wind down operations in Iran following the reapplication of secondary sanctions by the Trump administration.

With his trademark candor, Pouyanné left no doubt that Total was obligated to comply with U.S. sanctions in regards to the USD 5 billion South Pars gas project launched in July 2017, stating “Secondary sanctions mean that the U.S. president can decide that Total cannot have access to any U.S. banks. I cannot run a company in 130 countries without access to U.S. banks.”

For Total, the South Pars project in Iran was only considered “because of the JCPOA, which meant the end of secondary sanctions.” With the nuclear deal in doubt, and sanctions set to return, “there is no possibility for us,” Pouyanné declared, further noting the role of American shareholders and the significant portfolio of American assets of the French oil company.

But the imposing, formerly rugby-playing executive, did not shut the door to Iran completely. Reiterating a point made in the company’s press release regarding South Pars, Pouyanné stated, “The only way we can proceed is with a project waiver from the U.S.”

Acknowledging a contractual obligation to the Iranians to seek all possible means to remain in the project, Pouyanné confirmed that Total was engaging “with the French government and the U.S. authorities” to raise the prospect of such a waiver, which will not be “easy to obtain.”

Looking to the wider political context, Pouyanné pointed to the early measures being taken by European governments, which may have a bearing on the effort to secure a waiver, reminding the audience that “in 1996-1997 when we made the first South Pars project, [Total] had such a waiver. It was the result of a diplomatic discussion between Europe and the U.S."

The prospects of a diplomatic discussion are dim and Pouyanné recognized that the disagreement over Iran policy is “a big test for the U.S.-Europe relationship" and one that is “beyond Total, as a commercial operation."

Nonetheless, Pouyanné issued a warning: “What would be not good neither for the U.S., nor for Europe, is if that at the end only Russia and China can do business in Iran.” Earlier on Thursday, Iranian authorities had announced that Total’s joint-venture partner in South Pars, Chinese state oil company CNPC, would be assuming Total’s share of the project. Pouyanné was also likely alluding to the presence of Russia state oil company Zarubezhneft, which has signed two major oil deals in Iran. He warned the “Atlantic allies” to consider whether they “want to give all the Middle East region to China and Russia, as this is what we are doing step after step.”

The geopolitical implication of  blocking companies such as Total from working in Iran may form the basis of the companies lobbying to receive a waiver from the Trump administration.

Reflecting on what the pullout from the Iranian market meant, Pouyanné struck a philosophical tone, highlighting the importance of loyalty in the oil industry. Responding to a question about Total’s perseverance in Venezuela in an increasingly hostile environment, Pouyanné pointed to the case of Iran, noting “You have to stay as long as you can, because people remember... They remember the company when it stands together in difficult times.”

In the oil industry, he explained “leaving a country is a very tough decision, because it takes a lot of time to convince people that we can come back. It is a question of loyalty.”

Photo Credit: Wikicommons

Iran’s Energy Sector Takes Stock After Year of Ambivalent Results

This article was adapted from a report originally published by the Oxford Institute for Energy Studies.

The last Iranian year, which ended in March, saw several interesting developments for Iranian energy, both domestically and internationally.

Numerous challenges remain, hampering the growth of the country’s energy industry – not the least due to complex politics in Iran and abroad. In particular, Iranian energy is overshadowed by mounting uncertainty due to the standoff over the future of the nuclear deal. Nevertheless, there has been progress not seen in years.

Internationally, Iran commenced natural gas exports to Iraq in June 2017. This was Tehran’s first successful natural gas export project in over a decade.

Moreover, Tehran concluded its first two international energy contracts following the introduction of a new fiscal scheme, the Iran Petroleum Contract (IPC), and the implementation of the Joint Comprehensive Plan of Action (JCPOA), as the nuclear deal is formally known.

In July 2017, Petropars formed a consortium with French major Total and China’s to develop the eleventh phase of the giant South Pars natural gas field. In March 2018, the National Iranian Oil Company concluded a contract with Russia’s Zarubezhneft and private Iranian company Dana Energy to increase output at the Aban and West Payedar oil fields.

These events constitute important milestones on Iran’s journey to re-connect with global energy. At the same time, it would be wrong to assume that the obstacles hampering the growth of Iran’s energy sector are now overcome—not only because of Trump and the uncertain future of the JCPOA.

Rather, in each of these cases, the circumstances have been rather unique. As for Iraq, close political ties with Baghdad allowed for the project to succeed. This distinguishes the Iraq project from other export plans, where political and commercial issues remain complicated—for example Oman and Pakistan (ongoing) or the United Arab Emirates (in the early 2000s).

Shortly after natural gas exports to Iraq commenced, the Total/CNPC contract was signed. But here, too, the circumstances are rather unique. First, the company has a long history with Iran and the complicated international politics accompanying the country’s energy sector. Already in the 1990s, the French company’s planned engagement in Iran played a key role in the EU’s action to push back against extraterritorial US sanctions. These were introduced by Washington under the 1996 Iran and Libya Sanctions Act (ILSA). In response to ILSA (as well as US extraterritorial sanctions against Cuba), the EU introduced so-called “Blocking Regulations” legislation and filed a dispute against the US at the World Trade Organisation.

The EU’s moves forced the Clinton administration into adopting sanctions waivers, which suspended the implementation of US secondary sanctions and allowed Total to proceed in Iran. Ever since, despite being forced to leave the country in 2010 due to EU sanctions, Total has remained committed to Iran, openly criticised sanctions against the country, and always kept its office in Tehran open—different from other companies.

Second, Total is able to bring its own finance to Iran. The company affords the initial $1 billion investment from its own reserves. With the reluctance of major international banks to return to Iran, fearing punitive measures by the US, finance for large projects remains a huge problem.  Being able to bring its own finance sets Total apart.

Last but not least, Total is investing in Iranian natural gas, not oil. In the political economy of Iranian energy, the two hydrocarbons differ markedly. More than half of Iran’s oil production is exported, while less than 5% of the country’s natural gas output is sent abroad. An advancement of Iranian natural gas capacities frees some oil for exports. But the link between increases in production and export revenue is much weaker. Thus, investing in natural gas does not immediately lead to more hard currency at the disposal of the Iranian state.

In light of this, a case can be made that investments in Iranian natural gas projects are more acceptable to Washington than oil. At any rate, both before and after the conclusion of the South Pars contract, Total has frequently acknowledged the importance of the US position for its engagement.

Iran’s second international energy contract, with Zarubezhneft, was particular, too. It combined two firsts in one contract: the deal marked Iran’s first upstream contract with a Russian company and also the first international contract awarded to a private Iranian company, Dana Energy. 

Beyond this, the deal is further testimony to the fact that Zarubezhneft, controlled by the Russian government, seems unimpressed by the Trump administration’s harshening stance towards Iran. Unlike Western IOCs, Russian (and also Chinese) state-owned companies might benefit from being able to take a different position when it comes to assessing political and economic risks related to Iranian energy.

The significance of different risk-assessments cannot be underestimated: Iran’s energy sector continues being surrounded by multiple and complex political and economic challenges. These include ample supplies in global energy, efforts by conventional producers to keep barrels away from markets, domestic political opposition to international and especially Western companies in Iran, and—almost overshadowing everything else—the prospect of the US leaving the JCPOA.

Parallel to the ups and downs at the international level, the domestic politics of Iranian energy saw interesting developments, too. In January 2018, Supreme Leader Khamenei reportedly told the Revolutionary Guards (IRGC) to divest from those parts of their wide-spanning business conglomerate that are “irrelevant” to their core purpose. If followed up by meaningful action, this would have wide-ranging consequences for Iran’s energy sector, where the IRGC maintain a considerable presence.

However, several economic and political questions in this regard remain unresolved until now. Politically, it will need to be defined which of the IRGC’s economic activities are actually considered being “irrelevant." Arguing Iran should reduce international dependencies, conservatives might call for the IRGC to maintain a certain presence in strategically vital sectors, including energy. Economically, it is unclear who could actually take over businesses from the guards. Considering the sheer size of the IRGC’s economic holdings, Iran’s private sector seems unprepared to stem a larger IRGC divestment. Meanwhile, foreign ownership remains highly problematic in Iran.

All this suggests that IRGC divestment from the energy sector and the broader economy would at best be slow and gradual. Somewhat, the process has already begun as the administration of president Rohani reduced the number of public contracts awarded to the IRGC in recent years. Still, the IRGC have yet to indicate their willingness to actually divest. It would therefore likely take years until the IRGC have meaningfully reduced their economic profile.

Moving forward, Iran is keen to build on the momentum of last year’s developments. In doing so, the question of whether the Trump administration will stay in the JCPOA and renew sanctions waivers on May 12th will have great importance.

At the same time, a withdrawal of the US from the JCPOA and the re-imposition of nuclear-related US sanctions would not immediately bring Iran back to its pre-sanctions position. In particular, it is unlikely that Tehran’s oil exports would collapse to pre-JCPOA levels.

Europe’s role is crucial here: As long as Tehran fulfils its commitments under the JCPOA, the EU is unlikely to bring back its energy and finance sanctions against Iran. These, however, were deceive in forcing down Iranian oil exports by more than half after 2012.

Some Asian countries, most likely Japan and South Korea, might voluntarily reduce parts of their imports of Iranian oil. But without Europe joining the sanctions effort, the re-imposition of US nuclear sanctions is unlikely to dramatically affect Iranian oil exports.

Nevertheless, if the US decides to withdraw from the JCPOA on May 12th, this would obviously still hit Iranian energy hard. Very likely, it would effectively prevent further European IOCs from engaging in the country—and thereby significantly hamper the growth of Iran’s energy sector.

Photo Credit: AP/REX

Zarubezhneft Signs Two Major Oil Contracts in Iran, Bucking Uncertainty

Russian news agency TASS is reporting that Zarubezhneft, a Russian state-owned oil company, has signed two major contracts with the National Iranian Oil Company (NIOC). 

The agreements will see Zarubezhneft exploit the Aban and Western Paydar oil fields in a consortium with Dana Energy, an private sector Iranian oil services company. 

While Zarubezhneft has yet to officially provide comment on the reports, a signing ceremony is expected to take place in Tehran. The value of the deals is expected to be around USD 700 million. 

Earlier this month, Russian Energy Minister Alexander Novak had announced that such a deal was imminent. 

The Aban and Western Paydar deals had been long-anticipated, with the initial memorandums allowing Zarubezhneft's study of the fields signed in 2016. Both projects lie close to Iran's border with Iraq. 

The Russian energy giant is evaluating four further fields: the Sepec, Jofeir and Darkhuain oil fields, as well as gas reserves in Kish.

Iranian oil Minister Bijan Zanganeh had expressed confidence that Iran would see further investment commitments in the oil sector prior to the Iranian new year, which begins next week. Zarubezhneft's move will be closely watched as Iran's oil and gas sector seeks to navigate considerably uncertainty, including political uncertainty around the Iran nuclear deal. 

It is unclear how Zarubezhneft's investment would be affected by possible snapback of U.S. secondary sanctions. But it is notable that it is a Russian state-owned enterprise is making this move in the uncertain environment. 

This is the second major energy deal signed in Iran since the lifting of international sanctions and follows Total's landmark USD 5 billion deal to develop Iran’s South Pars gas field in cooperation with China National Petroleum Company and Iranian firm Petropars. That deal was signed in July 2017. 

Photo Credit: Wikicommons

Total CEO Pouyanné Considers Measures to Protect European Business in Iran

In a major interview given to French newspaper Le Monde looking at Total’s strong performance in 2017, CEO Patrick Pouyanné was asked about the “American threat” to the company’s “important gas project” in Iran. Pouyanné’s forthright response marks perhaps the first time that a major European executive has publicly called for a diplomatic intervention to protect commercial interests in Iran.

Total’s CEO explained that the South Pars project was “progressing well, without delay, and [Total] continues to work, even if the situation with the American Congress is rather vague.” He noted that even if the Americans “decide to exit the nuclear agreement and if secondary sanctions return in place,” it would pose a “real question” for the French energy giant.

However, echoing comments made to reporters on the sidelines of Davos, Pouyanné did not cast snapback as an automatic game-over for the South Pars project. Rather, he suggested that it was necessary to “clarify the horizon for European business working in Iran.”

He explains that Total has been in discussions with French and European authorities about “means to protect investments already made in Iran, even in the case of the return of sanctions.” Pouyanné points to the experience of European blocking statutes and sanctions waivers applied in the 1990s which proved sufficient to to protect Total’s gas projects at the time. Pouyanné concludes by noting that it is “up to European diplomats to consider these questions.”

The confidence of Pouyanné’s response stands in stark comparison to the general uncertainty that has gripped the business community and will be seen as an important signal. The landmark USD 3.8 billion South Pars project is seen as a bellwether for the larger project of Iran’s post-sanctions economic recovery.

However, Total is far from the only major European multinational engaged in the Iranian market. Pouyanne was one of select group of European CEOs invited to dine with Donald Trump at a special dinner held during the American President’s trip to the World Economic Forum in Davos. Other guests included Siemens CEO Joe Kaeser, ABB CEO Ulrich Spiesshofer and Volvo CEO Martin Lundstedt. Overall, nine of the fifteen companies represented at the dinner are currently active in Iran, and a further five have had a historical presence in the market. Pouyanné’s peers are likely to share his sentiments on the need to protect European interests in Iran and the wider global economy.

While the legal value of blocking statutes or sanctions waivers is questionable given the greater interconnectivity in global markets and greater reticence of the banking sector to engage Iran when compared to the 1990s, the political message behind such measures could be valuable, enabling companies to seek creative solutions to structure their Iran engagements in a way that avoids sanctions exposure.

In a recent survey conducted by Bourse & Bazaar and commissioned by International Crisis Group, a substantial 54 percent of senior executives indicated that “assuming Iran remains committed to the nuclear deal,” blocking statutes, which would protect companies from U.S. penalties, would positively affect the “decision to invest in Iran.”

Photo Credit: Total

Long-Awaited Total Deal Signals Rising Investor Confidence in Iran

On Monday, Total will sign a long-awaited contract to develop Iran’s South Pars gas field in cooperation with China National Petroleum Company and Iranian firm Petropars. Total has been involved in developing the South Pars project since 1997 when it was the first international oil company to be awarded a contract following the Islamic Revolution. The landmark deal, which sees Total committed to a 20 year development roadmap, is valued nearly USD 5 billion. Total's share is 50.1%.

The announcement of the contract signing ceremony follows eight months of deliberations since the heads of terms was signed in November 2016. In the intervening period, Total has had to navigate a changing political environment, stubborn banking challenges, and wavering investor confidence. The move to conclude the contract signals positive developments in each of these three areas.

Total CEO Patrick Pouyanné, who has shown some bravado by speaking publicly about this deal as it progressed, had stated in February that progressing to a contract was contingent on the U.S. continuing its implementation of secondary sanctions relief as part of the Joint Comprehensive Plan of Action (JCPOA). With the increasingly hostile rhetoric of the Trump administration, continued sanctions relief had remained in doubt. But the administration has since confirmed Iran's compliance with the JCPOA and issued the relevant sanctions relief waivers in mid-May. Just a few days later, Iranian president Hassan Rouhani won a landslide reelection, solidifying his mandate to pursue international engagement and investment.

Total will also feel secure in the fact that European government leaders have been very vocal in their support for Iran and the nuclear deal. Federica Mogherini, Theresa May, Angela Merkel, and a host of European ambassadors have strongly advocated that the US stay the course with the nuclear deal both at the White House and on Capitol Hill. Looking together at these factors, Total must feel confident that the political environment remains conducive to the company's long-term investment in Iran.

At a more practical level, Pouyanné had acknowledged in April that Iran’s as-of-yet unsolved banking challenges were an impediment Total’s investment. The hesitance of international banks to provide financing or facilitate the recurring transactions necessary for day-to-day business in the country required Total to make a special effort to find its own solution. Pouyanné disclosed that Total was testing a new banking mechanism to get money in and out of Iran in a compliant way. This likely means that a medium-sized bank, probably French, has carved out a channel for Total to transfer funds to Iran without involving U.S. persons or U.S. dollars, thereby avoiding a so-called “U.S. nexus.”

While major European banks remain hesitant to do this kind of creative banking for Iran transactions, boards of directors are showing an increasing willingness to make exceptions on behalf of their largest clients and at the behest of national governments. Total's move suggests that the banking channel they created works, and this fact may help other large firms in their negotiations to receive banking facilities for Iran business.

Finally, Total’s contract signing will no-doubt boost confidence across sectors among both international and domestic investors. While Boeing and Airbus have notably concluded major contracts prior to the Total deal, the agreements for the sale of aircraft represent large-scale trade. The Total deal, which involves direct ownership and operation of physical, immovable assets in Iran, is true foreign direct investment with all of the attendant risk. That Total is proceeding is even more impressive considering the company will not start seeing revenues until 2021, when it has committed to bringing the first new gas to Iran's large domestic market. 

Additionally, proceeding to a full contract reflects that Total was satisfied with the terms of Iran's new standard oil and gas contract, known as the IPC contract. While Total’s clear desire to be the first-mover in Iran’s energy sector has meant that they have been somewhat more willing to overlook the known deficiencies in the IPC model, fear of missing out may see peer companies like Shell, Eni, and OMV decide to press forward with their own investment plans within the existing IPC framework. 

For Iran, the true value of the Total deal lies outside the oil and gas sector, which only accounts for about one-fifth of the country's economy. Rather, it is the investor confidence furnished by the Total deal, which will spur activity in other areas like infrastructure, transport, pharmaceuticals, and FMCG, that will really move the needle. Investors in these sectors will no-doubt welcome the deal as the sign of a rising tide. 

Photo Credit: Wikicommons

Emerging Privatization in Iran's Energy Sector Deserves a Second Look

The recent news that Austrian oil firm OMV has signed a preliminary agreement with Dana Energy, Iran’s largest and perhaps most capable private oil exploration and production firm, heralds the future of Iran’s energy sector. The agreement between an international oil company (IOC) and a private Iranian energy company is a significant development, given Iran’s long-held promise to privatize its oil and gas industries. The goal of privatization has been a constant feature of the Iran’s five-year economic plans since the 1990s. As economic sanctions were tightened beginning in 2011, investment dwindled and policymakers focused on promoting self-sufficiency in the oil and gas industries. Without access to new equipment, new technology, or best-in-class expertise, Iran’s production collapsed. This decline threatened government budgets as Iran lost global market share. Very quickly, Iranian authorities realized that achieving self-sufficiency actually required foreign investment-- there were too many technologies and management practices yet to be mastered in Iran’s oil and gas industries.

Iran’s reentry into global energy markets has been one of the most heralded aspects of the sanctions relief afforded as part of the JCPOA nuclear deal. Within the larger scope of economic reform, there was a strong expectation that the Rouhani administration would push for a greater role for the private sector in Iran’s oil and gas industry, finally getting the program of privatization back on track. The commitment is evidenced by the several private companies included in the Ministry of Petroleum’s list of approved local E&P partners for new tenders.

However, the first oil production contract under the new Iran Petroleum Contract (IPC) framework was awarded to Persia Oil & Gas Industry Development, a quasi-state company affiliated with Setad (the entity decreed by Supreme Leader Khomeini that encompasses both publicly and privately held assets, including various industries, companies, and real estate holdings.) The awarding of the contract in October, 2016 raised concerns that Rouhani’s support for private enterprise in the energy sector was being blocked by entrenched interests. A recent report by Reuters examined the range of contracts awarded since Implementation Day. The report concluded that state-owned enterprises were winning the lion-share of the new business, including oil and gas sectors. Of the 110 major contracts examined (collectively valued at USD $80 billion), only 17 contracts, worth USD $14.6 billion, were granted to private sector businesses.

The primacy of state enterprise has raised concerns among policy groups in Europe and Washington that the economic benefits of the Iran nuclear deal are not driving economic liberalization. The concern is particularly acute in the energy sector, given the immense importance of oil and gas revenues to government budgets and the significant involvement of state entities such the IRGC in the extractive industries.

There are, however, several reasons why critics should remain optimistic about the prospects for privatization. The Reuters report overlooks important context for the evaluation of post-sanctions contracts, particularly in the energy sector. First, state enterprise was better positioned than the private sector to win the early post-sanctions contracts. The initial wave of economic interest in post-sanctions Iran was marked by delegations led by economic ministers. Naturally, these government-to-government efforts focused on deals in sectors where government-involvement remains high both in Iran and in Europe. While it is widely known that companies like Iran Air, MAPNA, and Iran Khodro are state owned, it is worth remembering that their potential foreign partners like Airbus, Siemens, and Renault count European governments among their major shareholders. In the short term, while political uncertainty remains high, economic activity will naturally favor state-owned or state-backed enterprises in both Europe and Iran.

Second, concerns about awarding contracts to state entities ignore the matter of the actual contractual obligations of the parties. This is particularly important in the oil and gas industry, where the new IPC contracts enshrine clear provisions that support privatization in the long term. While the former “buyback” contracts treated the IOCs as contractors who handed off exploration and production projects to NIOC for operation, the new IPC contracts call for joint-ventures between IOCs and a local exploration and production (E&P) partner at the contracting stage, with a similar joint-venture managing operations when the project is production-ready. Two such examples are the Shell and NIOC oil exploration agreement and Total’s gas deal with Chinese state oil firm CNPC and NIOC subsidiary Petropars. In both cases, the state ownership interests represented by Iran’s NIOC or China’s CNPC will be diluted in the exploration and operation joint-ventures through the participation of Shell and Total, major private sector shareholders. In effect, the next wave of companies that will own Iran’s production capacity will include foreign, private sector ownership, even if domestic private firms are frozen out. This aspect of the agreements represents a significant shift that is missed when merely identifying the signatories to the contract. The obligation of the signatories to own and operate the assets is paramount.

Another provision in the IPC contracts that supports the agenda of privatization hinges on the question of technical and managerial knowledge transfer. In this sense, privatization can be understood as the propensity to behave in a manner consistent with the norms of private enterprise. While Iranian state-owned enterprises may be winning the majority of oil and gas contracts in the near term, the means by which they are defining their cooperation with foreign energy companies has moved to new ground. The new IPC contracts took long to develop, not simply because of the terms that were being offered to foreign companies in Iran’s energy sector, but also because of the new obligations being placed on Iranian energy firms.

The new joint venture companies established as part of IPC contracts will need to operate to the standards of the major shareholders, namely companies like Shell, Total, and Norway’s DNO. When compared to the companies previously operating Iran’s oil and gas fields, these newly-minted JV firms will need to conduct business more transparently, all the while reacting to market forces and adopting the global best-practices on which foreign partners will insist. Indeed, the IOCs working in Iran are required by the IPC framework to “gradually transfer” managerial positions to Iranian nationals in order to “facilitate the process of know-how and managerial skills transfers to the Iranian party.” While it might be unreasonable to expect oil companies to transfer ideas like corporate social responsibility and environmental protection, more fundamental skills like corporate governance, robust accounting, and compliance and risk management will be critical to the successful operation of the new JVs and will therefore have to be transferred to Iranian managerial teams. The significance of this shift cannot be overstated. It would be meaningless to privatize companies that would continue the bad habits and poor management typical of Iranian state-owned enterprises. Moreover, a well-operated and responsible state-owned oil company is compatible with Western business practice. Italy’s Eni and Norway’s Statoil are good examples.

Overall, the privatization of Iran’s oil and gas industry is proceeding at a greater pace than what a cursory look to the active players would suggest. Given that the redevelopment of Iran’s energy sector is only at the nascent stages of a decades-long process, it is far too early to sound the alarm.  

Photo Credit: OMV

Renewable Iran: Creating the Energy Network of the Future

The global energy industry continues to find greater value in efficiency and clean technology, with a rapidly growing reliance on renewable energy. For Iran and the Middle East however, oil and gas have hardly been challenged as the dominant industry forces. But now that Iran prepares to once again open doors to the international business community, we must ask if renewables can, or even should, play a greater role in the future of Iran’s energy sector.

So, what’s the problem?

Iran is the country with the world’s largest conventional gas reserves and is the world’s third largest producer of natural gas - behind the US and Russia. Given these abundant reserves and production, you have to question why has a country of Iran’s population been a consistent net importer of natural gas during the last decade. The answer is Iran has very high per capita consumption of gas and other fossil fuels, with much of it going into power generation. In 2014, Iran burned 50 billion cubic meters of gas for power generation: that is more than in the UK, Germany, Italy, and France combined. In fact, in 2013, Iran consumed more gas than China, and was the 8th biggest energy consumer in the world, despite being the 32nd largest economy (World Bank) and the 17th most populated country. 

Moreover, according to the International Energy Agency (IEA), Iran is among the top ten global emitters of CO2. Iran is the top emitter in the Middle East and accounts for almost a third of the region’s total carbon emissions. Fossil fuels account for almost 98% of Iran’s total primary energy consumption.

Of the 70 gigawatts (GW) of power generation capacity installed in the country, only around 11 GW are low carbon sources with most of that hydro (10 GW) while 1 GW is nuclear, and 0.1 GW is either solar or wind. The rest is largely old, inefficient, and polluting fossil fuel power plants burning either fuel oil or natural gas. According to Iran’s Ministry of Energy, over the past decade electricity demand has grown by almost 6% annually, and is expected to grow by at least 2% - 4% through the end of the decade. There are now more than 30 million grid connected clients in Iran, compared to less than 20 million only ten years ago. 

So, Iran faces the problem, how can it meet this rapidly growing electricity demand while reducing its consumption of gas and fuel oil to eliminate imports (and facilitate exports), reducing carbon emissions to more average global per capita levels, effectively addressing the challenging air quality issues, and still attracting foreign investment and new technology?

The Role of Renewables

The answer is likely to be found in a combination of a modernisation of its power generation capacity, greater energy efficiency, and much greater reliance on renewable forms of generation.

In terms of renewables, Iran is naturally blessed with very good solar and wind conditions. Iran receives around 300 days of sunshine each year, compared to less than 64 days in Germany, the world’s leader in solar power with almost 25% of the global solar power capacity. The Global Wind Energy Council stated that some of Iran’s mountainous areas in the west and northeast have unique wind corridors that have plenty of potential for renewable generation.

The Iranian government is starting to get that renewables should now be an important part of the country’s energy strategy. In early 2014, Iran’s Ministry of Energy unveiled its plans for adding some 5 GW of renewable power capacity, mostly wind, to the country’s power fleet by 2018. Since the beginning of 2014, construction for around 400 MW of renewable capacity has started, and contracts for more than 500 MW have been awarded. The Iranian government increased its budget for renewable energy by more than 400% last year to around $60 million; although still small, the growth is going in the right direction.

Iran has also adopted a number of new policies towards renewable expansion, using similar policies to many Western European countries and opening up the sector to foreign investors. The Ministry of Energy has set up the Renewable Energy Organization (SUNA) that will administer these policies that include a feed-in-tariff scheme, under which the Ministry of Energy will buy the power generated from renewable sources at set tariffs for a 20 year period. At the set energy tariffs, investors are expect to be able to recover a full return on their investment in around four years of operations. In addition, the Iranian government is committed to providing up to 50% of the cost of installing residential solar panels, and to installing solar panels in public buildings. 

Another spur to renewables growth comes from the calls to introduce a carbon emissions trading scheme. In February 2014, Iran announced that it is planning to introduce an emission trading scheme (ETS) that would cover its power sector. Although little information is available about the structure of the scheme, it is certain that such ETS's are designed to discourage the use of inefficient fossil fuel burning power plants. The emissions cap will eventually increase the power generation costs for inefficient power plants and will further support the growth of clean energy and renewables.

With all the challenges Iran is facing, renewable energy offers a unique sustainable solution for Iran to fundamentally overcome these issues, while providing significant investment opportunities for international investors, and also boosting the overall sustainability of economic growth. 

Photo Credit: Wikimedia