This week, Shadow Governance is releasing a report detailing Iraqi Kurdistan’s oil sector, looking at key power players, and the various operational risks affecting the industry’s profitability. The following analysis is based on selected extracts from the extended report, soon to be available via the Shadow Governance Report Store.

Iraqi Kurdistan has played host to one of the fastest growing markets in recent years. With high-end estimates of 45 billion barrels of oil worth of reserves, the region is likely to remain a key destination for oil companies for many years to come.

Within the Iraqi context, noteworthy nuances have arisen in tandem with the historical presence of the Kurdish population in the region now known as Iraqi Kurdistan. Post-2003 political events have given a platform to Kurdish elites, who govern and officiate the affairs of the region known as the Kurdistan Regional Government (KRG). Almost since day one of its autonomy, the energy sector for the KRG has served as an overtly political tool that has been used to challenge the authority of Baghdad.

Constitutional Flaws
As noted in a previously released Shadow Governance analysis, the Iraqi constitution presents the country’s political elite with dilemmas due to its ambiguity. Negotiations during the drafting of Iraqi’s 2005 constitution were hampered by political infighting, and it has bequeathed a legal legacy reflective of this domestic fragmentation. This is to say that the constitution remains subject to vigorous debate among factions in Iraq, and is central to oil sector disputes between the KRG and FGI.

Tied into constitutional considerations, the Iraqi budget has been an arena for power plays between officials in Baghdad and Erbil in recent years and especially since 2014. The constitution stipulates that the KRG is entitled to 17% of the Iraqi budget and holds that oilfields in Iraq belong to all Iraqis. However, there is a lack of unanimity between both parties with regards to the management of the oil fields, what constituted “existing fields” at the time of writing, and conditions for receiving/distributing budgetary entitlements.

Both Kurdish and Iraqi officials have promoted separate legislation aimed at narrowing the ambiguous parameters of the constitution since 2005. The Kurds have arguably mobilised the most efficiently of the pair, having passed their own oil law in 2007 as a basis through which to develop out its energy resources. Iraq’s efforts stalled and appear permanently ‘in progress’ and all the while the legal disputes continue.

The View From Erbil: Disunity Within Disunity
In tandem with this, the development at a political level in the capital city of the KRG, Erbil, are in and of themselves noteworthy for the viability of the oil industry. Indeed, outlining and agreeing the governance roadmap for the KRG for the upcoming years will be of upmost important to all major public and private stakeholders in the region.

Since the political deadlock of August 2015, driven by the presidency crisis and disputes over a further extension of Massoud Barzani’s term, the political process in the KRG has been fractious and riddled with negative rhetoric between the three main parties (Middle East Research lnstitute, 21.11.2016); the Kurdish Democratic Party (KDP, led by Massoud Barzani), the Patriotic Union of Kurdistan (PUK, led by Jalal Talabani) and the Movement for Change (Gorran, led by Neshirwan Mustafa, until his death on the 19th of May 2017).

Historically, the KRG has been split into KDP and PUK ‘zones’ following the Kurdish infighting in the mid-1990s. KDP zones are mainly seen as Duhok, Erbil and parts of Nineveh, whilst PUK zones are mainly Sulaimaniyah and parts of Kirkuk (Middle East Research lnstitute, 01.08.2016). Whilst the awarding of contracts is overseen by the Minister for Natural Resources, Ashti Hawrami, Shadow Governance sources have confirmed that they are awarded in coordination with stakeholders on-the-ground that control the oil fields. Duhok and Erbil are controlled by KDP officials (predominantly the Barzani’s), whilst Sulaimaniyah and operations in Kirkuk are overseen by the PUK officials (the Talabani’s in Sulaimaniyah and Kosrat Rasul Ali in Kirkuk).

It is difficult to envisage any major institutional decisions being taken in the KRG without the current political deadlock being fully resolved with agreement from all factions. Despite the external challenges faced by the KRG, such as the fall in oil prices and the security threat from ISIS, it is arguable that the biggest threat to the region’s investment potential are intra-Kurdish political disputes and the problematic relationship with the FGI.

Turkey and the Role of Private Entities
The legal vacuum and internal political fighting in the KRG has led to a high degree of personalisation of its institutions, which are mainly sustained and controlled by the Barzani clan.

The legal and political fight with Baghdad has also triggered the empowerment of other international actors in the KRG, most notably entities from Turkey. The current alliance between Erbil and Ankara comes amidst the political competition vis-à-vis Baghdad and local Kurdish factions, these relations are also highly personalised. This cooperation can be reduced to the personal relations between Barzani and the Turkish President, Recep Tayyip Erdogan.

KRG began exporting oil for the first time to Turkey’s ports by trucks in June 2009 when Jalal Talabani was Iraq’s President. Supplies originated from Genel Energy’s Taq Taq and Tawke fields, which is where Genel’s concessions from the KRG are focused (UPI, 2009).

Genel is owned by Mehmet Emin Karamehmet, a former Turkish media mogul, and Mehmet Sepil, who sold all his shares in 2016. The sale of these shares triggered the merger of Genel with UK-based Vallares PLC in September 2011. Currently, Genel operates in six fields in the KRG; oil production fields in Taq Taq and Tawke, gas production in Miran and Bina Bawi, and exploration fields in Chia Shurkh and Peshkabir.

Arguably, Genel would not be active in the KRG if it were not for its political relationships – both through Turkey, and the KRG.

Militancy and the Security Threats to Operations
Even though Iraq has been faced with continuous threats to its internal security since the U.S.-led invasion of 2003, an assessment of Iraqi Kurdistan shows that the Northern region remained somewhat insulated from the country-wide violence

However, the post-2014 period marks a break in this status quo, as the Northern portion of the country has been persistently tested by armed militancy over the past three years. Not only is this a problem in terms of challenging civilian and governmental control but it threatens the operational capacity of the Kurdish petroleum industry.

Oil fields and refineries in Baiji, Qayyarah, Najmah and Ain Zalah have been directly affected by ISIS and the Turkish-Kurdish border remains ostensibly vulnerable to the activities of the Partiya Karkerên Kurdistanê (PKK). The Peshmerga forces are notably well organised and well equipped, which has served to thwart ISIS gains in Kurdish areas, so the security cost to firms in the region is likely to remain high.

Most poignantly, the costs to IOCs in the KRG region has been primarily incurred as a result of Erbil’s attempts to stifle militant groups. As a small and relatively dependent government itself, the KRG’s hands are tied with respects to its incoming and outgoings. Heavy investments into security and defence have directly impacted its ability to balance payments vis-à-vis private energy actors – leading to substantial losses in some cases.