Iran Oil Production,Investment Policy,International Sanctions and P5 + 1 Deal with Iran,2006–2015

Introduction

The purpose of this article is to shed some light on the type and magnitude of various factors affecting Iran’s oil production, oil exports, and investment policy and try to answer the following question: What has been the oil production strategy of Iran as an oil exporting country since 2006, when the Security Council imposed sanctions on Iran for failing to halt uranium enrichment unanimously passing the UNSCR 1737 (United Nations, 2006). It will be argued that after 1998, the government’s main obsession was the expansion of oil production capacities and maintenance of the share of Iran as one of the world’s largest oil producer. The next question is devoted to the challenges that Iran faces to remain as a main oil exporter after the P5 + 1 deal? It is noted that financial restrictions and international environment are two decisive elements that shape Iran’s future oil development strategy. The article is organized in five sections; the first discusses policies adapted to cope with external pressures and strengths, and the bargaining power of Iran within the Organization of the Petroleum Exporting Countries (OPEC) was only somewhat easing the effects of sanctions. A detailed analysis of Iran quarterly oil production and exports and their trends is the subject of the second section. The third section examines the intensification of international sanctions against the Iranian oil sector and is followed by a discussion on the Joint Plan of Action (JPOA). The penultimate section stresses the importance of P5 + 1 deal with Iran and its impact in determining the future of Iran’s oil sector. The last section provides tentative prognosis over the future of the Iranian oil sector.

Iran Oil Production and Investment

The Iranian daily oil production in 1999 and early 2000 was somewhat above the quote set by the OPEC. When in March 2000, OPEC responded to what was seen as a dangerously high oil price of around US$30 per barrel by increasing aggregate production quotas set in April 1998 at 1.7 million barrels per day, only Iran declined to accept the Saudi-proposed plan, on the grounds that OPEC was buckling under the US pressure for lower oil prices. From the beginning of November 2000, Iran’s OPEC quota was further raised to 3.917 million barrels per day as OPEC continued to respond to upward price pressures in the world oil markets. The trends in Iran’s oil production are shown in Annexure 1. These trends reflect sharp variations over time because of the impact of changes in oil prices and drop in Iranian oil production during the revolution and Iran–Iraq war (1980–1988). Iran’s oil production in 2001 was reported to have been above the OPEC quota, averaging some 3.66 million barrels per day. It dropped in 2002 to 3.42 million barrels per day, but rose to 3.75 million barrels per day in 2003, the highest level of oil production after 1979 revolution. Iran’s average oil production was 3.63 million barrels per day between 2000 and 2003 (see Annexure 2). Iran had experienced a growth in oil export revenues between 2004 and 2007 so that the share of Iran in the global oil production had reached to 5.6 percent (Hassani & Nojoomi, 2010). However, the share of Iran as percentage of total OPEC production dropped from 13.48 percent between 2000 and 2003 to 12.5 percent between 2004 and 2007. The oil production had reached 4.1 million barrels per day since 2005 (see Annexure 2).

In the mid-1970s, Iran’s oil production peaked at an all-time high of around 6 million barrels per day, a substantial increase from around 2 million barrels per day in the mid-1960s. However, domestic instability in the years immediately after the 1979 revolution and the outbreak of the Iran–Iraq war in September 1980 contributed to a steep production decline in the 1980s (see Annexure 1). There were some additional reasons that were responsible for the declining trend: (a) Iraqi shelling of the Abadan refinery put the plant out of action; (b) Iraqi attacks on Iran’s main export terminal at Kharg island; (c) an increase in domestic consumption, which in mid-1982 was believed to be between 600,000 barrels per day and 700,000 barrels per day; and (d) the extension of international sanctions on the Iranian oil sector (ibid.).

The oil production level never reached 6 million barrels per day that was briefly achieved in the 1970s. In order to achieve higher growth rates of production and exports, the role of foreign firms in the Iranian oil industry was strengthened once again by the reconstruction and expansion program in 1988. By this time, projects had become more complex and foreign technology and capital more essential. In particular, technically complex offshore development projects could no longer rely on domestic skills. The pressure from the United States on its Western allies not to do business with Iran, especially, where transfer of advanced technology was required slowed down full cooperation with foreign companies.

Since mid-1990s, mechanisms for encouraging foreign involvement in oil projects were developed as an alternative. In 1995, a buy-back production sharing system was developed by National Iranian Oil Company (NIOC), whereby foreign oil companies can invest in the Iranian oil fields and recover their investments and profits through the sale of produced oil. Thus, for instance, a number of international oil companies showed renewed interest in the Iranian offshore fields in the Persian Gulf. An agreement was concluded in March 1995 with the US-based Conoco of Houston, which had submitted a proposal to develop the offshore Sirri crude oil field. This field contained reserves estimated at nearly 500 million barrels and was expected to produce 120,000 barrels of crude in a day (ibid.). The US$500 million scheme was to have been financed through a buy-back agreement. However, the US administration passed the Iran–Libya Sanctions Act (renamed as Iran Sanction Act (ISA) in 2006) banning US companies from developing Iranian oil. Conoco subsequently announced that it was withdrawing from the agreement, which was the first oil field development scheme awarded to a foreign company after 1979.

The US administration’s economic embargo on Iran provided an opportunity for other countries. In July 1995, a contract was awarded to Total of France. In December, the same year, Russia signed a provisional agreement with Iran to establish joint venture companies in oil exploration, production, and sales. In the same month, the US Senate approved legislation for a secondary economic boycott against Iran, which was apparently aimed at paralyzing the Iranian oil industry. In 1996, President Bill Clinton finally endorsed legislation which would penalize non-US companies that invested more than US$40 million in a year in oil and gas projects in Iran and Libya (Katzman, 2016). However, in spite of the US pressures, NIOC continued with its programs to expand offshore production but production at some of its fields have been affected due to problems in obtaining spare parts for equipment that were already supplied by US companies.

In spite of attempts to boost foreign investment in the oil sector, Iran has been facing serious difficulties in maintaining its share of oil production and exports among OPEC members. Oil exporting countries such as Saudi Arabia, UAE, Kuwait, Nigeria, and Angola have long-term plans to increase production and exports. In fact, the US-led sanctions not only prevented the expansion of the Iranian oil sector in terms of production and export, but also reduced the bargaining power of the country due to drop in oil revenues and reduction in the rate of growth of the economy (Hassani & Nojoomi, 2010).

The ISA is among many US sanctions in place against Iran and since its first enactment has attracted substantial attention because it is an “extra-territorial sanctions.” It authorizes the United States to impose penalties against foreign firms, many of which are incorporated in countries that are US allies. ¹ The US Congress and Clinton administration (1993–2001) saw ISA as a potential mechanism to compel the allies to join to the United States in enacting an effective trade sanction regime against Iran. American firms are separately restricted from trading with or investing in Iran under separate US executive measures. Individuals or entities determined to be part of the energy sector of Iran, providing significant goods or services used in connection with the energy sector of Iran were penalized.

The US laws make sanctionable certain activities relating to the Iranian energy sector, regardless of whether these activities are conducted with the specific sanctioned person or entity. These activities include: engaging in significant transactions for the purchase, acquisition, sale, transport, or marketing of petroleum or petroleum products from Iran and selling or providing refined products to Iran above certain monetary thresholds (US Department of State, 2014a). The ISA primarily targets foreign firms because American firms were already prohibited from investing in Iran under the 1995 trade and investment ban. The pre-2010 version of ISA requires the president to sanction companies, entities, or persons that make an “investment” of more than US$20 million in a year in Iran’s energy sector.

Intensification of International Sanctions

President Mahmud Ahmadinejad (2006–2013), by dismissing Bijan Namdar Zanganhe (1997–2005) as Minister of Petroleum, was successful in disrupting the supremacy of the previously dominant elite but he was unable to establish his own hold on the ministry, with parliament repeatedly rejecting his nominees for the post. The oil ministers Kazem Vaziri Hamaneh (2005–2007) and Gholam Hossein Nozari (2007–2009) were not members of Ahmadinejad’s inner circle but were oil industry insiders having strong affiliations with the National Iranian South Oil Company (NISOC). Moreover, they were also often at odds with the president and hence both stayed as oil ministers for relatively short period (Blair, 2007).

In September 2009, President Ahmadinejad appointed Masoud Mir Kazemi (2009–2011), who was the most compliant of his oil ministers but he departed acrimoniously. Ahmadinejad appointed himself briefly as a caretaker oil minister in 2011. The appointment of Rostam Ghasemi as the oil minister in August 2011 and subsequent flurry of developments in the oil sector decisions marked an end to a period of disruption. At the OPEC meeting in December, an agreement was reached very quickly and that too with little acrimony on maintaining OPEC output at 30 million barrels per day. Observers noted that the Iranian delegation seemed “somewhat subdued” (Stevens, 2012). This could imply some sort of back-room deal, whereby Saudi Arabia would not rush to fill the gap in return for the Iranian support in OPEC. After all, the al-Saud have to live in the region at a time when their attitude to Washington is tinged with deep suspicion following the American abandonment of Mubarak with what was seen in Riyadh as an indecent haste (ibid.).

A Chinese tanker loaded crude in Iran in March 2012, according to the shipping data and an industry official, this was the first time a China-flagged ship transported Iranian crude since European Union (EU) sanctions imposed in July 2012 stopped incurrence cover for Iranian oil shipments. The United States and the European Union imposed tough sanctions in 2012 with an aim to choke Iran’s oil revenue and force the Islamic Republic to halt its disputed nuclear program. Unable to find insurance for its own vessels because of the sanctions, China relied mainly on the National Iranian Tanker Company (NITC) to ship crude to Chinese refineries over the period (Aizhu, 2012). The lack of precise definition of “significant reduction” in oil purchases gave the US administration flexibility in applying the exemption provision. During Ahmadinejad presidency, Iran’s oil strategy was based on more cooperation with China and hence, Chinese oil companies signed a number of agreements with Iran. In January 2009, Chinese National Petroleum Corporation (CNPC) and NIOC inked a nearly US$2 billion deal to develop the North Azadegan oil field which could produce 75,000 barrels per day by 2012. Development was set to take place in two phases spanning 30 years; by its end, the field could produce up to 150,000 barrels per day. Pending NIOC’s approval, drilling was slated for 2010 (Dubowitz & Grossman, 2010).

The CNPC signed a deal with NIOC’s overseas investment subsidiary, Naftiran Intertrade Company (NICO), a US Treasury designated entity, in September 2009 to develop the South Azadegan oil field, buying 70 percent of the project. CNPC was reportedly to hand over the field to NIOC after development and was to receive payments from the oil production to cover the investment. In July 2010, CNPC’s Master Development Plan (MDP) for the project was approved, enabling the company to develop the field. Moreover, in 2009, the CNPC replaced France’s Total to develop South Pars phase 11. CNPC has a 12.5 percent share of the project, valued at over US$13 billion and the deal was finalized in February 2010 (ibid.).

Japan since March 2012 and 10 EU countries since July 2012 have secured limited exemptions from the Iran-related sanctions (Katzman, 2016). The 10 EU countries were Belgium, Czech Republic, France, Germany, Greece, Italy, the Netherlands, Poland, Spain, and Britain. The other 17 EU countries were not granted exemptions because they were not buying Iran’s oil and could not “significantly reduce” their purchases from Iran. Since June 2012, the following countries have secured exemptions due to significant reductions in their imports from Iran, namely, China, India, South Korea, Turkey, and Taiwan (Lakshmanan, 2012).

Moreover, since June 2012, the following countries have obtained exemptions based on their ending oil purchases from Iran, namely, Singapore, Malaysia, South Africa, and Sri Lanka. Iran’s oil production averaged 3.666 million barrels per day in 1998. The production went up to 4.106 million barrels per day in 2005 (see Annexure 2). There were physical impediments to production created by a number of sanctions imposed by the United States as well as by the United Nations directed at the Iranian oil industry as well as an increased barriers for buyers to which Iran did not react in time. In order to rekindle interest in its energy sector and to attract foreign capital and technology, in 2013, Iran announced that it was drafting a new model of contract to govern upstream hydrocarbon activities (Iranian Petroleum Contract or IPC).

Although the actual draft of IPC has yet to be made public, Iranian representatives have indicated that the IPC would have the characteristics of both a buy-back and production sharing contract, tailored specifically for Western oil companies with an enhanced focus on profit sharing. While the technology transfer and hydrocarbon ownership requirements would remain, contractors would partner with the NIOC to carry out exploration, development, and production activities, possibly extending to enhanced oil recovery. The IPC would be a longer term agreement, first announced to last for 20 years and subsequently expanded to 25 years (Yeganehshakib, 2015). The seven year limitation on capital recovery would remain, but this period may be extended in the event that the contractor’s costs are not recouped during that period. In addition, the IPC would aim to reduce delays in the decision-making process with the NIOC as compared against under the buy-back contracts. Sanctions against Iran’s energy sector seek to degrade Iran’s ability to produce, sell, transport, and profit from its oil and gas—the nation’s most important natural resources, and the EU imposed an oil embargo in 2012 (European Union, 2012) and the United States permitted only China, India, Japan, South Korea, Taiwan, and Turkey to purchase Iranian oil at a fixed level. Iran can use that revenue only to purchase humanitarian goods (anywhere in the world) or to purchase goods from the country to which the oil was sold On 1 July 2010, President Barack Obama signed into law the Comprehensive Iran Sanctions, Accountability, and Divestment Act (The Comprehensive Act or CISADA), extending the energy sanctions contained in the ISA.

The US laws make sanctionable selling, leasing, or providing to Iran support, goods, services, technology (and at times information) above certain monetary thresholds that could directly significantly contribute to Iran’s ability to:

On 31 December 2011, President Obama signed the National Defense Authorization Act for the fiscal year of 2012 which directed the president to impose sanctions aimed at limiting Iran’s ability to finance its nuclear ambitions (Katzman, 2016). In order to strengthen the sanction laws toward compelling Iran to abandon its nuclear activities, on 3 January 2012, the US Congress had approved the Act H.R.1905 (Cordesman, Gold, & Coughlin-Schulte, 2014).

The CISADA added a provision to further incent foreign companies to comply with the ISA. It requires companies, as a condition of obtaining a US government contract to certify to the relevant government agency that the firm and any companies it owns or controls are not violating ISA, as amended. The contract may be terminated and further penalties imposed, if it was determined that the company’s certification of compliance was false. Under the special rule, the US administration is not required to make a determination of sanctionability against a firm that makes such pledges. This special rule was invoked on 30 September 2010 and again on 17 November 2010.

The Joint of Plan Action (JPOA)

In November 2013, the P5 + 1 countries (that is, the United States, the United Kingdom, France, Russia, China, and Germany) and Iran announced that they had agreed upon the JPOA. The P5 + 1 pledge to undertake the following measures:

Pause efforts to further reduce Iran’s crude oil sales, enabling Iran’s current customers to [p]urchase their current average amounts of crude oil. Enable the repatriation of an agreed amount of revenue held abroad. For such oil sales, suspend the EU and U.S. sanctions on associated insurance and transportation services. (European Union, 2013, p. 3)

This agreement provided for limited sanctions relief while negotiations proceeded. The clause of the JPOA that deals with oil sales falls under the section listing “voluntary measures” taken by the P5 + 1 as their part of the agreement. Specifically, the P5 + 1 pledges to “pause efforts to further reduce Iran’s crude oil sales, enabling Iran’s current customers to purchase their current average amounts of crude oil” (ibid.). The US Congress would not seek further reductions in the purchasers or China, India, Japan, South Korea, Taiwan, and Turkey who were permitted to maintain their current average level of imports from Iran during the JPOA Period (DavisPolk, 2014). The Congress has emphasized that no other countries may commence purchasing Iranian crude oil.

Specifically, the US government (USG) will not impose the following secondary sanctions with respect to transactions involving the purchase of Iranian crude oil, provided that the transactions do not involve persons on the Specially Designated Nationals List (SDN List) other than the NIOC, NITC, or any Iranian depository institution listed solely pursuant to E.O. 13599:

Correspondent or Payable-through Account Sanctions . The USG will not impose correspondent or payable-through account sanctions with respect to FFIs that conduct or facilitate transactions by non-U.S. persons not otherwise subject to the ITSR for exports of petroleum and petroleum products from Iran to China, India, Japan, South Korea, Taiwan, or Turkey, and associated insurance and transportation services. (“Exempted Petroleum Exports”) (McGuinness, 2014, p. 84)

The JPOA came into force in January 2014. The US administration conducted several briefings and issued guidance documents to explain the details of the agreement. The Iranian President Hassan Rouhani, whose administration designed and launched these contracts, described the most outstanding specification of the new generation of the oil contracts in the words of Reza Yeganehshakib (2015) as follows: “Lifting any financial, technical, and legal obstacles within the boundaries of the approved international laws to expand Iran’s cooperation with major oil companies.” In Davos in January 2014, President Rouhani said:

Making the contracts and the projects more attractive to the international oil companies and encouraging them to cooperate with Iran in exploration and development, especially in increasing the efficiency of the recovery operations, as well as expanding managing, financial, and technical cooperation; [t]ransferring modern technology to Iran’s exploration and production industries and helping to increase domestic capabilities, so that the Iranian companies can participate independently—or in partnership with other multinationals—in the global oil and gas market and industry. (as cited in Yeganehshakib, 2015)

Reza Yeganehshakib elaborates:

In traditional buy-back contracts (1990s–early 2000), if a company failed to find oil after an exploration project, the contract would automatically become null. But in the new contracts (IPCs), if an investor fails to find a commercial-scale reservoir, it is given another opportunity to perform further exploration work until it finds one. … This helps to reduce the high-level risk for foreign partners involved in upstream energy investments. (Yeganehshakib, 2015)

According to the US Department of State:

The sanctions relief also pauses efforts to further reduce Iran’s crude oil exports, enabling the current importers of Iranian crude oil—China, Japan, South Korea, India, Turkey, and Taiwan—to maintain purchases at current average levels during the JPOA period. (The purchase of Iranian crude oil by entities in jurisdictions outside of China, Japan, South Korea, India, Turkey, and Taiwan remains sanctionable under U.S. law.). (US Department of State, 2014b)

The practical effect of the JPOA was to limit Iranian oil shipments to approximately 1.0–1.1 million barrels per day for the duration of the negotiations. The JPOA was extended in July 2014 for another four months until November, and then extended again until the end of June 2015 while negotiations continue.

The Joint Comprehensive Plan of Action (JCPOA)

The UN Security Council resolution endorsing JCPOA would terminate all previous provisions such as 1737 (2006), 1747 (2007), 1803 (2008), 1835 (2008), 1929 (2010), and 2224 (2015) and simultaneously with the International Atomic Energy Agency (IAEA)-verified implementation of agreed nuclear-related measures by Iran will establish specific restrictions. The EU will terminate all provisions of the EU Regulation, as subsequently amended, “implementing all nuclear-related economic and financial EU sanctions,” including related designations, “simultaneously with the IAEA-verified implementation by Iran of agreed nuclear-related measures” (European Union, 2015, Annexure 5, pp. 1–2). The implementation plan of the EU which covers all sanctions and restrictive measures in the following areas, as described in the sanctions-relation commitments will allow the import and transport of Iranian oil, petroleum products, gas, and petrochemical Products; export of key equipment or technology for the oil, gas, and petrochemical sectors; investment in the oil, gas, and petrochemical sectors; export of key naval equipment and technology; design and construction of cargo vessels and oil tankers; efforts to reduce Iran’s crude oil sales; investment, including participation in joint ventures, goods, services, information, technology, and technical expertise and support for Iran’s oil, gas, and petrochemical sectors; purchase, acquisition, sale, transportation, or marketing of petroleum, petrochemical products and natural gas from Iran; export, sale, or provision of refined petroleum products and petrochemical products to Iran; and transactions with Iran’s (European Union, 2015).

New oil and gas exports from Iran could have a global impact. First, Iran’s return to the market and an increase in its oil production could offset the effects of supply disruptions and thereby leading to spike in oil prices from political crises in Iraq, Libya, and other conflict zones. It could also keep prices low. Second, increased production could eventually create more options for countries dependent on oil imports, especially as petroleum needs rise in the developing world. Some countries, such as Japan and South Korea, are already dependent on Iranian oil. Along with China, India, and Turkey, they buy virtually all of Iran’s liquid fuel exports. First on the list would be oil producers, including some neighboring states that already feel threatened by Tehran. They could face new competition in international markets. Oil-producing countries would also take a hit if Iranian oil and gas exports cause oil prices to drop further. Some countries that import oil have received discounts from Iran as incentives to buy, despite sanctions. China, India, Japan, South Korea, and Turkey received discounts, which might be eliminated if sanctions are lifted and Iran has a wider array of buyers. Their energy costs could go up, with a crippling economic effect at home.

Conclusion

Iran’s oil sector path during the mid-2000s went under serious changes. President Mahmud Ahmadinejad’s (2006–2013) main obsession was to maintain the level of current production and export level. Furthermore, the oil and gas sector was in critical need of technology, capital, and markets if it were to recover from its current condition. A central problem was that the government has continually raided the investment pot that NIOC required for its development plans. Realistically, the only way the sector’s needs could be met is to bring the Iranian Oil Companies (IOCs) into the upstream on a major scale. The two obstacles to this hitherto have been the economic sanctions and the unattractive terms of the existing buy-back agreements Iran had made it difficult and complex to absorb foreign investment.

The United States and EU measures prohibited large-scale investments in the country’s oil and gas sector, and cut off its access to European and US sources of financial transactions. Furthermore, sanctions were implemented against the Central Bank of Iran, while the EU imposed an embargo on Iranian oil and banned European protection from providing Iranian oil carriers with insurance and reinsurance. The implementation of insurance-related sanctions was particularly effective in stemming Iranian exports, which affected not only European importers but also Iran’s Asian customers who were forced to temporarily halt imports.

Following the implementation of sanctions in late 2011 and mid-2012, Iranian productions dropped dramatically. The sanctions impeded Iran’s ability to sell oil, resulting in a nearly 1.0 million barrels per day drop in crude oil and condensate exports in 2012 compared with the previous year. Although Iran had been subject to four earlier rounds of United Nations sanctions, the much tougher measures passed by the United States and the EU have severely hampered Iran’s ability to export its oil, which directly affected its ability to produce petroleum and petroleum products. In spite of attempts to boost foreign investment in the oil sector, Iran has been facing serious difficulties in maintaining its share of oil production and exports among OPEC members, resulting in negative annual average growth rate of oil production between 2002 and 2013 and during the same period, OPEC’s annual average growth rate of oil production were positive. In fact, the US-led sanctions not only prevented the expansion of the oil sector production and exports, but also reduced the bargaining power of the country, reduced oil revenues, and slowed down the rate of growth of the economy.