GAO Report Describes Iraq Oil Industry Mess

July 2007

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The original U.S. strategy in the Iraq war included the notion that Iraq’s massive oil resources would pay for the reconstruction and restructuring effort. For example, speaking to Congress just one week after the invasion, Deputy Secretary of Defense Paul Wolfowitz said, “We are dealing with a country that can really finance its own reconstruction, and relatively soon.” Although much is written about Iraq’s political and security situations, relatively little is published about the economics of Iraq’s economic rebuilding. As with many issues, a favorable economic resolution would make other challenges easier to address.

A recent report by the Government Accountability Office (GAO) addresses these questions. Unfortunately, it is filled with bad news. The GAO’s report, entitled “Rebuilding Iraq: Integrated Strategic Plan Needed to Help Restore Iraq’s Oil and Electricity Sectors,” includes the following:

1. Iraq’s economic resurgence without oil is a near impossibility. Oil provides over half of Iraq’s gross domestic product, and 95 percent of Iraq’s national revenues. Consequently, an improved oil economy is required to reduce the U.S.’s economic contribution to Iraq.

2. From fiscal years 2003 to 2006, the United States spent about $5.1 billion to rebuild Iraq’s oil industry. The U.S. spent another $3.8 billion of Iraqi funds. However, this investment is only a fraction of what remains needed.

3. In spite of the need for capital improvements, the Iraq Ministry of Oil spent only around 3% of its capital expenditure budget, and did not spend all of the available international aid moneys.

4. Iraq’s crude oil reserves, at 115 billion barrels, are the third largest in the world.. Nevertheless, production has consistently fallen below program goals. Iraq now produces around 20% less oil, and around 10% less electricity than what existed the eve before the U.S.-led invasion. Iraq’s 2006 oil production was only around half of the 3 million barrels per day production that is reasonably expected with proper management and security.

5. Sabotage of oil facilities remains substantial. In particular, the Iraq-Turkey oil pipeline remains a repeated insurgent target.

6. Corruption, smuggling, and other illicit activities result in substantial revenue losses. Around 10 to 30 percent of refined fuels are either diverted or smuggled out of Iraq and sold for a profit.

7. The Iraqi government lacks integrated planning, management, and coordination for the oil and electricity sectors. These two economic sectors depend upon each other because Iraqi electricity generation requires oil (which they are not getting), and Iraqi oil production depends upon having a steady electrical supply (which they are also not getting).

8. Around $4 billion in potential revenues are lost annually through inefficient energy production methods, such as the flaring of natural gas.

9. Needed private investment is not occurring because Iraq lacks an adequate legal and regulatory framework, including comprehensive hydrocarbon legislation that would govern distribution of future oil revenues, and granting of exploration rights.

The GAO report makes recommendations for improvement. However, such recommendations ultimately depend upon the Iraqis managing their own affairs intelligently and cooperatively.

Fulcrum Inquiry is a financial consulting firm whose services include forensic accounting, business appraisals, and litigation claims analyses.