Last month, the Iraqi government held its second round of auctions for its oil fields. Mid-month, seven fields were awarded to international oil companies.  American companies did not win any new leases in this round, but Petronas, a state-owned Malaysian company; Sonangol, of Angola; and Lukoil of Russia and Statoil of Norway did. Petronas and Shell won the the Majnoon field with more than 12 billion barrels of oil; and Petronas, CNPC of China and Total (French) got Halfiya, in the south, with 4 billion barrels. Last week, it was reported that  Lukoil and Statoil had actually signed for their West Qurna oil field, much faster than BP and China signed for the Rumaila oil field this summer.

Oil companies are famously an optimistic bunch but still, the enthusiasm is surprising. There just isn’t much profit for them in Iraq. The June oil lease auction was a bust, with only one signing, because the profit margin was so thin (about $2 a barrel), and according to the New York Times, Iraq also demanded nearly $3 billion in “signing bonus” loans for the six under-producing or undeveloped oil fields. Iraq sweetened the deals marginally for the most recent round but still the AP reported in December that

Companies must accept 20-year service contracts and receive a flat fee per barrel produced for their services instead of production-sharing contracts, which are much more lucrative.

And in an unstable war zone at that.

So why the optimism that the Iraq investment will ultimately pay off? Between the weakened demand, the natural gas glut (with more coming online all the time and gas being the preferred hydrocarbon of the future), the effort at green energy, and several recent smaller oil discoveries  in Uganda, Ghana, Gulf of Mexico, Brazil, it’s hard to see the reason for their faith.

And when Iraq’s oil does finally hit its stride, how will this affect the market? Will prices drop catastrophically for the producers? Risk management and advisory groups (as in the link below)  are asking themselves, what will this mean financially for OPEC countries and OPEC’s free riders, like Russia? Will it help hold down prices or cripple those countries who depend on setting production quotas? If Saudi Arabia cannot cut back on its production sufficiently to accommodate Iraq’s output?  How will it affect OPEC itself?

This level of doubt about oil prices represents an amazing change from last year, when investors were told to look for $200  a barrel oil soon.

See the below link.

At a party last year, an acquaintance asked me why Hugo Chavez, the President of Venezuela, was so anti-Israel. How were Israel and Jews a threat to him? Since Chavez has been president, anti-Semitic behavior in Venezuela (not known as a hotbed of anti-Semitism) has increased noticeably with attacks on synagogues and against the tiny Venezuelan Jewish community.

I said then and I still believe that a country does not experience such changes randomly: they are countenanced by behavior implicit or explicit from the top. The only logical reason for going after the Venezuelan Jewish community was that Chavez thought it would ingratiate him with his Arab oil colleagues. He may want Venezuela (him) to lead OPEC (which Venezuela last led in 2003) or just fit in with the gang.

Last week, Chavez welcomed Iranian President Ahmadinejad to town and, to make him feel at home, launched into some anti-Israel rhetoric, with the added benefit of taking an indirect swipe at the US.

The visit must have been a welcome distraction. Sure, Chavez likes the attention of created controversy.  I am just as sure he would not mind trying to get attention at home away from the recession and inflation, which, in Venezuela, is the highest in the region. The contraction of the oil market has hurt Chavez and his budget for social services.

A more modest goal for Chavez as an oil leader would be to assume the position of Latin America’s oil leader, but that role seems to have gone now to Brazil’s President Lula da Silva. When Ahmadinejad visited Brazil, Lula refrained from anti-Semitism while still making nice with his oil colleague

Iran itself, because of its tainted election, its repression, its support of terrorism, its economic weakness at home, was in Latin America also looking for friends. But alliances between weak countries that seek to become powerful by association do not often work.

The banks thst lent about $40 billion to the state-owned corporation Dubai World must have figured, “Okay Dubai doesn’t have oil, but it’s part of a larger oil country (United Arab Emirates), and it’s in an oil region, and so they’re good for the money.”

Apparently, no one thought that an enterprise based on ridiculously over-priced real estate — remember the palm shaped island, the world’s tallest building, the indoor ski resort? a playground for the Arab oil-rich — would ever hit trouble. But trouble came this week, with Dubai World suspending payments to creditors, including a number of high profile foreign banks, for at least six months.

Yesterday, Abu Dhabi, another part of the UAE which does have oil, agreed to help with repayments on a selective basis. Dubai World will restructure, but the news temporarily shook global markets which had somehow convinced themselves that having survived 2009 everything was now fine.

With much less fanfare, the largest bank in another oil-rich country, Kazakhstan, Bank Turalem has been taken over by regulators. According to the New York Times,  it too had huge Western investment ($10 billion) which it  sank in real estate dealings in Ukraine and Russia, and other places where  it had little business or experience in. Now those loans have gone bad, too.

There were warning signs — Bank Turalem was not very transparent in its dealings,  it lacked investment history, the bank’s former chairman Mukhtar Ablyazov is an opponent of the country’s president, Nursultan Nazarbayev, and Kazahkstan is a notoriously corrupt country — but those factors don’t seem to have mattered to the foreign banks, like Credit Suisse, that invested there. They pursued loans in a country they thought was too oil-rich for anything to fail. One investment banker was quoted as saying, “Kazakhstan was very sexy at the time, and foreign banks were just shoveling in money, so much so that that banks here had more money than they knew what to do with.”

There is one unexpected thing working in Dubai/Dubai World’s favor: like Iceland and Latvia which experienced terrible financial crashes this year, it is surrounded by larger and more stable neighbors with a vested interest in seeing it not fail entirely. It will survive.

There is a lot of noise that Dubai is the first of a second round of failures, and it may be, but that shouldn’t come as a surprise in this recession. Adjustable rate foreclosures were followed by unemployment foreclosures in the US, smaller bank failures have followed the bigger near-failures. It cannot come as a shock that the pilot fish of the oil countries should follow the trend of the shrunken oil market — oil may be between $70-80 a barrel but demand is still down. The second-hand leverage that proximity gave to those near oil has evaporated.

It is normal for oil countries to do what Dubai did: spend the cash as fast as possible — faster than it actually comes in — either in a desperate attempt to develop the country as fast as possible (if it is a good government) or to steal it the same way through corruption though bribes, payoffs and so on (if it isn’t). All countries create national budgets based on projected income, but the country that relies on the global oil market is on an unpredictable ride.

Dubai, with oil by proximity, thought it would bet on developing itself as an ambitious resort destination — an alternative to oil. Even at the best of times in a better setting, this would be dangerously dependent, but it wasn’t stupid or dishonest. It means that Dubai’s leaders bought into the oil market hype that oil would only go up, up, up to $200 barrel.

Oil budgets often fail. Just ask Venezuela or any of the dozens of other countries who have depended on “the devil’s excrement” to save them from their own poverty. It isn’t that Dubai’s planners did anything wrong, they just were unlucky. The terrible difficulty facing so many of these countries is to figure out what besides oil is their comparative advantage in the global marketplace, so they can move ahead and create a real complex economy. Even where the Dutch disease doesn’t hurt the economy with a too-strong currency, these countries can’t compete with China for manufacturing or India for well-paying services or Brazil for diverse resources; they don’t have the same complexity of human, social, financial or historical capital as the West or Japan.

As Voltaire wrote in Candide, we must cultivate our gardens. The struggle for Dubai and so many countries is to try to live up to the impossibly high living standard set by the West without an edge except oil or its geography.

Let us now all mourn the passing of Paul Bloom.

Who?

I hadn’t heard of him either till he died. So I took a few moments to research.

Why should you care that he died?

Paul Bloom was one of those bureaucrats who — to many people who do not want to be bothered with cumbersome federal regulations — is a killjoy and someone who makes life so much harder than it has to be. In this case, those grumblers would be the oil companies and their Reagan Administration pals of the 1980s.

Paul Bloom was also one of those bureaucrats who gives a good name to government workers who actually try to do right by the American public, and to remind institutions — even those of such long-standing power that they can urge the overthrow of annoying Third World governments — that they cannot be above the law. (This wasn’t such an easy assumption back then.) Bureaucracy can work to a country’s advantage.

Originally a natural resources lawyer, Bloom got to be Special Counsel for Compliance at the Carter Energy Department, it appears, mainly because the people the Administration wanted weren’t interested. According to the Denver Post, his widow recalled after the appointment, his friends offered their condolences.

He was brought in to investigate the oil companies’ compliance with the price controls started under Richard Nixon. (Whatever you think of price controls, they were still laws that had to be obeyed.) The idea of taking on Big Business wasn’t new at the time: this period was the height of consumer protection. But gasoline had been cheap for so long, and American commercial power so overwhelming in the world, that most of the public’s wrath in the 1970s had been reserved for OPEC. At the time, it hadn’t occurred to them, I don’t suppose, that the industry could be jiggering the prices.

Bloom and his office found widespread non-compliance: 33 out of 35 of the largest oil producers and refiners were accused of overcharging the American public to the tune of $11 billion.

The oil companies unsurprisingly balked. The regulations were undoubtedly complex and arcane, and yet, multibillion oil dollar companies with hundreds of lawyers on the payroll could probably have figured them out if so inspired.

(This is the difference between then and now. In today’s derivative debacle, it seems so much of the financial catastrophe was created by years of federal “oversight” that just couldn’t be bothered to do the accounting — to hunker down and crunch the numbers with any understanding. What else can account for AIG? Bernie Madoff? All the banks? Crooks assume you won’t care enough to dust off your math skills once you graduate. Luckily, by coincidence, a week ago,  Ken Salazar, the Secretary of the Interior, stopped a last-minute Bush provision granting an unnaturally low royalty rate (of 5% versus a more normal 16.7%) to shale oil companies operating on federal land in the West.)

Many oil companies tried to wait it out. It didn’t work. Bloom won a surprising number of his cases. After Ronald Reagan was elected, on the day before he left office in 1981, Bloom gave $4 million he had collected to several charities to help the poor heat their homes through the winter.

Soon after setting up shop, the conservative new Administration demanded the money back from the charities. This quickly turned into a PR nightmare, with the Salvation Army offering to return their Christmas Santas to the streets to collect for the federal government. (The money that had not been already spent was returned.)

The Administration then sought to gut the program by slashing the department’s budget by 80%. The pro-oil move was transparent. Time Magazine in 1981 quoted, then- Representative Barney Frank of Massachusetts: “If this was a budget decision, then I’m Lady Diana Spencer.”

By 1987, the department had collected $6 billion from the oil companies, including over $2 billion from Exxon alone. Much of the money went to states to help with energy programs.

Back in private practice, a few years ago, Paul Bloom and his law firm fought and saved the Zuni Salt Lake from a mining concern.

The Denver Post obit adds,

“In New Mexico, Paul Bloom was known for his knowledge of water law. He started at the state engineer’s office in the 1960s and filed the Aamodt water rights case for the state in 1966, his family said.
In May, Democratic Sens. Jeff Bingaman and Tom Udall introduced an act to realize a 2006 settlement of the 43-year-old fight between the Nambe, Pojoaque, San Ildefonso and Tesuque pueblos along the Rio Pojoaque basin. The act would authorize construction of a regional water system.”

Paul Bloom was born in Virginia, attended law school at the University of New Mexico, died of pancreatic cancer at the age of 70, and leaves behind a widow, brother and three children.

We often think of bureaucrats as faceless paper-pushers — politicians can seem more glamorous. Paul Bloom was perhaps the first to hold the great and near-great oil companies to account.

For more reading on these cases against the oil companies, check out my main source: “Chalk one up for the permanent government; the bureaucracy took on Reagan and big oil - and won “; Washington Monthly, Oct, 1987 by Rich Jaroslovsky.

Right now, with oil rising to $80 a barrel, it is important to recognize that the price of oil does not reflect the value of oil but the value of the dollar. There is still fairly weak demand for oil.

Meanwhile, the fate of the greenback is being tugged in different directions by different international coalitions with very different agendas. East Asia, which has so much trade with the US and a lot of dollars in the individual reserves, has an economic incentive to help keep the dollar strong. And as the dollar falls, so does the Chinese yuan, making China’s exports more competitive than smaller countries in the region. Europe too is worried that as the buck falls, the euro will rise, meaning that continent’s exports will be priced out of some markets.

Ironically, the US itself has little incentive to prop up the currency — a weaker dollar makes American exports more competitive (good for the economy), even as the government prints more money (making each dollar supposedly inherently less valuable) for the stimulus and other projects. Of course, too weak would be bad — it’s a balancing act. Excessive debt can lead to some distrust of the future strength of the American economy.

The anti-dollar people have a more political agenda. Many of them are oil exporters who are not particularly politically cozy with the US, and some would like to see the dollar replaced altogether when it comes to paying for oil. This wouldn’t change how much oil was inherently worth, it’s just an opportunity to dig at the US.

The grumbling has been going on for months. In early October, there was a report out of London that a number of countries from the Middle East and China and Russia were planning to trade oil in a different currency. Even before that, it was not a secret that these countries have been unhappy with using dollars. Russia, China and others have suggested creating a global alternate currency to the dollar, which sounds like financial Esperanto and about as likely.

Others like Iran and the irrepressible Hugo Chavez of Venezuela are more interested in regional currencies. The regional currencies sound more practical and popular; but unlike Europe, there just isn’t a lot of trade between Latin American countries to make it useful. This reminds me of the old idea of import substitution — infinitely more appealing as an idea than needed as a practical reality.

Oil is priced in dollars but it isn’t tied to the value of the dollar. Countries can complain there are transaction costs and other considerations in converting other currencies to dollars to actually pay for the oil. But that’s what happens with any reserve currency.

The dramatic weakening of the US economy has undoubtedly offered opportunity to those who chafe at America’s global position (especially given the level of American financial irresponsibility that cause that weakness and would certainly have sunk many other countries) and those with ambitions to use its diminishment in search of their own aggrandizement. There’s nothing as informative as hard times.

The International Energy Agency is now wondering what we had discussed earlier in the week: OPEC’s discipline is fraying.

The Agency believes that OPEC members are beginning to cheat because oil prices have risen from $32 earlier this year in part due to OPEC’s coordinated cuts. However, when prices are $60 a barrel, discipline is harder to manage as the incentives for overproduction is higher.

The IEA said:

Uneven compliance by a few members and Angola’s plea for an exemption [to its quota] threaten to chip away at Opec’s otherwise strong resolve to rein in oversupply.

OPEC reported a rise in output despite a pledge from the organization’s member to reduce production to meet quotas agreed to in December.

Five members (Saudi Arabia, Kuwait, Iran, Nigeria and Angola) increased production over the past month by a total of 180,000 bbls/day, although Saudi Arabia remains within its quota of roughly 8 mln bbls/day. The increase in output is the group’s first since last July. The cartel now produces just over 28 mln/bbls per day, almost 900,000 bbls over its quota.

OPEC members meet on May 28th and look set to maintain output as prices hit $60 a barrel - up over 80% from lows in February of $32/bbl - despite OPEC President Abdallah El-Badri’s stated goal that oil should reach $70/bbl and the expectations of weaker demand. OPEC announced it expects oil demand to drop to roughly 84 mln bbls/day as demand in industrialized countries shrinks due to economic conditions and as oil supplies increased.

Angolan Oil Minister Chakib Khelil hopes that OPEC members would reduce output to their quotas. Adherence to those levels would be an effective cut in production and have other benefits. The move would allow OPEC to control prices without resorting to an announced cut which would face political backlash for worsening the global recession by raising oil prices. Adhering to quotas also helps OPEC meet the goal of creating discipline within the organization as discussed here on March 16. Greater coordination when prices are low would “contribute to market stability” as the organization announced in March - or more directly, it increases the power of OPEC in determining price levels due to its ability to coordinate supply. If members cannot coordinate, prices will likely fall.

OPEC and large Asian oil consuming countries led by Japan, India and China met on Sunday for the third Asian Ministerial Energy Roundtable. The group’s goal is to

To foster dialogue between Asia’s resource producers, primarily Middle East countries, and consumers, such as China and India, and to send a message to the world that both sides are cooperating in Asia to stabilize the international energy market.

The group called for greater transparency in oil markets and reductions in price fluctuations. Lofty goals — but the group put forward little policy solutions to meet them. Japanese Trade Minister Toshihiro Nikai comments after the discussions encapsulated the lack of concrete outcomes.

We will take actions to avoid any excessive volatility in commodity futures, and Japan will look into what measures are appropriate

The group hopes that limiting positions speculators can take will reduce volatility in the oil market. Countries, like India, have previously banned some commodities trading and US legislators now are considering different options to police the markets. Countries are reluctant to ban futures trading as those who trade physical oil use these derivative markets to lock-in prices. There is also open debate regarding the extent that futures trading influences the price of the underlying physical product. However, OPEC and others at the meeting believe that such speculative trading “largely contributed to skyrocketing prices, in the past” as Saudi Oil Minister Ali al-Naimi stated.

But separating speculators from traders is a difficult regulatory task that would likely have to be done by individual country. And to date, no country has been able to find an adequate regulatory framework.

The meeting also highlighted the growing concern over a lack of investment in oil infrastructure. Oil companies are finding it difficult to access credit to invest in new production and — due to the fall in oil prices — they also lack their own capital to fund new projects. The Roundtable highlighted the potential for oil to spike, as many others have predicted, if investment in infrastructure continues to flounder. However, other than the Saudis, who stated that they planned to continue to increase output to 12.5 mln barrels per day (up from 8 mln currently), few other nations have the capital to spend. Even Kuwait which plans to reach a goal of 4 mln barrels a day by 2020, up from roughly 3 mln, scrapped plans to build several projects including a refinery.