Has The U.S. Invasion of Iraq Destabilized The Middle East And Contributed To Higher Oil Prices?

In the face of surging oil prices Democrats have attacked President Bush and the U.S. invasion of Iraq as destabilizing the Middle East and greatly contributing to high oil prices. Also, the left claims that Bush's policies in the Middle East have elevated Iran as the main player in the region which has made the world less safe and has also added to a risk premium for oil. Are these assertions true? An analysis can be framed in 4 sections along with conclusions and implications.

Has Iraq’s current and future oil production been diminished by U.S. actions?

Iraqi oil production peaked in the 1980’s at about 3.5M barrels per day. Prior to the U.S. invasion of Iraq in 2003, production had dropped to 2.5M barrels a day. The primary cause of the reduced production was a lack of investment and lack of technology. Had the U.S. not invaded Iraq, oil production would have continued to fall.

Iraq’s oil production today is 2.5M barrels a day, identical to the pre-invasion volume. With the situation stabilizing, the Iraqi government is now bidding out contracts to oil companies to greatly improve the technology, investment, and production of Iraqi oil. The U.S. Energy Information Administration (EIA) estimates the long term sustainable production of oil in Iraq to be between 2.8 and 2.9 million barrels a day.

Has the U.S. action in Iraq reduced oil production in the Middle East outside of Iraq?

The U.S. invasion of Iraq has not reduced production elsewhere in the Middle East. Rather the Saudis have increased production. It should be noted that the two largest sources of oil consumed in the U.S. are Canada and Mexico. Canadian production is increasing due to investment in oil sands. Mexican production is falling due to aging fields that have suffered through underinvestment, mismanagement and corruption since the oil industry was nationalized. Another major source of oil consumed in the U.S. is from Venezuela. Venezuelan oil is heavy, high sulfur stuff that is difficult to refine. Oil production is falling in Venezuela since the industry was nationalized by El Presidente Chavez. Venezuela fields are suffering from underinvestment and desperately need advanced production technology that is now not available to them.

Is Iran now the main player in the Middle East, and if so, what are the root causes?

Now that both the political and security situation in Iraq has improved dramatically, it is a good time to consider this question. I think most will agree that Israel is the strongest military force in the Middle East. The United Arab Emigrants has the most dynamic, fastest growing, and diverse economy of all the Arab countries and has become the financial center of the region. The Saudis have a stable, albeit corrupt and bloated monarchy, and the most wealth from oil revenues. Arab-Persian tensions at least partly counters the fact that both Iran and the majority of Iraqis are of the Shiite branch of Islam. So you have a troika of Sunni Saudi Arabia, Shiite/Arab Iraq, and Shiite/Persian Iran along with Jewish Israel. This appears to be a fairly balanced situation – or at least no less stable than 10 years ago. Clearly, if radical Shiites had won the civil war in Iraq it would be another matter altogether. But a sovereign and democratic Iraq is a clear counterbalance to the radical theocracy in Iran.

Although Iran is rhetorically provocative, it is rotting from the inside out. There is a high level of dissatisfaction among younger, progressive Iranians that take offense to being beaten for leaving the house without a burka. Iran has under invested in its energy infrastructure (sans nuclear) and must import most of its refined distillate transportation fuel. As a result they are highly vulnerable to sanctions, if the U.N. was a responsible and proactive organization.

The biggest threat to the region minus Saddam is Iran gaining access to nuclear weapons. Given their progress to date, this effort was well underway before 2003. The invasion of Iraq was not a trigger for initiating a nuclear program. Iran’s stated goal is not to invade Iraq or any other Arab state, but to destroy Israel. Certainly the U.S. action in Iraq is neither here nor there when it comes to this obsession. Iran’s continued push to produce weapons grade nuclear material is not about the U.S. and Iraq.

The Iranian Islamic Caliphate has been in place for 30 years, dating back to the Carter Administration. Iraq’s place in the region is not one of being the main power, but one of several powers. It is no more or less radical today than before the invasion.

Irrespective of production, is there a greater risk premium in the price of oil today than before the Iraq invasion? If so, is the root cause the U.S. involvement in Iraq?

It is broadly agreed that there is a significant risk premium in the price of oil. The U.S. invasion was destabilizing until the surge and change of strategy worked. But in the last 18 months the progress in Iraq’s security and political situation has been transformed. Sectarian violence for the last 6 months has been zero. After a one year boycott, Sunnis are returning to the government. 15 of the 18 legislative benchmarks have been met. The last big hurtle is the sharing of oil revenues between the provinces. But the al Maliki government has been distributing the revenues in an equitable fashion to Sunni and Shiite alike while the legislation continues to be negotiated.

The fact that the price of oil has doubled in the last year, even as violence was rapidly diminishing in Iraq, leads one to conclude that the U.S.’s Iraqi involvement is not contributing to the risk premium. You can draw a line on a chart from the upper left to the lower right indicating the reduction in sectarian violence in Iraq. Then you can draw a line on the same chart from the lower left to the upper right indicating the increase in the price of oil.

What has changed in the last year that could cause an increase in the risk premium for oil? The most likely culprit is Iran’s nuclear ambitions combined with ever more apocalyptic language about the inevitable destruction of Israel. For its part, Israel will have no choice but to strike preemptively if the choice is that or the end of its existence and the death of all of its people. Israel has destroyed nuclear facilities in Iraq and Syria over the last decades, and they will have no option but to attack Iran if the international community does not act responsibly. In response, Iran has promised to block the Strait of Hormuz if attacked. This increasing tension is the biggest single cause of the risk premium for the price of oil.

Conclusions and Implications

Consider this – most of the world’s oil is controlled by sovereign governments hostile to the U.S. (Saudi Arabia, Russia, Venezuela), or chronically unstable (Nigeria). The best short to intermediate term answer to reducing the risk premium for oil is to develop a Western hemisphere energy strategy that will more broadly diversify the sources of oil into less risky regions.

Canada is expanding production in its extensive oil sands. Brazil is in the first stages of developing deep-water fields in its outer continental shelf (OCS) that are the largest reserves discovered in decades. We can work constructively with Mexico to improve its oil production technology. We can eliminate the import duty on Brazil’s sugar cane based ethanol while eliminating our corn based ethanol mandate. We can dramatically expand domestic production in our vast oil shale deposits (potentially more oil than Saudi Arabia – but higher production costs), the OCS, and that tiny corner of ANWR that has proven reserves of 13B barrels.

Longer term we need to be aggressively developing alternative energy technologies, understanding that broadly viable alternative solutions may take a long time. But greatly diversifying oil production in North and South America is the best way to reduce the risk premium, and increase supply overall, in the foreseeable future.

The Obama/Pelosi/Reid answer: nationalize the U.S. oil and refining industry, divert oil company profits from further oil exploration to fund alternative fuel research that may not help for decades, continue protectionist policies to prop up corn-based ethanol (30% of our corn used to produce 3% of our transportation fuel), release oil from the strategic oil reserve, and continue to prohibit new domestic production. None of these Democratic proposals will lower the price of oil - rather, quite the opposite.