By Ben Lando
Iraq Oil Report
July 28, 2010
Since 2003, a UN-appointed body called the International Advisory and Monitoring Board (IAMB) has been tasked with overseeing all of Iraq's hydrocarbon export revenue. But the recent fuel-smuggling scandal has highlighted aspects of the oil trade that IAMB has been powerless to track.
Local sales of fuel and oil also bring up unresolved issues between Baghdad and the Kurdistan Regional Government (KRG). The central government claims the sole right to develop its oil sector but the semi-autonomous region has since 2002 been signing deals and then pumping crude and making fuel on its own.
Media reports over the past two weeks have alleged thousands of tanker trucks have been crossing into Iran each day. Many trucks have been moving fuel and oil bought on the black market, according to claims, while others are carrying fuel officially sold by the Kurdistan Regional Government.
Whether true or not, the allegations highlight a major gap in IAMB's ability to oversee Iraq's oil. Although IAMB does monitor Iraq's hydrocarbons exports, it has no jurisdiction over any oil or fuel sold to private companies within Iraq, which may then sell the product abroad.
"The DFI only covers export sales of oil and petroleum products and does not cover domestic sales," said an IAMB spokesman, even if it's then exported by the private, domestic buyer.
When Iraqi oil and fuel is exported, revenues are supposed to go into the Development Fund for Iraq (DFI), which is essentially a massive escrow account overseen by the IAMB at the Federal Reserve Bank of New York that ultimately feeds Iraq's budget. If fuel is sold domestically, on the other hand, the revenue is kept in country, which Iraqis have claimed to the IAMB is according to the strict interpretation of the DFI rules.
"You can make an argument that's a pretty thin legalistic veil to hide behind," said one person familiar with the IAMB's work. "Unfortunately the IAMB doesn't have any recourse."
The KRG has exploited just such a loophole. By the northern Iraqi region's own account, it sells fuel to private brokers, then leaves them free to do what they want with it, including trucking it to Iran.
The regional government claim such sales - and the two dozen oil exploration and production contracts signed with foreign companies - is its right in what the KRG interprets the constitution giving them within a decentralized, federalist country.
Baghdad, though virtually powerless to stop the practice, disagrees with the KRG's interpretation of the law.
"All the money should go to the DFI," said Iraqi Oil Ministry spokesman Assem Jihad, calling the sales "a violation of the instructions of the central government and to DFI. It is only the federal government represented by the Oil Ministry that has the right to export the crude oil and oil products."
The IAMB spokesman said any Iraqi oil or fuel exports, from Kurdistan or otherwise, are bound by the UN Security Council's resolution "and hence IAMB and DFI authority." But, he said, the IAMB has no authority over oil or fuel sold domestically and then exported.
Precisely how much oil has seeped through this loophole is unknown, but even a small portion of Iraq's oil sector represents a huge sum. Iraq has earned $25.6 billion in oil sales alone so far this year; totals were $39.2 billion in 2009 and $61.9 billion in 2008, according to the U.S. State Department. Hydrocarbons account for 95 percent of state income.
The KRG defends its practice of selling fuel on the local market and denies that anything produced in its region is smuggled.
"If you have surplus you have choices: either burn it, or dump it, or reinject into the fields, or sell it," said Ashti Hawrami, the KRG minister of natural resources. "If you stop the operations with the fuel oil, what do you do with it? The only other option is to shut down the refinery."
The KRG, in response to the media allegations and central government lashings, accused Baghdad of allowing fuel and oil from other parts of Iraq to enter Iran, allowing fuel produced south of Kurdistan to head north as well as through entry points in southern Iraq, which Baghdad denies.
Numerous IAMB officials and Iraqi and American observers of Iraq's hydrocarbons trade expressed concerns about inadequate oversight, though none would speak to Iraq Oil Report on the record because they weren't authorized to talk to the press and feared it could compromise their oversight role. The IAMB's members and observers include the UN, International Monetary Fund, the World Bank, Iraqi and American officials and the Arab Fund for Economic and Social Development.
In addition to their worries that the IAMB mandate fails to account for private domestic fuel sales, these officials identified several other problems: IAMB lacks the ability to perform first-hand investigations in Iraq; the auditors can't fully verify Iraq's oil and fuel receipts; and Iraqi government officials have been slow to cooperate with IAMB recommendations and requests, and to take measures such as installing a metering system to monitor its oil and fuel flow.
According to the UN resolution that established IAMB, the body was to be dissolved in 2007. Each year since then, the UN, at the request of Iraq, has extended IAMB's mandate for another year because Iraq was not prepared to take over the job. The Iraqi government and IAMB have said this is the program's last year, but such statements in the past have been followed by rushed meetings in December to create an extension.
The current arrangement benefits Iraq by giving its oil money legal immunity from a variety of legal claims, dating back to before the fall of Saddam Hussein. If Iraq does indeed end its reliance on IAMB and the aegis of the UN, it's not clear how it will defend itself against the accumulated legal fallout.
If IAMB does continue for another year, it will need to address myriad problems, according to officials and observers.
One recurring issue is Iraq's delinquent efforts to install a metering system that would monitor oil production at the well head through the point of sale.
IAMB auditors have complained of trouble accessing government records - and getting the KRG's receipts requires auditors to make special trips to the region, instead of collecting all of the data from Baghdad.
The audits also have found instances of inappropriate transactions, including a $3 billion bank account held by the State Oil Marketing Organization (SOMO), the government arm with sole authority to sell oil and fuel.
Additionally, Iraq appeared to be avoiding payments into the DFI through a second loophole, as it purchases goods and services from neighboring countries by bartering with fuel - exports which do not generate reported revenue.
"It meant to (Iraq) there had to be some sort of a financial transaction that happened" in order to require payment into the DFI, said another person familiar with IAMB. "So they started to promote barters of gallons of crude in exchange for equivalent value of electricity."
This practice has been stopped, according to officials at the IAMB and subsequent audit reports.
Observers of the DFI transactions said the rules were written as the 2003 invasion began, when few foresaw the problems and conditions that would arise. Expanding oversight of the private sector is becoming more and more important in Iraq. In the past year, Baghdad has awarded 11 oil-development contracts to various consortia composed of 16 different foreign companies, and the state is soliciting more private firms to invest in the refining and electricity sectors.
And while SOMO is the sole dealer of crude, loading it into ships docked in the Northern Arabian Gulf or at a Turkish port where the northern export pipeline ends, the country may soon start selling oil and fuel to private vendors, like the KRG does now.
Observers said IAMB is mostly powerless to combat the practice of keeping such oil and fuel revenues from auditors because the mandate is only to monitor transactions in which there is proof that the contract's original intent was to export.
And getting the KRG to cooperate with auditors will likely prove challenging. Revenues earned by the KRG are a closely held secret, and people who have observed the IAMB meetings said the KRG's money count has rarely if ever been raised.
"They should at least do that," said one IAMB observer, referring to monitoring of Kurdish oil money. "But if they don't then they are turning a blind eye quite openly. If they do nothing about it and say, ‘Look, we're expiring anyway' - the point is, they should at least make an effort in saying that this money should be going into the DFI. They should at least make a statement. They should at least say something."
The IAMB spokesman said the Committee of Financial Experts (COFE), Iraq's replacement for the IAMB, is looking into "the treatment of revenue and related expenditure under oil contracts ... and they are due to report to the IAMB when it next meets in October. IAMB will also discuss this with its external auditors during that meeting."
