Rise of ‘take-or-pay’ contracts is a blow to Iraq’s sovereignty

Badly coordinated policies favouring direct foreign investment have not made the promise of energy growth a reality.
Sunday 25/02/2018
Workers at Iraq’s Bin Omar natural gas facility, north of the southern port of Basra. (AFP)
Foundering sector. Workers at Iraq’s Bin Omar natural gas facility. (AFP)

In another of her frequent outbursts, Hanan al-Fatlawi, head of Iraq’s Irada bloc, alerted her fellow members of parliament to problems she saw in a kind of contract that could compromise the state’s thinly stretched sovereignty.

“Take or pay,” as the contracts are known, call for reciprocal supply and payment obligations. If buyers fail to meet their end of the bargain, a penalty clause can be exercised by the seller. This, Fatlawi argued, could hold her country’s abundant resources and sovereignty ransom.

Fatlawi’s remarks rippled outward, drawing less concern for the legality of the contracts than outrage over the mask of political hypocrisy behind which Fatlawi speaks, as a cosy member of the Green Zone elite.

Despite proven natural gas reserves ranking tenth worldwide, three-quarters of which are beneath Basra, Iraq’s foundering energy scene is the problem. Ambitious plans, some of which are more than 5 years old, including the growth of Basra Gas Company, a joint venture between Shell and the Iraqi state, have disappointed expectations.

The result has been foreign energy dependence, particularly during the summer months when demand for power doubles. Dependence on foreign services and goods was the cost Iraq paid for the United States’ desire to flood the country with companies after having eradicated a healthy regulatory environment conducive to business transactions.

The struggle over authority, revenue sharing, systemic corruption and relentless terror attacks has seen resource riches dissipate as the potential of gas-rich areas such as Anbar remains unlocked.

A 4-year, $14.8 billion deal signed by Iraq and Iran in 2013, incapacitated growth further. A total of 1.2 billion cubic metres of gas has been exported to Iraq since late June 2017, said Saeed Tavakoli, director of the Iranian Gas Transmission firm. Counterparts from the oil ministries of both countries agreed that Iraq would purchase 850 million cubic metres a day from its ally.

In absence of gas infrastructure and producing half of the power it needs, Iraq is unable to operate its power stations alone.

Highlighting the risks in a parliamentary session in late January, Fatlawi demanded the undivided attention of MPs charged with oil-rich Basra, Amarra and Dhi Qar.

“If I take it or chose not to take it, payment is an obligation” Fatlawi said, animatedly gesturing with one hand while holding in the other an energy contract signed with Mass Energy Holding Group. The seller’s obligation is to make gas available and the purchaser’s duty is to pay, regardless of whether the gas reaches them.

“Whether it’s spring or winter and regardless of our energy needs, we must take and our ministry is obliged to pay,” Fatlawi said. “In the case of an earthquake or any untoward circumstances “we receive nothing, but still pay,” she scolded.

“The greatest disaster,” she said, was the penalty clause used to proffer investor guarantees or, as Fatlawi accused the Ministry of Oil, access to Iraq’s oil fields or other resources riches to ensure continued revenue for the investor. “No one reserves this right,” said Fatlawi. “These are national resources.”

Lucrative terms of investment have seemingly gone unquestioned by the Oil Ministry as have the absurd penalties under the take-or-pay clause. Badly coordinated policies that favour direct foreign investment have not transformed the promise of energy growth into a reality.

However, foreign actors have had a greater success with gas deals struck with the Kurdish Democratic Party in the Kurdish region of Iraq. Turkey eyes investments in northern Iraq to break its growing dependency on Russian gas.

While a common feature of contemporary international bulk-sale energy deals, the take-or-pay clause protects sellers from disruptions to their income stream. This, however, enforces a legally undefined penalty on the buyer, who in this case is a country that has lost its lustre, no longer able to restore bargaining powers.

The involvement of a third party to mediate disputes appears absent from the Iraqi context, while the needs of the country remain unmet.

When ambitions of energy growth in Iraq’s foundering sector are suspended by conflict and paralysed by corruption, the future does not look promising. The growing need for infrastructure in Iraq is being capitalised on by neighbours and allies in investment, while privatisation is the only alternative the government has been able to suggest.