The Investment Issue.

In sum, the extra revenues that they can expect to gain as a result of the medium-term fallout from the terrorist attacks provides otherwise cash strained producers such as Saudi Arabia and Iran the means to furnish much of the core investment required to boost capacity and thus meet the demand levels anticipated by the DoE, the IEA and OPEC itself. And it is investment that is the key issue. The IEA argued in its latest World Energy Outlook that "the issue of investment is more urgent than the resource base itself". However, just how much cash might be required to augment production - at a time when many Gulf states are already spending billions to maintain existing capacity, is unclear.

In March 2001, Conoco CEO Archie Dunham spoke of a "one trillion dollar structural underinvestment in the energy industry". This view is shared on the other side of the energy-producing spectrum. "The investment requirement is staggering and it is up to all players - producers as well as consumers - to ensure that it is met, if consumers wish to receive an orderly supply of oil at reasonable prices in the future", declared Javad Yarjani, head of OPEC's Petroleum Market Analysis Department in July.

Specific costs are harder to calculate. In 1996, the US EIA adopted a cautious approach in assessing just how much it would cost to develop Persian Gulf reserves. It argued that, "through 2010, oil reserves that would be developed are between 54 and 248 billion barrels (mid-case)". It then added: "The cost to develop these reserves is between $34 and 161 billion dollars". This would consume, it estimated, no less than "7 to 12 per cent of gross revenues assuming a $17/bbl oil price".

An alternative estimate of production costs came recently from Ali Morteza Samsam Bakhtiari of the National Iranian Oil Company, who put the average costs for developing a barrel of Persian Gulf oil at $7,500, thus indicating an average expenditure of $7.5bn for each 1.0m b/d increase in capacity.

The proposal for a budgeted, accountable programme of production increases has, of course, to be set against the various proposals that the Gulf producers have already made concerning output increases. These are as follows:

Iran: Last April, Abbas Maleki, a former senior Iranian official, said Iran was seeking around $40bn foreign investment to explore its many potentially energy rich areas and raise the crude oil production capacity to 8m b/d by 2005. But recent history is not on Iran's side. Previous plans were supposed to have raised Iran's capacity to 4.5m b/d by 2000 but, despite strenuous efforts to attain even 4m b/d, Maleki acknowledged that current capacity was just 3.7m b/d.

The UAE: Officially, the UAE plans to raise capacity to 3.5m b/d by 2005 and to 4mb/d by 2010. However, prior to the bombing, there was increasing concern that the main thrust of its oil sector investments would have to be on maintaining output rather than increasing it substantially. But Abu Dhabi, alone of the Gulf states, already possesses the capital to fund capacity expansion; it just needs the right political circumstances to galvanise it into action.

Kuwait: The government's "Project Kuwait" aims to raise production capacity from around 2.6m b/d at present to 3.5m b/d by 2005. Prior to the bombings, the pace of current capacity expansion was politically driven, domestically contentious and proceeding much more slowly than expected.

Qatar: Although Qatar is steadily raising both output and capacity - it is the only Gulf OPEC state that is currently producing at record levels. Current capacity is just 0.8m b/d and is not expected to grow much beyond 1m b/d.

Iraq: Baghdad's goal is to raise capacity from c. 3-3.5m b/d at present to 6m b/d by 2010 and eventually to 10m b/d. Ironically, Iraq was the one Gulf producer that possessed both the resource base and the political determination to expand capacity by 50% over 10 years or so whilst also being prepared to secure the requisite investment by accepting direct foreign participation. But Baghdad's evident pleasure at the destruction caused by the (Sept. 11) bombings is now likely to send into reverse what had previously appeared to be a steady easing of UN sanctions and improved prospects for both oil sales and external oil sector investment.

Saudi Arabia: The Kingdom, with current production capacity estimated at around 10.5m b/d, has not announced a formal capacity increase programme and its intentions remain unclear. It has added some new capacity in recent years, notably 500,000 b/d at the giant Shaybah field. But Shaybah was brought on line for the essentially political reason that the Saudis wished to assert their legal ownership, under a 1974 treaty, to the whole of a resource which lies, in large part, under the territory of Abu Dhabi. In July 2001, a report out of Dubai declared that "Saudi petroleum strategists are believed to be aiming to raise production capacity to 14 million bpd within the next decade, with a 22 million bpd capacity by 2020". This sounds suspiciously similar to a passage from an article published a week earlier, in which NIOC's Bakhtiari asked of Saudi Arabia: "Could it really supply 14 million b/d in 2010 and 22 million b/d by 2020 as explicitly predicted by both the International Energy Agency and the US Energy Information Administration?"

The problem is that these capacity targets are essentially aspirations, rather than detailed programmes. In the case of Iran, there are some very major resources available for development, notably Azadegan and Darkhovin, but it still looks as if Iran is running hard to stay in the same place and it remains doubtful as to whether buyback alone will attract the kind of foreign investment necessary to secure real capacity additions. Precedent suggests that none of the GCC's major producers will move quickly. Saudi Arabia still has some 2m to 2.5m b/d in spare capacity and this already costs it between one and two billion dollars a year to maintain.

In the case of the UAE, it is far from clear that it possesses the additional reserves to develop. Its geology is already well known and there is little scope for the discovery of new giant fields. There are already suggestions that despite its announced capacity increase targets, the main thrust of its oil sector investments will still have to be on maintaining output rather than increasing it substantially. Abu Dhabi is also ruled in a very conservative fashion and, in ordinary circumstances, the political drive to achieve sustained expansion must be doubted. Much the same can also be said of Kuwait, which is not likely to seek to move too far too fast. Further oilfield discoveries are possible, but these are likely to involve smaller formations. As for Qatar, there may still be some further offshore finds to be made, but the scale is not likely to be very significant in regional terms. Any production increases attained by Qatar will not significantly impact on the market, but it is just possible that the manner by which they are attained - the Emirate is pursuing a number of innovative approaches - could have some impact on the way other states in the region approach the issue of increased production.

The one country that currently possesses the resource base, the political determination to expand capacity by 50% in the next 10 years or so and which is also prepared to secure the requisite investment by accepting direct foreign participation in this critical sector is, of course, Iraq. Yet Iraq remains constrained in terms of implementing such a policy so long as it remains in confrontation with the authority of the United Nations and the power of the United States. Furthermore, as and when there is a post-Saddam agreement, then much of the raison d'?tre for offering leading proven reserves in the south or prime prospects in the Western Desert to foreign companies under production sharing agreements will disappear. A post-Saddam Iraq may well revert to being a revenue maximiser based on exploiting the advantages of a relatively tight oil market.

In terms of investment, one further point should be made. This essay deliberately does not seek to specify whether the investment required to expand capacity is to come from internal or external sources; that is a matter for the producers themselves. In the case of Iran, the answer may well lie in whether it can move beyond buyback to a participatory regime in which external investors can somehow match risk with reward. In practice, this may amount to whether the Iranian government can work out a reconciliation between permits, which are allowed, and concessions, which are forbidden.

In the case of Saudi Arabia, Saudi Aramco is quite capable of raising the funds it might require for capacity expansion on global capital markets. The point is not how the funds are raised, but that the costs of capacity programmes should be properly budgeted and financed, and that financing should be transparent in order to give the programmes real credibility.