Iraq's Oil Mess
"Reconstructing Iraq's oil industry the right way is essential to the ongoing reconstruction of the country. Unfortunately, it might not be possible."
Fall 2003
by Irwin Stelzer
"We're dealing with a country that can really finance its own reconstruction, and relatively soon," Deputy Defense Secretary Paul Wolfowitz assured Congress shortly after the war to oust Saddam Hussein was launched. That was then, this is now. Wolfowitz seems to have been off by a few hundred billion dollars.
The opponents of the war--with what National Interest editor John O'Sullivan calls their "sleeping radical instincts and . . . inverted patriotism" aroused--predicted a long and bloody battle; they were wrong. The advocates of regime change foresaw garland-bearing welcoming committees and an Iraq so awash in oil and so ripe for Western-style democracy that the cost to the United States of Iraq's reconstruction would be minimal; they, too, were wrong. The former are, predictably, unapologetic. The latter are faced with the costly proposition that he who would call the tune must pay the piper--or share tune-calling authority with other potential paymasters.
The expense of reconstruction will be exacerbated by ongoing acts of sabotage and efforts to stop them. A recent survey by the U.S. Army Corps of Engineers of 700 miles of wire in Iraq found 623 destroyed transmission towers, compared with just 20 after the war (Wall Street Journal, September 5, 2003). Even under the most optimistic assumptions about our ability to secure the nation's oil field equipment, pipelines, ports, and transmission grid--and optimistic assumptions are the sp?cialit? du maison of the Pentagon--Iraq cannot possibly export enough oil in the foreseeable future to cover the costs of reconstructing its clapped-out physical and government infrastructures, never mind paying off whatever portion of its massive debt falls outside the category known as "odious debts" (those taken on by despots merely to strengthen the regime and repress the population).
There is worse, much worse. Solving current security problems is only one essential if the Bush administration is to achieve its long-term goal of creating a democratic, market-oriented government that will be a model for other Middle Eastern countries. Equally and arguably even more important is the question of just what sort of oil industry we plan to bequeath to the new Iraqi government; for if we know one thing about countries that rely on oil revenues for the great bulk of their incomes and wealth, it is that government control of a preponderant portion of a nation's gross domestic product (GDP) distorts economic activity, creates incentives for the entrepreneurial classes to seek their fortunes by catering to government bureaucrats rather than to consumers, provides governments with the ability to purchase the tools necessary to repress their peoples and to buy off terrorists by funding their activities in other countries, and results in the sort of society and government we now see in Saudi Arabia--unless, of course, we are among those blinded by the administration's penchant for shielding the Saudi royal family from criticism.
Unsafe for Democracy
As things now seem to be shaping up, any hope for major changes in the structure of Iraq's oil industry has become the most important victim. Pentagon sources say that all energy, physical and intellectual, is being absorbed by the current attempt to gain control of the country, at the expense of all other policy chores. When all is said and done, Iraq will have a state-owned-and-operated monopoly oil industry that is a dutiful member of the OPEC cartel, providing a flow of funds to a central government that we will find uncongenial. Indeed, even if we do find the energy to attempt to plant the seeds of a free-market economy of the sort that our designated administrator, Paul Bremer, originally had in mind, it is unlikely that those seeds will flower in Iraq's desert soil and hostile climate--witness the rallying of Iraq's business class around the protectionist banner. (One leading Iraqi businessman says that in the absence of protection from foreign competition, "local companies will be completely smashed" [Wall Street Journal, June 25, 2003], a not-unreasonable assumption given the lack of investment in these companies for several decades, and their forced operation in a non-market economy.)
Start with the fact that there is nothing in the history of the region or of the Arab states to suggest that democracy can take root in Iraq. Of twenty-two Arab states, not one has an elected government. As conservative columnist George Will puts it, it is not clear that "national cultures . . . are infinitely malleable under the touch of enlightened reformers." Even if democracy in some form can be imposed on Iraq, only a truly (wildly?) optimistic analyst can believe that it will result in anything approximating Americans' notions of a liberal society, replete with institutions erected to shield the citizen from an overweening state. If you doubt the possibility that our plans to shape Iraq's future--plans based on the premises that we have the knowledge and will have the power to do that--will prove to be nothing more than an imperial conceit, treat yourself to a combination of Bernard Lewis (The Crisis of Islam: Holy War and Unholy Terror, London: Weidenfeld & Nicolson, 2003) and Fareed Zakaria (The Future of Freedom: Illiberal Democracy at Home and Abroad, New York: W. W. Norton & Company, 2003). Or consider whether the outcome of a free election in Saudi Arabia is more likely to confer power on one of the enlightened young Arab democrats whom New York Times columnist Tom Friedman is so fond of interviewing, or on Osama bin Laden or one of his acolytes.
While pondering that question, consider the statement of Hussein Jassem Ijbara, a former general in the Iraqi Republican Guard, now installed by American forces as governor of Salahadin province, and ensconced in what has been described by observers as "a well-appointed office in the government palace in Tikrit" (Financial Times, June 24, 2003). "In my opinion," says the new governor, "they needed someone strong who could run Salahadin province in the place of Saddam Hussein. . . . We have a system now very much like they have in the United States. Our province is like an American state. I have all the power." So much for the new Iraqi leaders' understanding of the American-style democratic government that our policymakers have in mind not only for Iraq but for the entire Middle East.
We are already witnessing the execution of liquor merchants, the censoring of films, and the unwilling use of the hijabe head covering by frightened women who felt no need to cover up when Saddam was in power, perhaps foretelling the emergence of what columnist Nicholas Kristoff calls "Iran Lite." (See "Cover Your Hair," New York Times, June 24, 2003. Kristoff also quotes a leader of a Shiite fundamentalist party that is winning support as saying, "Democracy means choosing what people want, not what the West wants.") And reports from Iraq suggest that after the devastation of the 1991 war, which destroyed power plants and other infrastructure facilities, the country was up and running within forty days, in contrast with the current situation, in which the Coalition Provisional Authority (CPA) was unable until recently to restore services to prewar levels despite inheriting an infrastructure far less war-damaged than the one we left to Saddam after the first Gulf war. (See the report by Charles Clover in the Financial Times, June 25, 2003.)
Sure, there are large parts of the country in which our pacification and reconstruction efforts are bearing fruit. But only those blinded by hatred of the one-sidedly gloomy reports of the antiwar, I-told-you-so faction would argue that we are succeeding at anything approaching the pace we had anticipated when occupying Iraq. Or even that we have figured out how to succeed. Our early plan to assign an adviser to each of the twenty-odd newly appointed Iraqi ministers reflects an arrogance not seen since the last Soviet Gosplanner hung up his computer (more likely, his slide rule).
Our plan is to have each ministry, under the guidance of an American adviser, draw up plans that accurately predict revenues, costs, tax receipts, and the like, while other technocrats set wages, prices, and the right exchange rate for the new currency; decide which debts should be repaid and which repudiated; and perform other chores ordinarily left to the market. Note that we are not content to talk about getting things running at pre-war levels, but are aiming to produce far higher levels of services and prosperity, levels never before seen in Iraq.
Crude Oil Realities
The plans for the oil ministry are a case in point. Ibrahim Mohammed Bahr al-Uloum, the minister appointed by the Governing Council to run the oil industry, is a petroleum engineer, but his main qualification seems to be his choice of father--a leading Shiite cleric who sits on the Council when not temporarily suspending his membership to protest some aspect of U.S. policy or performance. Mr. Bahr al-Uloum favors privatization of downstream facilities such as refineries, but is less certain that the nation's 112 billion barrels of proven reserves, the world's largest with the exception of Saudia Arabia's, should pass from state control. Production-sharing agreements with American and European countries might be countenanced, and Arab neighbors will be asked to help in the rehabilitation of existing fields, but any decision for complete privatization must, the new minister says, await the election of a new government, with the prospects for a "yes" vote on privatization somewhat dimmed by a culture described by the new minister as dominated by the fact that "people lived for the last thirty to forty years with this idea of nationalism" (Financial Times, September 5, 2003), suggesting that a bit of humility about our prospects for reorganizing Iraq's oil industry along private, competitive lines might be in order.
Iraq is believed to be capable of producing about 1.8 million barrels per day at present, but is probably producing less than that. A few hundred thousand barrels are used for oil field operations, and another 500,000 barrels are needed for domestic consumption--to produce fuel for power plants, and to make gasoline, diesel, and kerosene for domestic use. In addition, the Kurds are siphoning off significant quantities. Repeated sabotage of the main northern pipeline to the Turkish port of Ceyhan makes it impossible to export all of what is produced. Latest figures suggest that exports are running at something like 645,000 barrels per day, far below both prewar levels and the occupying powers' forecasts. In sum, oil revenues won't come close to meeting the costs of occupation and reconstruction, even when exports rise substantially.
But let's assume that, like my fellow economists, I am so accustomed to practicing my "dismal science" that I have difficulty seeing the bright side of things. And let's assume further that it is indeed within our power to impose a durable new order on Iraq's oil industry, and that the free-market plans set out by Paul Bremer can indeed be implemented. And just to keep things on the bright side, let's assume that Iraq can soon again become an important exporter. The principles to follow if we are to have any hope of achieving our goals are straightforward.
First: No return to the prewar structure. We know that the typical system of state ownership is a failure in every particular. In the end, it impoverishes the citizens (if that is the right word) of the producing country; witness the two-thirds decline in per capita income in Saudi Arabia in the past decade. This is a consequence of
? an inflated currency valuation that makes the producing country unable to compete in world markets as anything but a seller of oil;
? the belief that wealth springs from the ground, no work needed, which leads a native population, already ill-educated to function in the modern world, to refuse to work and instead to rely on immigrants to do not only the dirty work but all the work;
? the corruption incident to the huge revenues flowing to a ruling elite, a generally unsavory crowd that uses a small portion of the oil money to bribe the masses into lethargy with free telephone service and a few other amenities, and most of the rest to support a life of luxury unimaginable even in the affluent West, with a little left over to support the terrorist organization du jour so as to fuel the fires of the Israeli-Palestinian war and focus local discontent on Israel rather than on the ruling regime.
That describes Saudi Arabia as it is today, and Iraq as it was before the overthrow of Saddam Hussein and likely will be again if the oil industry is not restructured.
Second: Any reform must have a good chance of surviving the departure of the occupying forces. If we optimistically assume that we have the nous and power to change the way Iraq's oil wealth is used, the new order we impose must be irreversible. We may be in Iraq longer than we had hoped, and certainly longer than we had planned, but we won't be there forever. So we must consider the possibility that a post-CPA Iraqi regime will want to turn the clock back to the good old days of palaces for the few and poverty for the many.
In my view, that eliminates as a possibility any scheme that involves setting up some sort of fund to be used in the interests of the Iraqi people. A post-CPA regime could very easily redirect to itself and its Swiss bank accounts, or its military, or its weapons program, the funds flowing into any pot intended to be used for education, health, and other "good" purposes.
In short, Iraq ain't Alaska, and not only because of differences in climate. In Alaska, oil royalties go into a fund that is distributed directly to the state's citizens, for them to spend as they see fit, to the consternation of Alaska's legislators, who repeatedly fail in their attempts to have the money flow into the state's coffers for redistribution as the politicians and bureaucrats see fit.
The need for a scheme that would survive the departure of American and coalition forces also rules out having the occupying authorities turn ownership of Iraq's oil reserves over to foreign, and especially American, oil companies. No matter how transparent any bidding procedure, no matter how inflated the price paid to Iraq for rights to its reserves, those contracts will be seen as negotiated between an American administrator and American oil companies. They could not possibly survive the departure of our soldiers.
Third: Durable change can come only if we vest ownership in Iraq's oil wealth directly in the people. Shares in the nation's oil companies--and it would be well to have several companies--can be distributed to all Iraqis, perhaps with the proviso that they are not immediately tradable, so as to prevent those who are now very wealthy from extracting unreasonable terms from desperately needy sellers who fared poorly under the old regime. This is not the place to develop all of the details of this plan, even were I competent to do so. That chore is best left to the economist Hernando de Soto and others who specialize in this area. All we need know at this point is that a new Iraqi government, no matter how much it might want to seize control of the nation's oil income, would have a more difficult time confiscating or nationalizing shares held by Iraqis than it would recapturing ownership rights held by American and other foreign oil companies.
Back to OPEC?
Which leaves the knotty question of OPEC. One of our hopes was that Iraq, eager for current revenue, might remain outside the embrace of the oil cartel, which has invited it back into the fold, an invitation Mr. Bahr al-Uloum has said he will accept. There is still a possibility--increasingly remote--that Iraqis will apply a higher discount rate to future revenue flows than, say, Saudi Arabia, and produce all the oil that Iraq's fields can pump out without further damaging the nation's fields. But even if we decide to embrace this rosy scenario, we can't ignore the fact that, at least for the foreseeable future, the Saudis and their partners are cutting back their own output to make room in the market for such oil as Iraq is capable of producing, leaving the volume of oil reaching world markets unchanged--unless some major new region comes on line more rapidly than it is now reasonable to anticipate. (My Hudson Institute colleague, Max Singer, believes that the production of Canada's ample reserves of shale oil is increasingly economic and is a viable long-run alternative to Saudi oil. See his "Saudi Arabia's Overrated Oil Weapon," The Weekly Standard, August 18, 2003.)
Of course, we do not live only for cheap oil, although competitive prices would have the same effect as an additional tax cut and would entail none of the long-term negative consequences of the current plunge into long-term federal budget deficits. So a restructured Iraqi oil industry that contributed to the dilution of the power of the central government by depriving it of first call on the industry's oil revenues would be good news not only for Iraqis but also for those of us hoping that a less troublesome Iraq, and a possible model for other countries in the region, will be the long-term payoff for our current pain and that the new Iraqi government will decide not to play ball with the oil cartel.
But regardless of whether it chooses to operate within or outside of OPEC, it is unlikely--not impossible, but unlikely--that Iraq will become an important enough exporter in the next few years to fund its reconstruction. The country's industry must first be made safe from sabotage, and billions must be invested to upgrade old fields that have suffered from underinvestment and to find new reserves.
Which brings us back to where we started. If America is willing to pay the piper to the tune of, say, 1 percent of its GDP, it can continue to call the tune and hope that my pessimistic view of our chances of converting Iraq and its Middle Eastern neighbors into freedom-loving, tolerant, and largely capitalist nations is simply wrong. If not, we must make the trade-off of further lowering the cost in U.S. blood and treasure by sharing authority with France and "donor" countries that do not share our goals--which will reduce the probability of success below even its low current level.
Whatever else we do, we should remember Kuwait, the country we saved from Saddam and has since refused to allow American companies to participate in its oil industry. Like Kuwait, Iraq's future behavior is unlikely to be informed by any sense of gratitude.
"What soon grows old? Gratitude." So said Aristotle. Therein lurks a lesson for American policymakers who are relying on just that virtue as they attempt to reconstruct Iraq, and who continue to rely on the OPEC countries we saved from Saddam in 1991 to provide an uninterrupted flow of competitively priced crude oil. The French, saved by us more than once from becoming German-speakers, and the Germans, saved by us from becoming Russian-Speakers, are living proof of the proposition that expectations of gratitude have no place in the development of foreign policy.
Irwin Stelzer is a Senior Fellow and Director of Economic Policy Studies for the Hudson Institute. He is also the U.S. economist and political columnist for The Sunday Times (London) and The Courier Mail (Australia), a columnist for The New York Post, and an honorary fellow of the Centre for Socio-Legal Studies for Wolfson College at Oxford University. He is the founder and former president of National Economic Research Associates and a consultant to several U.S. and United Kingdom industries on a variety of commercial and policy issues. He has a doctorate in economics from Cornell University and has taught at institutions such as Cornell, the University of Connecticut, New York University, and Nuffield College, Oxford.
To respond to this article, please send an email to amoutlook@hudson.org
CHINESE CITIZENS' RIGHTS ACTIVIST APPEALS WEB SITE CLOSURE
2004-01-30
The founder of a Chinese Web site set up to advise ordinary people of their legal rights has lodged an appeal with a Beijing court, renewing his battle to reverse the government's closure of his site, RFA's Mandarin service reports.
"This afternoon, my attorney officially submitted the appeal to the First Intermediate Peopls's Court of Beijing," Web site founder Li Jian told RFA on Jan.29. "The court agreed to deliberate on the case, and we paid the legal fee. This means that our lawsuit is reactivated again."
Li said the lawsuit against the Beijing municipal government's Telecommunications Management Bureau had only one aim--to get his Web site up and running again. He argues that the decision to pull the plug on his site violates Chinese law, because no regulations exist yet governing sites run by private individuals.
"I got hold of a faxed copy of the bureau's decision through a merchant who provided our Web servers," Li said. "In that document, it says the Beijing Telecommunications Management Bureau reached the decision, which was based on an internal memo issued by the Ministry of Information Industry."
So Li went to visit the Ministry, where he was told that they had instructed the municipal regulators to deal with the matter "according to the law." The trouble is, according to Li, that no relevant law yet exists.
"They don't have specific laws and regulations on which to base their administrative actions. That's why it's illegal to shut down my Web site because they don't have any laws regulating individual Web sites. They didn't follow any legal procedures," he said.
Li is also hoping that this case will highlight the very issues that led him to set up the site in the first place.
"China is moving more and more towards becoming a society ruled by law, and we all have seen law playing a greater and greater role. So through this channel, I'm hoping that the citizens' rights protection Web site will become a legally recognized site in China," he said.
China has kept a tight hold on Internet use by its citizens, for fear that its critics could organize themselves into an effective opposition and disseminate their views to China's fast-growing population of cyber-surfers. While the government is keen to promote the rule of law in theory, the idea of citizens protecting their rights via the Internet is extremely sensitive.
Government filters block access to Web sites abroad run by dissidents, human rights groups, and some news organizations. The Chinese authorities are thought to have detained more than 30 people since the Internet boom began in the late 1990s, often for simply expressing pro-democratic leanings in online postings and articles.#####
Copyright ? 2001-2004 Radio Free Asia. All Rights Reserved.
IN SMUGGLED LETTER, SOUTH KOREAN IN CHINESE JAIL REPORTS SUFFERING
2004-02-02
'I am suffering in prison not for doing evil but for doing good'
A South Korean man currently serving a five-year sentence in a Chinese prison for helping defectors from North Korea has smuggled a heart-rending letter to his family, cut painstakingly from the pages of a prison Bible, RFA's Korean service reports.
"Someone mailed me a letter from my husband," the man's wife, Bong-soon Kim, told RFA. "I think this person secretly received it from my husband in the prison... He cut out letters that he needed from the Bible and pasted them onto the paper one by one."
Kim said her husband, Young-hoon Choi, was arrested by Chinese police along with a photographer, Jae-hyun Seok, for helping North Korean defectors in the northern Chinese port city of Yantai, which lies on the Bohai Bay and Yellow Sea, across from the Korean Peninsula.
She said she had been allowed to visit Choi during his trial, when he looked unhealthy. "I think they took the glasses away to prevent accidents. He has very poor eyesight," she told reporter Won-hee Lee. "As you know, letters in the Bible are quite small. It is painful to think that he had to cut out every single letter and pasted them onto a paper without even glue to send his heart to us."
In the letter, Choi called on his family to band together to support each other in his absence. "As you know, I am suffering in prison not for doing evil but for doing good. So I hope that you will not be ashamed of your father for being in prison," he wrote.
"I am spending time every day thinking of you and your mother and serving God."
Kim said Choi had begun to get involved with the troubles of North Korean defectors during his frequent business trips to China. "I think during that time, he saw people in trouble and thought about ways to help them and started participating in helping them. I am hoping for an early release but I still haven?t heard anything," she said.
She said repeated appeals to the South Korean government to work for Choi's early release had met with reassurances, but no result so far. "The government tells me not to worry, saying that it is continuously requesting China for an early release but no progress has been made. So as his family we are having a very hard time," Kim said.
She called on the South Korean government to work harder to secure Choi's release, adding that her two daughters, aged 16 and 11, were still unable to cope with their father's absence.
"I can't talk about their dad because they cry whenever I talk about him. I think my daughter?s feelings toward her dad became more intense when the holiday season came around and the weather became cold... One day I came home from work and found out that she posted her writing on the Web site."
Choi's letter said: "I would like to tell my beloved wife that I love her truly and faithfully. I also want to say that I am sorry and grateful. To you, I am a sinner."
"Listen my children. During my absence, respect my beloved wife, your mother. And I hope that you, Sun-hee and Soo-jee, will love each other and make your mother happy every day by being earnest, diligent, and cheerful good daughters," the letter said.
Kim said Choi had recently been transferred to a prison in Yantai, along with Jae-hyun Seok. "I guess my husband and Mr. Jae-hyun Seok cross each other?s path every now and then. And now he is allowed to use writing tools," she added. ###
CAN CHINA AFFORD TO FUEL ITS ECONOMIC GROWTH?
2004-01-29
Booming demand squeezes global oil stocks, boosts prices
China, which has already overtaken Japan as the world's second-largest oil importer, surprised industry analysts last year with a huge increase in oil imports, prompting concerns that the country may not be able to afford its fuel bill for much longer, Radio Free Asia (RFA) reports.
"I can't think of any country where oil imports have increased so rapidly both in relative and absolute terms, and the consensus seems to be that this growth will continue, at least in absolute terms," Robert Ebel, of the U.S.-based Center for Strategic and International Studies, told RFA in a recent interview.
"You have to wonder, can they continue to afford buying the oil that they need to support their economy, particularly if prices of oil stay where they are at today's level--32 or 33 dollars a barrel?" Ebel told special correspondent Michael Lelyveld.
China's oil imports soared far above official forecasts last year, prompting concerns that the energy deficit could damage the country's economy. Crude oil imports rose by 31 percent in 2003 to more than 91 million tons, compared with the previous year. And the overall bill for foreign oil rose by 55 percent year-on-year to almost U.S.$20 billion.
Firstly, domestic production simply cannot keep up with demand. PetroChina's output increased by less than one percent last year, while production at the country's biggest resource, the Daqing oilfield, actually fell.
Secondly, the war in Iraq and recovery from the SARS outbreak brought bumps and shocks to China's oil demand, which is having a global impact, boosting demand and prices--and adding more to China's energy costs.
Edward Morse, an energy analyst at Hess Energy Trading Company, says that China can afford the growing cost of oil imports in the near term, but that there may be problems sustaining such import levels in the longer term. "I don't think it's getting to be a problem in the short run. The problem comes from compounding the rate of growth over a few years," he said.
Morse predicted that China's fleet of cars and trucks would double over the next five years, resulting almost certainly in a doubling of fuel consumption for transportation purposes.
"Looked at in the perspective of five or 10 years from now, the current trend really could cause them to rethink whether they can afford to do what they're doing," he told RFA.
What's more, China's booming oil demand is in itself contributing to higher costs by driving up global prices. "Their growth in demand this (past) year was surprising," said Jason Feer, Singapore bureau chief for the oil industry weekly Petroleum Argus. "China alone accounted for a third of the overall world growth in demand for oil. So, that certainly had an impact on price."
"And I think there's certainly a valid point that the more they demand, or the faster their rate of growth, the more impact that will have on their own economy," Feer said, adding that China's plans to build an emergency crude reserve would exacerbate the effect, if implemented.
Last year, the cost of foreign oil rose to 1.4 percent of GDP from one percent a year before. Total consumption of crude oil was equal to nearly four percent of GDP. The figures do not include the cost of refined fuels or other energy sources like coal, which have also grown.
And China so far has shown few signs of addressing energy efficiency issues which might ease the situation. "So far, the government has swung back forth with arguments about whether the economy is overheated or not," Ebel said. "In the meantime, the economy has powered ahead with unrestrained growth in sectors like auto manufacturing despite energy shortages, leaving no option but to buy more foreign oil."
Plans to impose new rules for better fuel mileage in new cars are in the pipeline, but the effect may not be felt for years, he said. #####
MONGOLIAN OIL COULD HELP CHINA'S ENERGY WOES
2004-02-02
Company hopes for pipeline into northern China
A Mongolian oilfield first discovered in the early 1990s has proven far more promising than originally believed, prompting calls for a pipeline linking it to northern China, RFA's Mandarin service reports.
The UK-based Soco International oil company said it had drilled four exploration wells in the Zuunbayan field, at the northeastern tip of Mongolia, during 2003. It said it had found significant reserves of a higher quality and greater predictability than was previously known in the area.
"We've discovered oil in a much better reservoir, at a shallower depth than the previous wells and one which we think we'll be able to predict with much greater certainty where to drill in the future," Soco International's president and chief executive Ed Story said in an interview.
"The key in what we've been about is to get enough quantity, proven reserves, to then go forward to build a pipeline so you can move larger quantities to sell to China," Story said, adding that Soco and its Chinese and Vietnamese partners had long had an eye on the China market.
China is facing skyrocketing oil bills as a result of strong economic growth, overtaking Japan in 2003 to become the world's second-largest oil importer. So far, its attempts to negotiate pipeline deals with major producers like Russia and Kazakhstan have not yielded fruit.
Wang Baoji, a Chinese representative at the project for the Huabei Petroleum Management Bureau, agreed that the oilfield was a significant find. "We've been cooperating with Soco since 1989," he told RFA. "As for production, it's been coming onstream fairly fast now. It's not bad... particularly Area 19 [in the Tamtsag Basin area]." He said the project had also promoted cooperation between China and Mongolia.
Huabei currently holds a 10 percent stake in the venture, with PetroVietnam holding 5 percent, and Soco 85 percent. The oilfield currently exports around 500 barrels daily by truck to China.
Story said Soco had chosen to work with Huabei--which provides drilling services--partly because of their previous experience drilling in a similar deposit in China, and partly for economic reasons.
"We use Chinese rigs and Chinese personnel who've come over actually from the Huabei area, and that's the key, so we've got the costs down," he said, adding that Soco was probably the first oil company even to use Chinese drilling rigs outside China.
Those savings meant that Soco could afford to drill more wells in any given year, with a potential to export as much as 10,000 barrels per day if a pipeline were built. He said that now that the potential of the Mongolian oilfield was known, a pipeline would stand a good chance of attracting development funding.
"From the standpoint of China... it would be the closest source of additional oil reserves, although not on the scale of those in Russia, but certainly it could become significant, it could be very secure, and really support a trading relationship between China and Mongolia," Story said.
China's oil imports soared far above official forecasts last year, prompting concerns that the energy deficit could damage the country's economy. Crude oil imports rose by 31 percent in 2003 to more than 91 million tons, compared with the previous year. And the overall bill for foreign oil rose by 55 percent year-on-year to almost U.S.$20 billion. #####
Copyright ? 2001-2004 Radio Free Asia. All Rights Reserved.
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Company reports
Real-time reality
Jan 29th 2004
From The Economist print edition
Why does it take firms so long to produce their annual results?
"THE market has given unusual attention to the report of the Deutsche Bank," noted The Economist of March 5th 1904, "owing to the splendid results announced."* This year the Deutsche Bank will announce its results (expected to be less than splendid) on February 5th. In a century the bank has speeded up the production of this vital piece of information by four weeks. Other German firms have persisted with 19th-century reporting schedules. TUI, a big travel group, has declared that it will not reveal its 2003 results until it holds its annual press conference on March 31st. That is much later than most German banks were reporting their annual profits a century ago.
Next to the snail-like TUI, big American firms look like accounting cheetahs (sic). America's biggest financial business and its biggest manufacturing firm--Citigroup and General Motors (GM), respectively--each produced their annual results this year on January 20th, within three weeks of the end of the reporting period. That is considerably less than the 90 days that firms are allowed by America's securities legislation to file Form 10-K, the document revealing their annual results.
But even the speed of American firms is by no means as impressive as it seems. For one thing, there has been little improvement for 20 years. In 1984, General Electric announced its results on January 17th, one day later than this year; the same year Citicorp (as Citigroup then was) came out with its results two days earlier than in 2004. Given the advances in information technology in the intervening decades, could corporate accounting departments have been expected to do better? Cisco Systems, one of the most advanced users of IT in America, is scheduled to produce its results for the quarter to January 24th on February 3rd. Given its enthusiasm for the "real-time enterprise", should Cisco by now be coming up with its results on the day after the period to which they apply, if not on the day itself?
A real-time enterprise (RTE) has computer systems that are so intimately inter-linked that information flows among them almost instantaneously. Many firms are trying to set up such systems so that they avoid nasty shocks. GM is keen on the idea, to such an extent that its boss, Rick Wagoner, is said to know the firm's bottom line some two weeks before it is revealed to outside investors. Others, such as Wet Seal, an American retailer, are today gathering most cost and revenue data daily.
In "Heads Up" (to be published in April by the Harvard Business School Press), Kenneth McGee, a vice-president of Gartner, a research firm, describes a "large services company" whose fixed costs are so stable that it can predict its profits for the current quarter, within a 1% margin of error, on the basis of the number and type of customers in the early part of the quarter. Its boss is thus able to spot business icebergs well before they hit him. These days, says Mr McGee, "there is no such thing as a legitimate business surprise."
Mr McGee's enthusiasm for RTEs comes from the power they give managers to anticipate problems. He also believes that by the end of this decade high-performing RTEs will be publishing their earnings per share on a daily basis. This, he claims, will give them a competitive edge in raising capital. Most accountants, however, remain sceptical. Baruch Lev, professor of accounting at New York University's Stern School of Business, points out that earnings figures are based on more than raw facts. They involve estimations and assumptions about things like losses from bad debts. Calculating those will always take time. So perhaps Citigroup will not, after all, announce its 2103 results any earlier than the third week in January 2104.
* "Since a week ago the annual statements of the remaining large banks of the city have been published. The market has given unusual attention to the report of the Deutsche Bank, owing to the splendid results announced. The dividend (11 per cent), it is true, is not increased, owing to the heavy amounts written off and carried to the reserves, but the net earnings of the bank show a large gain over 1902. These reached ?1,215,350, being ?183,700 more than for the previous year. From the earnings ?181,500 is carried to the reserves, which now stand at ?2,950,000, and ?63,900 is written off on buildings. The total turnover for the year shows a further large gain, having amounted to ?2,982,000,000, or ?132,850,000 more than for 1902. The bank's quick assets are returned at ?36,100,000, being an increase of ?2,400,000; deposits and creditors at ?39,450,000, or ?3,500,000 more than at the end of 1902. The above are all record figures. Of the ?2,785,000 in securities owned by the bank only ?168,000 represents railway, bank and industrial shares, all the rest being in fixed interest-bearing paper. While the market had expected an increase of the dividend to 12 per cent, the report has made a most satisfactory impression."
Copyright ? 2004 The Economist Newspaper and The Economist Group. All rights reserved.
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Corporate tax
A taxing battle
Jan 29th 2004
From The Economist print edition
Governments around the world are scrabbling for scarce corporate taxes
NOBODY wants to pay taxes. No wonder, then, that so many companies spend so much effort trying to avoid them. Almost every big corporate scandal of recent years, from Enron to Parmalat, has involved tax-dodging in one form or another. In the latest revelation on January 26th, Dick Thornburgh, the man appointed to look at the collapse of WorldCom, released a report claiming that, as well as the slew of other crooked dealings of which the bankrupted telecoms company is guilty, it also bilked the Internal Revenue Service (IRS) of hundreds of millions of dollars in taxes through a tax shelter cooked up by KPMG, its auditor.
Tax authorities around the world rightly fret that such cases are the tip of a large iceberg, and they are starting to act. In America, home to many of the best-known corporate-tax scams of recent years, the Bush administration has announced a series of anti-tax-dodging measures in its new budget, which will be presented to Congress on February 2nd, including an extra $300m to boost enforcement and the shutting of corporate-tax dodges that could bring in, it reckons, up to $45 billion over the next ten years.
But the IRS was becoming stroppier even before these measures. In early January, it slapped GlaxoSmithKline, a big British drugs company, with a $5.2 billion bill, claiming that Glaxo Wellcome, its predecessor, underpaid taxes on profits made in America from 1989 to 1996. Even though Glaxo had paid taxes on its profits in Britain, and although there is a "double-taxation" agreement between Britain and America, which means that a company should not have to pay tax on the same profits in both countries, the IRS decided that much of this profit had, in fact, been made in America. GlaxoSmithKline is to fight the tax bill in court.
Whatever the outcome of that case, the company's woes, and the prospect of being taxed twice on the same profits, have sent a shiver through the tax departments of multinationals everywhere. A tax partner at one big accounting firm says that "transfer pricing" is the biggest worry for tax directors at the overwhelming majority of big companies. Disputes between multinationals and tax authorities have been rising anyway, according to tax experts at the accountancy firms that are often embroiled in them. The IRS has showed that it is upping the stakes further.
Many of these disputes, which rarely see the light of day, occur over transfer pricing. This is the method used by multinational firms to value goods and services bought and sold among subsidiaries, and is a big determinant of the profits booked--and thus taxes paid--in a given country.
Two trends show the increasing rift between companies and the tax authorities. The first is a spike in so-called "advance pricing agreements" (APAs). In these, tax authorities and a nervous multinational essentially agree on its transfer-pricing methodology. Even though these are cumbersome and time-consuming, by March last year the IRS had signed 434 such agreements since the first one in 1991, and their number has surged in recent years: in 2002, the IRS signed 87 APAs, 40% more than two years earlier.
The second revealing trend is the way in which the big accounting firms are beefing up their transfer-pricing departments. In Britain alone, the combined numbers employed by the four-biggest accounting firms in transfer pricing has tripled in recent years, even though their clients have themselves also been employing more people to deal with tax issues.
A global headache
These spats demonstrate a growing unease among governments that the obvious benefits of a globalising economy come with a high price: a loosened grip on the companies that increasingly can and do shift their employees, know-how, capital and even headquarters overseas--and with them their taxable profits.
Put simply, multinationals are becoming more, well, multinational. According to UNCTAD, a United Nations agency, in the early 1990s there were 37,000 international companies with 175,000 foreign subsidiaries. By last year, there were 64,000 with 870,000 subsidiaries. Increasingly, such companies are being managed on regional or even global lines, not national ones. An extraordinary 60% of international trade is within these multinationals, ie, firms trading with themselves. Many have global brands, global research and development, and regional profit centres. The only reason for preparing national accounts is that tax authorities require it. But it is hard to say quite where global firms' profits are generated.
Governments have responded to this fluidity partly by reducing their corporate-tax rates. According to KPMG, a big accounting firm, OECD countries cut corporate-tax rates by nearly seven percentage-points between 1996 and 2003. Some have cut aggressively. Ireland slashed corporate-tax rates by some 23 percentage points over the same time period, and attracted much foreign investment as a result--to the fury of fellow EU members.
Countries have also built ever-higher barricades of complex rules to retain what they see as their fair share of corporate profits. And rich countries are not alone in doing this. In recent years, India, Thailand and other developing countries have added their own transfer-pricing regulations to the existing jumble.
Navigating this mishmash of regulations is no easy task. Transfer prices are very tricky. Most countries set them at "arm's length"--ie, the price an independent party would pay for a given service or product. Though the principle is a nice one, the practice is complicated, particularly because companies are increasingly service-oriented and rely more on brands, intellectual property and other hard-to-price intangibles. The issues raised by transfer pricing can thus be dauntingly philosophical. "You are dealing with fundamental questions, such as what creates value," says KPMG's Ted Keen. "And the answer is different every time."
The quarrel between GlaxoSmithKline and the IRS, for instance, revolves around what made Zantac--its hugely profitable ulcer drug--so valuable. Was it the money poured into research and development in Britain, or the advertising and marketing in America? Clearly, both were factors, but deciding how much was contributed by whom, and thus how to divvy up costs, profits and taxes is hard.
Of course, transfer pricing is open to manipulation. A report by America's Senate in 2001 claimed that multinationals evaded up to $45 billion in American taxes in 2000. Whatever the truth of this claim, some of the report's details were eye-catching: one firm sold toothbrushes between subsidiaries for $5,655 each.
Moreover, there is a mound of evidence, says James Hines, a tax expert at the University of Michigan, that shows that international companies tend to report higher taxable profits in countries where taxes are lower. Yet, as he says, this is not necessarily illegal or bad. Companies owe it to their shareholders to avoid paying unnecessary taxes. The trouble is that one person's abuse is another's smart planning. And the tension between those two views is likely to increase.
Copyright ? 2004 The Economist Newspaper and The Economist Group. All rights reserved.
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Galileo and GPS
Where it's at
Jan 29th 2004
From The Economist print edition
A European satellite-navigation network is on its way
IT IS now almost two years since the European Union decided to go ahead with plans to launch a satellite-navigation network to rival America's existing Global Positioning System (GPS). For much of this time, Galileo, as the European system is called, met with staunch opposition from America. However, a round of talks last November seems to have assuaged American concerns. The final details remained to be negotiated in talks in Washington, DC, on January 29th and 30th, as The Economist went to press. But the outlook for an agreement was good.
The core of the disagreement between the EU and America was whether the signals from the two competing systems might interfere with one another. More specifically, the Americans wanted the ability to jam Galileo without rendering GPS signals ineffective. The agreement reached in November was the first step in this direction. In return for the modification of Galileo's signals, the Americans agreed to give Europe technical assistance in developing Galileo, and to make sure that the third generation of GPS, to be deployed in 2012 (Galileo should be operational by 2008), will conform to Galileo's standards. This will aid the interoperability of the two systems, which is a commercial goal of both sides. It will also, in principle, give the Europeans the ability to jam the American signals in the event of a crisis in which the two sides' interests differ.
There is a bewildering array of different sorts of signals involved in each network. GPS currently has two, a civilian channel known as C/A and a military one, Y-channel. Plans for an additional military channel, called M-code, are in the works. Galileo will debut with five different signals: one freely available to all, like the GPSC/A signal; a commercial service which is more precise; a "safety-of-life" service that can be used for critical applications such as automatically landing aeroplanes; a "public regulated service" (PRS), which will be used by the EU's governments, and presumably, their armed forces; and a fifth, unique, service that combines positioning information with a distress beacon, which could be used by ships at sea or intrepid mountaineers. The negotiations in November resolved a conflict between America's M-code and the European PRS. What remains is to harmonise Galileo's free signal with the M-code.
Both systems rely on signals precisely timed from atomic clocks carried by the satellites (GPS has 24 satellites, Galileo will have 30). A user looks at the time on at least four satellites, and triangulates (or, perhaps, "quadrangulates") between them to find his position. Differences in the details of the different signals are what make the "premium" applications. Some are more precise than others, and they also have different levels of encryption, to prevent unauthorised users from accessing them.
What makes the situation bizarre is that several of these signals will overlap with one another, within a frequency range known as the L-band (this is about 10 times higher than the frequency used by commercial FM radio stations). That can be done using a technology called spread spectrum, which is now common in mobile telephones.
The trick is to embed the signal in a dense "pseudorandom" sequence (it is pseudorandom because it looks random but is actually generated by a computer program). To an uninitiated recipient, the result appears to be noise. However, if the recipient knows the right starting values for the program, he can regenerate the sequence and disentangle the original signal. The signals can overlap because each, to the others, resembles noise.
Galileo will be in part a commercial system. A concessionaire will get the right to operate the system for a fixed period in return for plunking down two-thirds of the deployment costs--around ?2.2 billion ($2.8 billion). But control and ownership of the network will remain with the EU (most of whose members are, or soon will be, America's military allies in NATO), through a yet-to-be-formed, and ominously titled, "Surveillance Authority".
This means that American fears about the use of Galileo during, say, a crisis in the Taiwan Strait, are perhaps overblown. Despite the fact that China recently agreed to pay ?200m towards Galileo's development, it will not have access to the PRS channel, nor a say in how Galileo is run during a crisis, according to Paul Flament, an engineer at the European Commission who is working on Galileo. The same is true of other prospective partners such as India and Israel. (Brazil is involved in an early stage of negotiations as well.)
Sceptics question whether Galileo will indeed prove profitable. They suggest that the concessionaire might face huge liabilities in the event of an accident. But at least four consortia are bidding to become the concessionaire, and these consortia include such firms as EADS (the owners of Airbus) and Alcatel. Optimistic projections talk of 2.5 billion users by 2020. If even a small fraction of that number needed additional precision and were willing to pay for it, the business would be lucrative. America may yet regret not privatising part of GPS.
Copyright ? 2004 The Economist Newspaper and The Economist Group. All rights reserved.
Japanese charged for espionage
2004-02-03 / Associated Press /
Prosecutors in Japan detained a Japanese man yesterday in response to an American request that he be handed over to face industrial espionage charges in the United States, media reported.
Takashi Okamoto, 43, a former researcher at the Cleveland Clinic in Cleveland, Ohio, was charged in May 2001 with conspiracy, economic espionage and interstate shipment of stolen property related to Alzheimer's disease research.
Tokyo prosecutors took Okamoto into custody after receiving an order from Justice Minister Daizo Nozawa to investigate the case, Kyodo News Agency reported. The prosecutors will decide whether to take the matter to the Tokyo High Court, which would rule whether he should be extradited.
Japan and the United States have an extradition treaty, but Tokyo only sends its citizens to face charges abroad if they have been accused of acts that are also illegal in Japan. While Japan doesn't have any economic espionage laws, the Justice Ministry decided Okamoto's acts constituted theft and destruction of property under Japanese law.
Okamoto is now a doctor at a hospital on Japan's northernmost main island of Hokkaido. He resigned from the Cleveland Clinic in 1999.
According to the indictment, Okamoto left the United States on August 17, 1999, a day after he and another Japanese man, Hiroaki Serizawa, allegedly left vials of tap water in place of missing genetic materials.
Okamoto allegedly arranged for them to be sent to the Institute of Physical and Chemical Research, north of Tokyo.
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