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A New Oasis Of Oil

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In my last column I'd briefly mentioned how high oil prices are weighing heavy on the world economy. But as I had also pointed out that, it is not the prospect of us running out of oil but that of underinvestment in existing oil reserves- among other factors - that may continue to push oil price northwards. Given that the majority of world oil reserves either lie in the politically volatile Middle East or under Communist regimes, the question of further increasing the supply of world oil comes back to the possibility of doing so in such countries.

To estimate the production capacity that can be achieved with the right kind of investments flowing in, consider these facts. The Middle Eastern region holds more than half the world's oil reserves but they only produce 27 per cent of the world oil production. On the other hand US produces 10 per cent of the world's oil but has only 1 per cent of the world reserves. The oil sector in Middle Eastern /other Communist regimes countries is government controlled and given the structure of their markets, Western investments in these sectors remain constrained. The Arab countries have often pedaled market reforms in order to attract investments but not achieved required success. In fact foreign investments in the Gulf region have reduced by a third in the last three years.

However there may be a new oasis of oil emerging in the form of Libya. This is good news not because rebel victory has softened the oil prices, but how this victory may play out to be a bigger promise with regard to long term oil supply.

Given the overwhelming role that the NATO played in the rebel victory, there may have finally emerged a country in this region that will carry a positive sentiment for Western countries owing to the architecture of its nationhood. When the French jets first reduced the Gaddafi army to rubble, while they were approaching Benghazi to quash the rebels, people had broken onto the roads showering praises on Sarkozy and Obama. From Nafusa Mountains in the west to Benghazi in east, all through the war the rebels have worked closely with NATO. During the course of war, the rebels often asked and got support from NATO countries in various forms; the French dropped arms in the western mountains to the Germans lending $144 million to the rebel council. If the rebels are able to unite the country and bring the transition peacefully, then western nations will enjoy a significant clout as Libya rebuilds itself.

Post war one of the most important tasks would be to return the Libyan oil production systems to the pre war level of 1.6 million barrels a day. 80 per cent of the revenues of the earlier government came from the oil exports. Without a doubt, when the oil exports resume majority of the revenues for the new government would also come from oil export and therefore it is likely that the new government would be eager to do the needful to lift the oil production.

But the bet in Libya is much bigger than just 1.6 million barrel of oil a day. If the Libyans could leverage their reserves even at the same level as Nigeria, another North African country does, the country should be able to produce another million barrels of oil a day. But expectations from the Libyan nation would be higher. Being the most developed country in Africa, in terms of Human Development Index, Libya can assure a more vibrant market environment.  With the right investment scenario, Libyan oil production can surge in the coming decade. Some believe that it can double by the next decade.

In order to achieve that Libya will have to invest not just in terms of money but also in terms of technology and market reforms. Market reforms may require Libyan regime to increase the returns on oil investments in the country for foreign investors in proportion to the risk perception of the investors.

Given the tumultuous environment of the country companies may judge the investments in the country risky and therefore only greater returns would be able to compensate for the extra risk. Therefore unlike the Gaddafi regime which allowed the oil companies to take away only 10 per cent of the oil revenues, the new government may try to give back the oil companies a greater share of revenues. But that will not be easy for the new government. Any liberal concessions to foreign companies may look like the new government has sold out to the western interests and may even give the Gaddafi backers a point of contention. Any new government may not want to give away the wrong signals during its early days. This represents a tough choice for the new government. What are their possible options in such a case?

One possible solution to the problem lies locked away in the American and European Banks. As much as $100 billion funds of the Gaddafi government lie in the foreign banks. Rather than bringing all of that money to Libya-which would be anyways a difficulty given the contention on its ownership- the rebel council could use a part of it to create liberal guarantees for the oil investments in the country. These funds could be invoked to cover any losses or even subpar returns that companies investing in Libyan oil infrastructure may incur. Using the frozen assets as guarantees for investment risk guarantees may also be politically convenient. The idea is not new, rebel council has in past asked for loans backed by the frozen assets as guarantee. Quite likely, the rebels would want to use the frozen assets to fund the reconstruction of the country and the oil infrastructure to generate revenues. But rather than directly using all the funds as investments in oil infrastructure, using a part of it for investment guarantees can leverage more investments than their direct application for kick starting Libyan oil supplies.

Yet will Libya turn out to be a new oasis of oil cannot be ascertained yet. The track record of the Arab nations in terms of leveraging their oil reserves for production has been very poor. And challenges for the new government as it builds the new economic system will be no less daunting. But the idea of tapping the oil reserves must be seen as a medium term solution for Libyan economy. In the long term the new government can decide if Libya can do better than being an oil oasis. Can it break away from the ranks of Arab nations who have in order to tap into their oil reserves have built economies that depend just on one commodity, oil? In long term this is also a chance for Libya to build a nation that is beyond being just an oil oasis.

Yash Saxena is a sustainability consultant with Emergent Ventures, a climate change mitigating consultancy. He also works on innovation evangelism with Techpedia
yash (dot) saxena (at) emergent-ventures (dot)com

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