With the fluctuations of oil and gas prices creating shocks to their economies, Gulf states may want to rethink the peg to the U.S. dollar.
For a zone defined to prevent disputes, the Saudi-Kuwaiti Neutral Zone unfortunately provoked one. But the lengthy disagreement between its owners, which had shut down the area’s important oil production, now seems to be over. It will add little or no output immediately, but it does restore some spare capacity, and resolves one of the breaches in the Gulf Cooperation Council.
The Neutral Zone was defined under British auspices in 1922 to avoid delineating part of the border between Kuwait and Najd (later Saudi Arabia), where tribes often wandered with their flocks. In 1957-58, oil concessions were awarded in the area, and in 1967, Kuwait and Saudi Arabia agreed to partition the onshore zone, so their national border now runs through its middle. However, they retained an equal share in the petroleum resources, so each country has 50% of production and reserves and they carry out operations jointly. Because of this, the international concession holders escaped the nationalization of all oil production elsewhere in the two countries during the 1970s. Nevertheless, it left a somewhat complicated legacy of decision making because of the continuing involvement of international companies.
The offshore zone contains the Khafji field (the northern part of Saudi Arabia’s Safaniyah, the largest offshore oil field in the world), Hout, Lulu (extending into Iranian waters as Esfandiar), and the Dorra gas field, producing about 310,000 barrels per day prior to the dispute. Onshore are Wafra, South Umm Gudair, and some smaller fields, with about 190,000 b/d capacity, declining gradually since 2001. But the onshore Eocene reservoirs hold massive heavy oil resources, with 18 billion barrels in place. Chevron has extensive experience in California and Indonesia in injecting steam to decrease the viscosity of heavy oil to allow it to flow to the surface. Its plan to repeat this in the Neutral Zone is crucial to plans for significant production gains.
The offshore part of the concession was held by the Arabian Oil Company, a subsidiary of the Japanese Trading Company. The Saudi section expired in 2000, the border was demarcated, and the Arabian Oil Company was replaced by Aramco Gulf Operations Company, a subsidiary of Saudi Aramco. The Kuwaiti part of the Arabian Oil Company concession expired in 2003 and was taken over by the Kuwait Gulf Oil Company. The Aramco Gulf Operations Company and Kuwait Gulf Oil Company then formed Khafji Joint Operations to manage the offshore fields.
But the arrangements became a problem in 2008, when Saudi Arabia extended Chevron’s onshore concession for 30 years without consulting the Kuwaitis, with Chevron and Kuwait Gulf Oil Company (the state inheritor) equally represented on the joint operating committee. This was politically problematic, as Kuwait’s Constitution bans the foreign ownership of oil resources. Kuwait made things difficult for Chevron’s operations, denying employees visas, and wanting to take the land of Chevron’s offices for its new Al-Zour refinery.
The two sides also clashed over plans for the undeveloped Dorra gas field, which is also a subject of territorial dispute with Iran, where it is known as Arash. This disagreement has been a concern since 1963, when the Saudi oil minister, Ahmed Zaki Yamani, wanted to present a united front to the Iranians. The latest reconciliation between Kuwait and Saudi Arabia still does not address Iran’s claim; the Iranians have repeatedly discussed developing Arash, though it is well down the priority list while sanctions endure.
Both Saudi Arabia and Kuwait are short on gas, running their power plants on costly and polluting oil and, in Kuwait’s case, importing liquefied natural gas. Saudi Arabia wanted to pipe the gas to the Saudi town of Khafji and then send Kuwait’s share north, while Kuwait wanted to have its own pipeline directly from the field. The Saudis were concerned about schemes to expand output from the Khafji field, fearing it might negatively affect pressure in the connected Safaniyah field. Yet in 2013, expansion plans for Khafji instead ran into trouble on the Kuwaiti side, as no government figure wanted to take the risk of approving Kuwait’s share of the costs, for fear of parliamentary opposition.
Eventually, Saudi Arabia closed down offshore production in October 2014, and the onshore was shut down in May 2015. The Saudis cited the environmental violation of flaring sour gas at Khafji, but this was cover for the underlying political dispute. With oil prices falling and both countries seeking to boost production, it was also a convenient move in market terms: Saudi Arabia could make up the losses with production from elsewhere but Kuwait could not, except by overstressing its giant workhorse Burgan field. Kuwait complained that, under the 1967 agreement, it should have been entitled to five years’ advance notice of the halt in production.
Talks were held even before the shutdown, and have been convened with greater urgency since. The United States strongly encouraged an agreement, wanting to add more spare capacity to the world oil market to support its campaigns against Venezuela and Iran, and also in support of the U.S. company Chevron. In September 2018, Saudi Crown Prince Mohammed bin Salman visited Kuwait to see Emir Sabah al-Ahmed al-Sabah, with expectations of a resolution, but left after a few hours with talks having broken down. In December 2018, Kuwait’s minister of oil and the chief executive officer of Kuwait Petroleum Corporation went to Saudi Arabia, but again without success. “Significant progress” on the sovereignty issues was reported in June 2019.
Finally, in late December 2019, an agreement was reached, including a division of the area and a memorandum of understanding related to resuming production. The agreement itself precisely outlines each country’s share of the zone, clarifies their absolute sovereignty in their own sector (which was not clear in the previous agreements), and specifies that the countries will not obstruct employees of the other side’s appointed oil company from carrying out their duties.
It is expected that production will gradually resume to reach approximately 500,000 b/d by the end of 2020. Khafji will probably restart before Wafra, as it has been better maintained. The deal clarifies territorial boundaries. Chevron’s offices will relocate from the Kuwaiti area, probably to Khafji, within five years. And the countries will develop their section of the Dorra field, and have hired a consultant to study it, although it’s not clear whether the tricky issue of the gas evacuation route has been solved, nor whether Iran will object to the project.
The accord still needs Kuwaiti parliamentary approval. It was presented to the Parliament in a special session on January 9 by the foreign minister and oil minister, who denied rumors that Kuwait had made territorial concessions or would pay Chevron compensation. There is no particular reason for Parliament to oppose the agreement, but it is sensitive about questions of sovereignty, and has often sought to impose its will on the government.
The breakthrough will be welcomed by Chevron, though. Its share of the Neutral Zone will increase its worldwide oil production by about 6%, and it is the California-headquartered corporation’s only upstream asset in the Middle East other than in Iraqi Kurdistan.
The agreement should add a little oil to world markets: Kuwait has been producing somewhat less than its OPEC target, by about 20,000 b/d in November 2019. But it, and especially Saudi Arabia, will mostly accommodate the rising Neutral Zone output by cutting back from other fields. More important, the accord increases spare capacity in case of interruptions elsewhere, and the zone’s medium-heavy grade is particularly in demand. It will take some strain off Kuwait’s other fields. And renewed development of the Eocene reservoirs at Wafra will eventually boost Kuwait’s output after it has repeatedly missed capacity growth targets. The country has just begun to exploit similar oil in its own territory, with about 60,000 b/d to be sold as a new “Kuwait Heavy” grade.
Kuwait has had some differences in recent years with its Gulf neighbors, taking a more vocal stand in favor of the Palestinian cause, playing only a minor role in Yemen, and being more dovish on Iran. Now, assuming parliamentary approval follows, Saudi Arabia and Kuwait have seemingly managed to close one, albeit small, regional rift. However, five years, the extensive involvement of senior leadership of both countries, and strong U.S. encouragement were required to address one relatively trivial dispute, hardly an encouraging omen for efforts to tackle the region’s bigger conflicts.
is a non-resident fellow at the Arab Gulf States Institute in Washington. He is CEO of Qamar Energy and author of “The Myth of the Oil Crisis.”
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