Nationalization of Iran’s Oil Industry; Unending Confrontations
Prelude
The nationalization of Iran’s oil industry was neither a sudden or spontaneous move nor what it led to was exclusive and restricted to Iran.
Nationalization of Mexican oil industry (1938) and that of Iran (1951), attainment of production sharing agreements in Venezuela (1948) and even the very formation of OPEC were all somehow the outcome of the unjust relationships between big oil companies of the time (known as Seven Sisters) and oil rich countries.
On the occasion of the anniversary of nationalization of Iran’s oil industry, this analysis will review the process that led to that exceptional event and other aforesaid incidents.
Era of Concessionary Agreements
By the ending decades of the 19th and early decades of the 20th centuries, the Seven Sisters, which included two British oil companies of Royal-Dutch Shell and British Petroleum (BP) and five American companies, managed to gradually dominate the whole of the world’s oil industry and its trade.
Given that Britain was then a colonial power, the two British companies had the advantage of easily obtaining concessions of exploration and production of oil in the British colonies and were thus born outside Britain. Later on of course, they extended their activities into their homeland as well.
BP was born in Iran on the basis of D’Arcy oil concession, and its birth date coincides with that of Iran’s oil industry. The five American oil companies, however, were born and grew in their own homeland, where oil was first discovered in 1859, and only later on they extended their activities to other countries at international level.
The first two decades of the 20th century witnessed bloody skirmishes amongst the said oil companies, particularly between American and British oil companies, over seizing of oil concessions. However, with the help of their governments, they gradually realized that if they put aside their clashes and formed consortiums, they could get access to oil faster and benefit more.
Finally, on 27th August 1928, the seven oil sisters gathered in secret in Achnacarry (Scotland) to form an alliance to avoid damaging confrontation and division. The Achnacarry Agreement marked the creation of world’s first international oil cartel, whose members reserved the right to share out the oil market and fix prices as they saw fit. The contract between the “seven sisters” made these companies “masters” of the modern world.
Evidently, rivalry amongst oil companies continued, though in a weaker form, and was never completely put away, particularly between American companies on the one side and the British ones on the other. Both sides were watchful of opportunities to snatch away oil concessions from each other. The most vivid example of this is seen in the consortium formed after the overthrow of the national government of Dr Mosaddeq following nationalization of oil industry in Iran by him. American companies, which never had any share in Iran’s oil industry, were given a 40% share in that consortium as the reward for America’s help in staging the coup d’état.
By then, oil concessions were given to one of the seven sisters in almost all undeveloped oil rich countries. Based on such concessionary contracts, the privilege of exploration and production of oil in parts or whole of a country were given to an American or British oil company. In the frame of such contracts, the oil company would have to make two sorts of payments to the host country. One was a “Royalty” and the second was a part of the “Net Profit” earned by the company. Sometimes at the time of signing the contract, a one-time “Signature Bonus” was also given by the company to the country or the signatories.
Royalty was in effect a kind of a rent that was paid annually to the country, regardless of oil being discovered and production or not. However, if oil was discovered and produced, then the company would have to pay a percentage of the net profit of the sale of oil as well. In the case of Iran, this share was agreed to be 16%.
Disputes
This was more or less the case in the relationship and dealings of a company of the seven sisters with the country which granted the concessionary contract. In practice, however, the companies hardly cared about the national interests of those countries and invariably tried to dodge away from paying their contractual obligations.
Obviously, the net profit made by an oil company is the difference between the costs and revenues, which is dependent on the global price of oil. That means when the costs are high and revenues are low, the margin of profit will be trivial, and hence the percentage of shares to be given to the host country will be even more trivial. That is why oil companies used all sorts of manipulation in their accounts to show high costs. On the other hand, especially after the Achnacarry agreement (1928), they would keep the global price of oil artificially low and subsequently pay very little of the percentage that was due to the oil rich countries.
There were of course other hurting issues too. For instance, all kinds of rampant discriminations were in effect against local workers and in favor of workers of the oil company. Such discriminations played a serious role in creating the incentive for the nationalization of oil industry in Mexico. But in most other countries, the insignificant revenues the governments received were the main reason for similar moves.
A question that may arise is that by keeping the global oil price low, the oil companies could reduce their own profits as well. True. However, that only pertained to the exploration and production (upstream) sector of the contract where the company had to pay a share to the government. It should be remembered that the activities of the seven sisters were not confined to the upstream. In fact the entire value chain of the oil industry the world over was controlled by them and they could make their profits in other sectors.
A particularly shameless instance of manipulation of the accounts was that a significant amount per barrel of oil was attributed to the cost of marketing. Whereas in practice there was no marketing at all because those companies were themselves the customers for oil and controlled all other parts of the industry as well. In fact, one of the demands of OPEC in its first decade of its foundation was the elimination of this ‘Marketing Cost’.
In Iran, differences with the British company over the share of the government started early on when oil was discovered and produced during the Qaajar dynasty rule, some seven years after the concession of 1908 was granted. All financial documents and accountings (and the manipulations) were in English and at the time there were no Iranian accountants to check them. Once, when Reza Shah Pahlavi was in Power, a British accountant was hired for the purpose, but he colluded with the British oil company and nothing was achieved.
At various points in time and under sever social and political pressures; some negotiations to reclaim the rights of Iran’s government would take place, but mostly by unreliable personalities who achieved nothing. Documents show that such differences prompted Reza Shah to nationalize Iran’s oil industry in 1931. The British company had not paid even the contractual royalty for couple of years under the pretext of running a loss. Reza Shah’s finance minister Taghizade held a series of talks with the British oil company for the modification of the contract, known as D’Arcy concession. But since the negotiations produced no result, Reza Shah ordered the contract to be annulled. However, the British company took the case to international jurisdictions and the weak government of Iran had to no choice but to capitulate.
The contract was eventually renewed in 1933 and, although it increased Iran’s revenues somewhat, the contractual period was raised to 60 years, 32 years over and above the period in the annulled contract. This rise in the period plus the unpopularity of Reza Shah didn’t leave enough room for a closer examination of the good aspects of the renewed contract. In fact many interpreted Reza Shah’s action to annul the old contract as a conspiracy against Iran’s national interests.
In Venezuela, challenges between the government and the concession carrying company eventually resulted in the improvement of the contract. It was replaced by 50/50 and ‘production sharing’ contracts, which was a huge step forward. Some have said that Iran would have been better off if it had followed Venezuela’s example.
The fact is that the case in Iran was quite different. It was not just an economic issue to do with oil. The D’Arcy concessionary contract was the symbol of the colonial influence of Britain in Iran and the interference of the British oil company in Iran’s domestic politics had created a tangible link between politics, oil and economy. Inability of the previous governments of Iran to reclaim people’s rights, the intransigence of the British oil company, the issue of the political sovereignty of the country and a deeper realization of the importance of oil, had raised the people’s expectation to such a level that, when Iran’s oil industry was being nationalized, ordinary concessions could just not meet the public demand. Hence the nationalization of Mexico’s oil industry, production sharing contracts of Venezuela and the like should all be seen in light of relevant time and space. However, all such moves were in reaction to the cruelty and greed of one of the seven sisters.
Investment, Technology, Market and Oil Dependent Economy
In the case of Venezuela, after this country attained the 50/50 contracts with oil companies, and, unlike Mexico and Iran, was not subjected to international pressures and sanctions, it was faced with another problem. The new contracts had made Venezuela unattractive for fresh investments. Why? Because international oil companies could still get more lucrative contracts in the Middle East and the Persian Gulf.
Like all other undeveloped oil rich countries, Venezuela was in need of capital investment and technology of the seven sisters. Obviously, if Venezuela could develop its own fields and supply its oil to the market and, if its economy was not so dependent on oil, it would not need the help of those companies.
Venezuela had only two options. Either to return to the old contracts, or to convince the other oil rich countries to accompany it in presenting a unified stance vis-a’-vis the oil companies. In line with the latter option, Venezuela pursued an initiative, which was accompanied by Saudi Arabia, and finally gave rise to the creation of Organization of Petroleum Exporting Countries (OPEC) in 1960.
Some analysts have maintained that OPEC was established as a reaction to the two times of oil price reduction by the seven sisters in 1958 and 1959. Actually the rise in oil price was merely an intensifying factor and the main reason for the foundation of OPEC stems out of the history of confrontation of oil governments and the seven sisters.
Dependence of OPEC member countries on international oil companies has even been echoed in the very statute (Article of Association) of OPEC. Oil industry is a capital intensive business and is technically complex too. The fact is that OPEC has not been formed to enable its members to join forces to provide for the capital and technical needs of the Organization and control the global oil market. OPEC has always wanted the international oil companies to continue providing for needed investments and technological knowhow and buy the oil too. At the most, OPEC wants the oil companies to treat its members with more respect, attach greater value to the oil reserves and be less unfair. That only means a passive confrontation.
There are similar reasons for the practical failure of nationalization of Mexican oil industry and the defeat of the same move in Iran and the return of the Western companies. If the economies of Iran, Mexico, Venezuela and the other OPEC members were not so dependent on oil revenues and were capable of providing for their capital investments and technical needs, together they could control the global oil market. Then, their dealings with the international oil companies and the Western industrial countries would be very different and pressures and sanctions would neither be effective nor an issue at all.
Establishment of the Organization of Arab Petroleum Exporting Countries (OAPEC) in 1968 was a move in the direction of a collective effort of oil rich Arab countries to provide for the capital investments and technical knowhow for the development of the oil industries of the member countries, but met with no success.
Conclusion
In conclusion it has to be said that the move to nationalize the oil industry in Iran and other countries would have succeeded if it had been planned in such a way that the movement’s upcoming phases would lead to the total independence of their economies from oil and to an indigenized oil industry. Otherwise the dependence on the old or new seven sisters continues undiminished and the threat of various sanctions remain unceasing.
The brave and great steps taken by the national government of Dr Mossadeq were aimed at cutting off the reliance of Iran’s economy on oil and administrating the country’s oil industry independently. If he had succeeded, a model would have been created that would have threatened the interests of the seven sisters and their supporters.
Looking back today at a movement that took place some 60 years ago, one can see its weak points more clearly. The weakest point was that no clear cut plan was drawn up beforehand for cutting off the dependence of Iran’s economy on oil, for running the oil industry independently and for the provision of investment, marketing and sale of oil without the help of seven sisters. Nothing was preplanned and everything was designed only gradually and as realities imposed themselves.