A China Syndrome?

Iraqi Oil Imports Pump Up Asian Nation’s Economy, U.S. Closes In on Self-Sufficiency
With size that belies its importance, the Strait of Hormuz sits almost innocuously, linking the Persian Gulf with the Arabian Sea and the Gulf of Oman. In addition to the Red Sea, the Strait of Malacca and other critical chokepoints, Hormuz is a critical artery for the transport of oil from the Middle East.

At its narrowest point, the Strait of Hormuz is 21 miles wide, but the width of the shipping lane in either direction—only two miles—symbolizes the shrinking dependence of the United States on Middle East oil, in particular Iraq.

In fact, the United States has virtually weaned itself from oil imports from the Middle East.

Although it is a source of ongoing debate—whether the United States given forecasts of self-sufficiency in oil and gas should reconsider its commitment (economically, politically, financially) to the region—one thing is clear: Iraq has emerged from the American-led invasion of 2003 as the No. 2 oil exporter in the region (behind Saudi Arabia), free of international sanctions against the Saddam Hussein regime.

Who, then, is the new “dependent of oil ” from the region?

Many say it’s China.

This is not surprising, given China’s growing economy, a surging middle class and rising energy demands. The country’s dependence on oil imports shot up to 58% in 2012, with a total of 284 million metric tons imported that year. Its dependence on natural gas imports has also jumped on an annual basis from 2006 to the current 29%.

The reliance on imported oil and gas is projected to rise further to 59.4% and 32%, respectively, this year, according to a recent report issued by the Economics & Development Research Institute under China oil giant Sinopec.

For perspective, both the United States and Europe have reduced oil consumption by 3.8% and 5.5%, respectively, while China has increased oil consumption by 86% since 2000.

China has no legitimate near-term substitute for Middle East oil, as its own oil fields are nearly fully exploited. In fact, its oil imports are expected to grow fourfold from 2003 to 2030, with Persian Gulf oil accounting for much of that increase.

It’s not just China either; Korea and Japan are heavily dependent on oil and natural gas imports from the Middle East.

And why not? Saudi Arabia produces nearly 11 million barrels of crude per day; Iraq, 3.4 million barrels daily. That is where the oil production is!

There appears to be no slowdown in production.

As Iraq’s oil industry sputtered until the overthrow of Hussein, demand across the globe shot up. And when access to the country’s immense reserves opened up, China seized the moment, pouring more than $2 billion a year into Iraq and in the process becoming the world’s biggest oil importer. China buys nearly 1.5 million barrels a day from Iraq—almost half the oil that Iraq produces—and will continue to buy more.

China’s footprint in that region of the world stands to grow. The International Energy Agency expects China to become Iraq’s top oil customer, projecting that approximately 80 percent of Iraq’s future oil exports are ticketed for Asia, mainly China.

Iraq stands to benefit as well. The IEA predicts that Iraqi oil production will more than double by 2022, becoming the largest contributor to growth in the global oil supply over the next two decades. By the 2030s, the IEA expects Iraq to pass Russia as the second-largest global oil exporter.

Although the two countries lack any impactful historical relationship, a meaningful future is inevitable. With the instability in the Middle East, and U.S. interests in the region diminishing, the geopolitical dynamic changes. U.S. trade interests in the Middle East are becoming less crucial to the domestic economy, and as China ratchets up its oil imports, the region becomes strategically critical to China.

China intends to increase its exports to Iraq while improving its investment portfolio there. As Iraq grows through an explosive and lucrative oil industry—enhanced by increasing business with China, Korea and Japan—it will be a very convenient funnel for China’s exports.

So, if China is the “new United States,” what of the original?

In the less than two years since the last of American military forces withdrew from Iraq, U.S. presence in the region remains substantial. In terms of oil dependency, the United States doesn’t need to be there. For decades, the United States tied much of its energy fate to the Middle East; as such, energy security was defined by building robust military capabilities to defend U.S. and its allies interests by protecting the flow of oil through critical waterways such as the Strait of Hormuz to other countries and maintain trade options.

That protectionism remains a vital part of U.S. diplomatic strategy, even as American oil companies such as Exxon Mobil and Occidental Petroleum are still very active in the region.

Now the fate of U.S. energy lies somewhere much closer: Right here.

Canada is currently the main source of oil, but within the next seven years, the United States will likely be self-sufficient.

Repeat, self-sufficient.

Shale oil and shale gas, in rich pockets in Pennsylvania, Ohio, Colorado and several other states, are driving this. The widespread application of advanced drilling technologies such as horizontal drilling and hydraulic fracturing has sparked a domestic oil and gas boom whose reverberations are being felt not only here but the world over.

According to the U.S. Energy Information Administration (EIA), approximately 20% of the $133.7 billion invested in U.S. shale oil and gas development from 2008 to 2012 came from outside the country’s borders—this includes some $5.5 billion in investments from Chinese firms through joint-venture agreements with U.S. companies.

Shale oil is the “next energy revolution,” with output accelerating in the United States at a rate of about 26 percent a year since 2004, PricewaterhouseCoopers said in a February 2013 report.

North Dakota’s Bakken Shale formation has turned that state into the nation’s second-largest oil producer. Pennsylvania refineries and shipbuilders are mobilizing to tap into the shale boom. Railroads and chemical and fertilizer industries are being transformed and strengthened as they capitalize on business opportunities stemming from the rising flow and falling costs of oil and gas. Economists foresee a potential rebirth of manufacturing including such basic industries as steel and plastics that had gone overseas and that many Americans thought were gone forever.

Going and soon to be gone is the U.S. reliance on Middle East oil. It’s a transition that’s carries some risk and is weighed down by considerable debate, yet has enormous potential.

The U.S. presence and influence in the Middle East have played—and continue to play—a huge role in that region’s stability. But the global energy landscape is changing, a direct result of the explosive growth of energy consumption.  What will the strategic implications be as we look to the next decade?

The narrative playing out in the Middle East and the United States is a game-changer. The boom in domestic oil and gas production has strengthened the hand of the United States in global affairs and is a critical driver for U.S. economic recovery. This at a time that China’s dependence in the region is dramatically increasing.