IRANIAN NATURAL GAS: AN EAST-WEST ISSUE

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Directorate of
Intelligence
Iranian Natural Gas:
An East-West Issue
SecrI?,,,,,rrr
DOE review completed.
Secret
GI 83-10159
July 1983
Copy 317
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Directorate of Secret
Intelligence
Iranian Natural Gas:
An East-West Issue
This paper was prepared by
of Global IssuesF
~ffice
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Comments and queries are welcome and may be
directed to the Chief, Energy Issues Branch, OGI, on
% 25X1
Secret
GI 83-10159
July 1983
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Secret
Iranian Natural Gas:
An East-West Issue
Key Judgments For a number of years Iran's enormous natural gas reserves-exceeded
Information available only by the Soviet Union's-have been viewed as a potential source of
as of 1 June 1983 supply to Western countries. In particular, some West Europeans recently
was used in this report.
hoped Iran would be a means of diversifying their gas suppliers and
providing opportunities for business by constructing a pipeline through
Turkey. To realize its gas export potential, however, Tehran will have to
overcome a number of obstacles:
? Competition from other gas suppliers with cost advantages in major
markets, such as the USSR and North Africa in Europe and Indonesia in
the Japanese market.
? Iran's limited ability to finance a natural gas export pipeline or liquefied
natural gas facility.
? Technical limitations on developing high-pressure, deep offshore gas
deposits.
The economics of transporting Iranian gas long distances make the Soviet
Union the most likely outlet for Iranian gas in the foreseeable future. Any
further decline in energy prices over the coming years would make a Soviet
deal even more attractive to Tehran because Iranian exports to Western
Europe would become less economic. Given present energy prices, we
believe only a political commitment by Iran to accept $1 to $2 per million
Btu less for its gas, or a willingness on the part of West European buyers to
subsidize purchases by a similar amount, would result in Iranian gas sales
to the West. In the absence of such a commitment, we doubt that an Iran-
to-Western Europe gas project would proceed.
For its part, Moscow remains interested in importing Iranian gas, largely
because imports potentially could supply the needs of the southwestern
region of the USSR more cheaply than domestic gas. Lack of agreement
on pricing, method of payment, and the strained relations between the two
countries have prevented a deal, although this could change. We believe
the Soviets may also be concerned that Iran could become a potential
competitor in the West European market, particularly if a political deal
can be struck between the two sides. By purchasing Iranian gas and
attempting to expand sales of its own gas to potential Iranian customers in
Greece and Turkey, Moscow no doubt hopes to minimize the potential
threat. If the USSR can preempt a West European-Iranian deal, it would
help underpin the growing Soviet hold on the European energy market
while simultaneously giving the Soviets a potentially important link with
the Iranians.
Secret
GI 83-10159
July 1983
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Key Judgments
Production Options
Finding Western Outlets-The 1980s
Iran-Turkey Gas Pipeline Proposal
Looking to the 1990s
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Figure 1
Iran: Major Oil and Gasfields
it *TEHRAN
It. Kermanshah
Qom
Khorramabad
Khuzestan it. Estahiin
Dez(ul Province
Mlsjed-e S to eyman
.Bushehr
Pars
Kang;n
Saudi Arabia
sue' Gasfield
tk4 Oilfield
Major oil pipeline
II Refinery
t.+6- Tanker terminal
0 150
Kilometers
_UNC
634594 F63
-Curren'
Iran
Shiraz
It
v7V&r,.
Qes/tm
island
Boundary representation is
not necessarily authoritative.
y'United Arab
Emirates
STAT
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Iranian Natural Gas:
An East-West Issue
Table 1
Iran: Estimated Natural Gas
Reserves by Field a
Iran's vast gas reserves have caused several countries
to view Iran as a potential supplier. Before the Shah's
ouster, West European governments viewed develop-
ment of Iranian gas as a means of diversifying gas
suppliers and providing business opportunities that
might also link Tehran more closely to the West.
Japan has also long viewed Iran as a possible source of
liquefied natural gas (LNG) and a business opportuni-
ty for Japanese firms. During the past 18 months,
press reporting indicates that several West European
purchasers have considered discussions with Tehran
on the issue of a gas pipeline, but the temporary gas
glut, pricing issues, and financing questions have
prevented any concrete movement on the project.
Nonetheless, we believe the publicity surrounding the
project has caused the Soviet Union to become con-
cerned about Iran's potential to compete as a gas
supplier in the European market.
Iran's natural gas reserves exceed those of all other
Middle Eastern countries combined and place Iran
second only to the USSR in total proved reserves.
According to the most recently available industry
estimates, Iran's proved reserves are more than
10,000 billion cubic meters (bcm) and have helped
stimulate worldwide interest in Iranian gas export
potential for the past several years (see table 1). More
than 50 percent of the reserves are found in associa-
tion with oil in the Khuzestan fields in southwestern
Iran. Huge deposits of nonassociated gas are located
in the southeast near Kangan (see figure 1). The
onshore fields of Kangan and Nar contain some 700
bcm in reserves; the offshore Pars field and adjacent
fields contain more than 2,600 bcm of gas. Smaller
gasfields are located in two other areas of the coun-
try-in the northeast at Sarakhs and Khangiran and
around Qeshm Island and Bandar Abbas, near Iran's
southwest coast. Industry analysts believe additional
exploratory drilling could substantially boost esti-
mates of Iran's natural gas reserves, potentially dou-
Proved
Ultimately
Recoverable
4,672
10,845
Pars (C structure)
1,529
2,123
B, F, G structures
1,161
5,493
Nar
396
595
311
595
Qeshm (Gavarzim and
Salakm)
113
226
Sarkhun
142
283
Others
425
425
Based on 1977 official reserve estimates of the National Iranian
Gas Company. Subsequent depletion of 218 bcm has been taken into
account.
Because of the heavy dependence on gas production in
association with oil, Iranian gas output in recent years
has fluctuated widely in line with wide swings in oil
production. During 1976-78, gas production-nearly
all in association with oil production-averaged al-
most 54 bcm per year and nearly half of this gas
output was flared or vented (see table 2). Disruptions
in the oil sector beginning with a workers' strike in
1979, the onset of the Islamic revolution, and Iran's
war with Iraq caused a major decline in both oil and
gas output by yearend 1980. As oil production slipped
from 3.2 million barrels per day (b/d) in 1979 to
under 1 million b/d by yearend 1980, associated gas
bling reserves of nonassociated gas.
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Table 2
Iran: Estimated Gas Production and Use a
Gas production
50
57
55
40
20
17
28
35
100+
Flared
28
26
26
16
9
8
16
20
10
Reinjected
1
9
10
4
2
2
2
2
30-42
Marketed production
21
22
19
20
9
7
9
13
60-48
Domestic
11
12
12
15
8
7
9
13
39
Oil industry
4
4
4
3
2
1
1
3
4
Petrochemical
2
3
3
3
2
1
1
1
12
Domestic/commercial
industrial
2
3
4
5
3
4
6
7
18
Shrinkage and loss
2
2
2
2
1
1
1
2
5
Exports
9
9
7
5
NEGL e
0
0
0
21-9
a Due to rounding, components may not add to totals shown. d Associated gas production estimated at oil-production levels of 3.5
b Associated gas production estimated at oil-production levels of 2.5 million b/d. Assumes all associated gas production reinjected or
million b/d. flared and gas reinjection plans for nonassociated gas are
c Associated gas production estimated at oil-production levels of 3.0 implemented.
million b/d. a Negligible-less than 1 bcm per year.
output slipped to about 20 bcm per year, remaining
slightly below that level during 1981. As oil produc-
tion began to climb once again-reaching nearly 3
million b/d in late 1982-associated gas production
also rose. Iran is presently producing about 35 bcm
per year, more than half of which is flared.
Iran has the potential to produce more
than 100 bcm per year of gas by 1990, a rate that
could be sustained for at least a decade.
peen on the country's oil production and development
of nonassociated gasfields. If oil production stabilizes
at 3.5 million b/d, Iran would probably have to
produce more than 50 bcm from nonassociated gas-
fields. Nonassociated gas production at this level
would eventually force Iran to develop the giant
offshore Pars field.
The amount of gas available for export at this level of
production will depend in art on Iran's plans for
domestic consumption.
we believe Tehran wt ave roug y
50 to 60 bcm of gas per year for other domestic needs
or export by 1990. Whether Tehran would make any
of this gas available for export will depend on its
ability to find customers.
'Gas reinjection is used to enhance oil recovery by maintaining oil
reservoir pressures.
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By virtue of geographic location, countries in southern
Europe-particularly Turkey, Italy, and Greece-
would be the most natural markets for Iranian gas.
Italy already receives ample supplies of imported gas
from three sources, however, and gas demand in
Greece and Turkey is relatively small because of the
lack of an extensive gas infrastructure. Still, the
markets in Turkey and Greece are key steppingstones
for Iranian entry to the larger West European market
because Tehran will need to sell gas in transit to
minimize the cost of delivery. All the other major
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West European gas purchasers, however, already have
contracts in hand for sufficient gas supplies to meet
projected needs in the 1980s, leaving virtually no
room for Iranian sales.
Iran's potential to supply countries in the Far East in
this decade-particularly Japan, South Korea, and
Taiwan-also is limited by competition from other
suppliers, especially Indonesia. Japan already has
contractual obligations with six countries for LNG
supplies that should meet all of its gas requirements
well into the 1990s and will rely on Indonesia alone
for nearly half of its LNG imports. We believe the
market for gas in South Korea is relatively small and
is likely to be met by other suppliers in the region.
ing indigenous gas production but does not intend to
enter the LNG market in the 1980s. In any event,
Taipei probably would turn to
needs.
We believe there also is little opportunity for Iranian
gas to penetrate the US gas market in this decade.
According to Department of Energy estimates, 90
percent of US gas consumption needs-540 bcm in
1990 and 517 bcm in the year 2000-will be met by
domestic production. Canada has licenses to supply
another 6 percent and has shown willingness to supply
incremental volumes at competitive prices. Mexico is
also in a favorable position to supply the US market,
and Algeria has contracts for delivery of small vol-
umes of LNG to the United States. Although no
consideration has been given to the US market under
the Khomeini regime, several projects were actively
considered while the Shah was in power.
A recent scheme to export Iranian gas to the West
was a proposal by Turkey last year that Iran supply
up to 35 bcm of gas per year for 25 years through a
pipeline network crossing Turkey into Greece and
southern Europe. While meeting all of Turkey's natu-
ral gas needs of 6.5 bcm per year, Iran would also
provide more than 25 bcm to West European markets.
everal buyers in 25X1
France, West Germany, and Italy had expressed
interest in this project with a view toward fillip as
needs in the 1990s.
Moscow apparently has decided to challenge an Iran-
to-Western Europe gas pipeline scheme by competing
directly for the southern European gas markets in
Turkey, Greece, and Italy. Although Soviet interest in
expanding gas sales for hard currency has been keen
in recent years, we believe the timing of recent
overtures to Greece and Turkey suggest Moscow may
be attempting to preempt the Iranian market. In
particular, the Soviets recently signed a joint protocol
in Istanbul setting up a pipeline feasibility study on
the export of gas from the USSR to Turkey. This
move came on the heels of extensive press reporting of 25X1
the potential Iran-Turkey gas deal. Discussions are
also under way between Moscow and Athens on
extension of the Soyuz pipeline from Bulgaria into 25X1
Greece. According to official Greek press releases, a
definitive agreement is in its final stage. In addition,
the Soviets continue to negotiate with the Italians on
deliveries of Siberian gas. These efforts could effec-
tively block Iranian access to the larger European
market by limiting the amount of gas that Tehran
could sell in transit
Unless some sort of political decision is made on the
gas pricing front, the high cost of Iranian gas is likely
to keep Tehran out of Western markets in the 1990s
when forecasts indicate that import requirements will
grow. Cost estimates for an Iranian pipeline to Euro-
pean markets vary greatly because of differences in
right-of-way costs, transit fees, and distances. The
most reliable industry estimates we have seen, howev-
er, indicate that the cost to produce Iranian gas and
deliver it by pipeline to Western Europe would be
about $4 per million Btu. Assuming Tehran continues
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Since the late 1960s Iran has envisioned a number of
schemes to export its gas. Several countries-includ-
ing the United States-have been involved in joint
projects with Tehran or signed supply agreements to
exploit Iranian gas reserves. In 1975 Tehran drew up
an official gas export program aimed at exporting 33
bcm of gas per year during the 1980s. With the
exception of limited exports to the Soviet Union in
the 1970s, none of these projects has come to fruition
or is presently under active consideration:
? In 1966 the USSR and Iran signed a contract for
delivery of 6 bcm of gas per year beginning in 1970
to be increased to 10 bcm by the mid-1970s.
Associated natural gas was collected from Iran's
large Khuzestan oilfields and shipped via an 1,100-
kilometer pipeline to several major Iranian cities
and on to the Soviet Union.
? The National Iranian Gas Company (NIGC) and a
consortium of West European, Japanese, and
American companies established a joint venture
(Kalingas) in 1972 to produce and export 13 bcm
per year of LNG from Iran's Kangan gasfield.
to demand a wellhead price of more than $2 per
million Btu, as it has in recent negotiations, the
delivered price of gas to Western Europe would
exceed $6 per million Btu. As things now stand, Iran
does not seem prepared to accept the low return on its
resources that would be required to deliver gas to
Western Europe at a price competitive with Soviet
supplies or competing oil products-about $4.60 per
million Btu.
LNG delivery costs also would be quite high for Iran
because of long distances from potential markets. We
estimate that LNG transported from the Mediterra-
nean port of Iskenderun to southern Europe would
cost at least $5 to $5.50 per million Btu to produce,
deliver, and meet Iranian wellhead pricing demands.
Shipment to Western Europe around the Cape of
Good Hope from the Persian Gulf would increase
costs by about $1 per million Btu. The delivered price
? A memorandum of intent signed in 1974 by the
NIGC, El Paso Natural Gas Company of the
United States, and Distrigaz of Belgium called for
Iran to ship up to 31 bcm per year of LNG to the
United States and Western Europe. The consortium
planned to transport gas via pipeline to the Turkish
Mediterranean port of Iskenderun where the gas
was to be liquefied and shipped to European and
American markets.
? A 20-year trilateral gas swap agreement between
Iran, the USSR, and Western Europe was conclud-
ed in 1975. Iran was to export 17 bcm of gas per
year to the gas-deficient southwest region of the
Soviet Union by way of a new pipeline system
(IGAT II) beginning in 1981. In exchange, the
USSR would export an equal volume of Siberian
gas to Western Europe.
? A preliminary agreement between the NIGC and
Columbia Gas Systems of the United States in 1978
called for the United States to import 3 bcm of
LNG annually.
of Iranian gas to the Far East would probably exceed
$5 per million Btu, and Iranian LNG to North
American markets would easily exceed $6 per million
Btu. In all these markets, the cost of Iranian LNG
would exceed the price of most alternative gas sup-
plies and other competing fuels.
Even if Tehran were willing to match competitors'
prices, other factors would probably preclude Iran's
ability to export gas to Western markets. Long lead-
times of five to seven years for a pipeline or LNG
project would require Iran to move quickly to deliver
gas by the early 1990s. Because of its war with Iraq
and the prevailing soft oil market, however, Iran will
face limitations on the amount of funds available for
investing in an export project.
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Capital Costs and Leadtimes
Tehran probably will move cautiously before com-
mitting resources to a gas export project. Iran would
face multibillion-dollar costs for field development,
gas export facilities, and operation as well as encoun-
ter long development leadtimes before it could realize
its gas export potential. In particular:
? Based on preliminary engineering studies, develop-
ment of nonassociated gas reserves at Pars-where
most of Iran's gas export potential exists-proba-
bly would require investment on the order of $2
billion.
? Based on industry cost assessments, LNG exports
would require capital outlays of at least $10 billion
for liquefaction facilities, cryogenic carriers, receiv-
ing terminals, and LNG tankers.
? Long development leadtimes-which we estimate at
between five to seven years at a minimum-would
be required for shipment of Iranian gas by way of
pipeline or as LNG.
Given these pervasive circumstances, Tehran is likely
to remain reticent about embarking on a major gas
export project. The uncertain market outlook for gas
would make spending large sums on gas export
projects economically risky for Iran.
crews to handle the high-pressure gas in Pars, and
development would almost certainly entail extensive
Western assistance. We doubt that the Iranian Gov-
ernment would be willing to accept the magnitude of
foreign involvement that would be needed to overcome
the technical constraints.
Given the limited opportunity that Western markets
are expected to provide in the foreseeable future,
Tehran's most attractive gas export option from an
economic standpoint is to renew its gas delivery
agreement with the Soviet Union. We estimate that it
would cost Iran only about $1.50 per million Btu to
deliver gas to the Soviet Union through an existing
pipeline. Although the USSR has the largest natural
gas reserves in the world, Moscow found it economi-
cally advantageous to import Iranian gas rather than
build the infrastructure necessary to ship domestic
supplies to the gas-deficient republics of Armenia and
Georgia near the Iranian border.
1960s. Iran-with Soviet technical assistance-com-25X1
pleted a pipeline link (IGAT I) from its gasfields in
the southwest to the Soviet border for delivery of
about 10 bcm of gas per year. Tehran delivered about
9 bcm per year to the Soviet Union through IGAT I
until a price dispute-spurred in part by allegations
that Moscow was selling gas on the West European
market at prices higher than the Iranian purchase
price-caused all gas deliveries to be terminated in
1979.
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Iranian gas still has considerable appeal to Moscow as
evidenced by the Soviet approach to Tehran to resume25X1
the Soviets have begun to build the infra-
Iran also lacks the technical ability to develop the
large offshore nonassociated gasfields that must be
brought on stream to support a major export project.
Tehran lacks the specialized equipment and skilled
structure necessary to supply gas users in the southern
Caucasus, gas imports of about 10 bcm per year from
Iran could provide Moscow with a relatively inexpen-
sive means to supply the region by eliminating the
high cost of shipping domestic supplies. Iranian gas
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imports to the southwest would then allow Moscow to
divert gas for use elsewhere in the country or for
export to Western Europe.
In our view, another motivation for finalizing a deal
would be Soviet desires to establish a closer commer-
cial link with Iran and preempt the possibility of an
Iranian deal with any West European government for
the 1990s. Although the economics for a West Euro-
pean-Iranian deal are not favorable, Moscow almost
certainly recognizes that a political decision could be
made that would overcome the economic and finan-
cial constraints. We believe the recent Soviet push for
gas sales to Greece and Turkey was motivated in part
by a desire to preclude Iranian penetration of the
European market. By importing Iranian gas, Moscow
would also siphon off some of the most readily
accessible gas that Tehran would have available for
export to Western Europe. Moreover, if the Soviets
could negotiate payment for gas in rubles-as was the
case with Iranian gas deliveries in the 1970s-the
deal would effectively be limited to a barter arrange-
ment. At the extreme, Tehran could opt to barter its
gas for Soviet arms.
Some obstacles must be overcome before exports are
resumed. Tehran and Moscow still need to reach an
agreement on the price of gas deliveries and method
of payment, issues that have gone unresolved for the
past four years. Trade journals indicate that the
Soviets have offered Iran $3.50 per million Btu;
Tehran so far has balked at the offer, demanding a
minimum of $3.80 per million Btu. We believe Mos-
cow also would probably have to assure Tehran that it
would not swap Siberian gas in Western Europe at a
price above the level Iran receives for its gas. Negotia-
tions remain deadlocked, and the recent explusion of
Soviet diplomats and banning of the Communist
Tudeh Party by Tehran have further strained rela-
tions between the countries. The political situation
could change, however, particularly if Tehran decides
to place stronger emphasis on developing its gas
Western Options
Over the next several years, falling international gas
prices could make the Soviet option more attractive
because a major Western gas export pipeline would
become even more uneconomic for Iran. The high cost
of delivering Iranian gas to the West would result in
prices that are probably too high to attract large
customers or too low to provide acceptable profits to
Tehran. In the absence of Iranian willingness to
accept lower gas prices, we believe the only likely
manner in which West European purchasers could
obtain Iranian gas is to make a political commitment
to subsidize a project. Indeed, recent press reporting
indicates that some West European governments en-
dorse strengthening business and political ties with
Tehran by responding positively to recent Iranian
overtures for Western assistance. Such a commitment
would entail considerable costs because Iranian gas is
likely to cost about $1 to $2 per million Btu more than
alternative supplies.
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