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Iran's production revival is an oil market wild card

A methanol plant and oil wells on Kharg Island in the Persian Gulf, off the coast of Iran
Kaveh Kazemi | Getty Images
A methanol plant and oil wells on Kharg Island in the Persian Gulf, off the coast of Iran

In the poker game playing out among global oil producers, Iran is something of a wild card.

In effort to reverse the recent crash in crude prices, big oil exporters like Russia and Saudi Arabia announced this week they're trying to forge an agreement to tighten global supplies and push prices back up again

They face a number of major obstacles, including a slowing global economy that has cut into oil demand.

The list includes the imminent return of Iran as a global oil exporter after the lifting of sanctions that had been imposed on Tehran because of its nuclear development program.

It may take some time for the Iranian oil to show up on world markets.

"Iran cannot flip a switch and expect to pump as much oil as it once did," analysts at Stratfor Global Intelligence said in a report last month. "Iran needs a substantial amount of investment to bring its new fields online — investment that will not materialize for several years."

With the world's fourth-largest proven oil reserves, Iran was a formidable producer prior to the imposition of sanctions in 2012, adding nearly 4 million barrels a day to world markets.

But as those sanctions tightened, Iran's output fell to roughly 2.6 million a day, with much of that eventually going into storage as sales restrictions cut deeply into exports.

In the short term, much of Iran's increased output is expected to come from inventories in floating storage depots in the Strait of Hormuz, which some estimates place in the tens of millions of barrels, according to Stratfor's analysis. Likely destinations for the new sales include Iran's traditional customers in France, the United Kingdom, Italy, Spain and Germany, along with increased sales to India, they said.

That could add a half million barrels a day to global supplies — at a time with a surplus of production is already weighing on prices.

Still, that extra output is a relatively small share of the overall daily supply of roughly 97 million barrels a day of global production, according the latest EIA estimates.

And despite its vast reserves, the Iranian oil industry is overdue for investment and development of its oil resources, with output declining from aging oilfields.

That investment won't be easy to attract, some analysts believe. For starters, it will be several years before potential foreign partners can get some assurance that Iran will live up to its side of the nuclear arms deal, according to Andrew Slaughter, executive director of Deloitte's Center for Energy Solutions.

"The overriding risk for any company setting up operations in Iran is whether this new agreement will succeed," he wrote in a recent report. "Any compliance issues with Iran's nuclear activities, or even inspection and verification snags, could trigger renewed sanctions."

Iran is also looking to attract investment at a time when the capital available for oil and gas development has contracted sharply, as major U.S. and European oil companies slash capital spending in response to the crash in oil prices.

Even without sanctions, Iran's current leadership faces the potential political instability brought about by the severe economic pressures inflicted by the collapse in oil prices. Like many major oil producers that relied heavily on oil revenues to fund government spending, Iran faces a huge budget squeeze unless prices rebound above $60 a barrel.

That means investors in Iranian oil and gas development also face the risk of instability within the Iranian government, according to Paul Stevens, an oil industry analyst at Chatham House.

"Leaving aside the nuclear issue, the international oil industry is deterred from investing in Iran by the perception that the domestic political situation is uncertain," he said in a report.