By Executive Report with Southern Pulse, via Oil & Energy Insider, a premium publication that gives subscribers an information advantage when investing, trading, or doing business in the energy sectors.

As we have noted on numerous occasions, despite the continued influx of investment in Iraq, the situation is untenable and each month moves closer to an all-out civil war. First, we’ll give you the security run-down, then we’ll get into the oil.

•    On 30 December, the Iraqi central government moved to demolish a Sunni protest camp in Ramadi (Anbar province) and negotiated the withdrawal of government forces from the province.

•    On 1 January, while those forces were pulling back, Islamic militants (under the umbrella of the Sunni Islamic State of Iraq and the Levant, ISIL) seized key areas of the province’s largest cities—Ramadi and Fallujah, for all intents and purposes temporarily wresting control of these key areas from the central government.

•    By 3 January we were witnessing high-intensity clashes between the ISIL and government forces. Adding to the mix were local allies supporting the government forces. The death toll so far remains unclear, but over 100 were killed in Ramadi and Fallujah alone on the first day.

•    There was a major miscalculation made here by the central government, which moved immediately to say that Fallujah had fallen to the ISIL, when in fact, the result of the clashes was to allow local tribes, clerics and former officers to regain control of the city. However, the central government, having itself lost control, made no effort to distinguish between these local tribes and the ISIL. Instead, Baghdad moved to call for international support under the terms of the “war on terror”, thus exacerbating the situation and creating new recruits for ISIL. The US Senate has agreed to support Baghdad with new arms. The declaration of a “war on terror” in Fallujah won Iraqi PM Nouri al-Maliki a long-awaited sale of Apache helicopters, among other US support. So there was an additional tactical reason for declaring Fallujah under the control of the ISIL.

•    By 24 January, there were reports of some 65,000 people fleeing Fallujah and Ramadi.

•    At the same time, as the fighting spread to areas near Baghdad, by 29 January, central government forces had managed to regain control of some areas west of Baghdad that had been consumed by clashes with ISIL. Fighting in this area had raged for weeks before this.

•    On 30 January, militants attacked the Ministry of Transport building in Baghdad.

•    January 2014 was the deadliest month in Iraq since April 2008. According to government estimates alone, 1,013 were killed in violence across Iraq during January, while 26 people were hanged on terrorism charges.

Now, what about Iraqi oil? By all accounts, Iraqi oil is still one of the biggest things on everyone’s radar. According to the Economist Intelligence Unit, Iraq is ramping up oil exports this year, with the draft budget anticipating exports of 3.4 million barrels per day—or a 30% increase over last year.

This is a rather amazing forecast for a country that is sliding into civil war and embroiled in political struggle with its semi-autonomous Kurdistan region, which is increasingly going it alone in terms of oil and gas exports.

The bullish prognosis is largely based on new sources of production coming online in the south of the country, and the easing of infrastructure bottlenecks.

Iraq remains—for now—the third largest oil producer in the world and certainly this is the reason behind the renewed show of US support for Baghdad’s “war on terror” efforts in Fallujah and Ramadi, regardless of whether those efforts will backfire into a civil war.

Iraq is hands down the biggest force affecting global oil outlooks right now, and we understand the temptation to be bullish here: not only are the countries resources vast and new production venues coming online, but analysts believe there’s a lot more oil than we know about.

As the International Energy Agency (IEA) points out: “Almost every second barrel of world oil production growth in the next two decades will come from Iraq, with the potential to provide prosperity for all of Iraq’s 32 million people.”

We also have some updates on the Iraqi-Kurdish front.

Since the Kurdistan Regional Government (KRG) opened up a new, independent pipeline to export oil directly to Turkey, Baghdad has hired a law firm to help deal with the issue. The Kurdish crude, as we noted earlier, has stopped in Turkey, at the port of Ceyhan, and isn’t going further to international markets as the Turks attempt to appease Baghdad a bit. Talks between the two sides have made little progress, but we do not see this descending into an actual conflict for the time being, partly because Baghdad is otherwise distracted by problems in central/southern Iraq and the disintegration of the security situation, which Erbil has been keen to take advantage of.

Now, Baghdad is threatening to sue over these “illegal” crude shipments, and has hired Vinson and Elkins law firm to pursue anyone who buys Kurdish crude pumped into Ceyhan. So rather than targeting the Kurds, or the producers, they are targeting buyers, hoping to stymie the process. Until now, Baghdad has not sought to take any action against smaller trading companies that were buying barrels of Kurdish crude trucked over the border into Turkey—but the launch of a new Kurdish pipeline directly to Turkey changes the balance in this equation because we’re talking about much larger volumes now. There are some 220,000 barrels of Kurdish oil now waiting to be sold in Ceyhan.

Will it deter buyers? On the legal front, we think Baghdad will have a very hard time making such lawsuits stick, but we are concerned that buyers will nonetheless think twice about purchasing this crude, just to avoid getting tangled up in a legal battle that will undoubtedly be dragged through the media. By Executive Report with Southern Pulse, via Oil & Energy Insider.

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