How Not to Help the Hurricane Regions -- Tax Oil: Kevin Hassett
Sept. 26 (Bloomberg) -- It's time for a pop quiz. Suppose a region of the country is hit by two massive hurricanes causing unprecedented destruction. Will it speed the recovery if the U.S. government imposes a massive new tax on that region's most important industry?
Incredibly, the U.S. may be getting ready to try.
Because of storm-caused supply disruptions in the Gulf of Mexico, oil and gas prices have skyrocketed. This reminds us how much U.S. production occurs between Texas and Florida. According to the Department of the Interior, 29 percent of the country's domestic oil comes from the Gulf of Mexico.
Along with the high prices have come high profits for producers. Exxon Mobil Corp., the world's largest publicly traded oil company, may reap as much as $10 billion in net income this quarter, compared with last quarter's $7.6 billion.
This pattern is quite common in free markets. If there's a frost in Florida, California orange growers can make huge profits from the higher prices caused by the reduction in supply.
Political Entrepreneurs
But those high prices cause concern among consumers, and create an opportunity for political entrepreneurs. Predictably, populist politicians and pundits of both parties are lining up to bash the oil companies.
Fox News Channel's Bill O'Reilly launched this jeremiad: ``When we see all the oil companies failing to answer simple questions, when we see their high-paid mouthpieces in D.C. hiding, when we see analysis that U.S. oil concerns and energy concerns are exploiting tragedies like Katrina and the war on terror, we get angry.''
Voters are angry too, and predictably, politicians are on the march.
Democratic Senator Byron Dorgan of North Dakota introduced a bill this month to impose a windfall-profits tax on oil companies. The bill would impose a 50 percent tax on the additional revenue received by integrated oil companies when prices top $40 a barrel.
The base price would be adjusted annually for inflation, and the tax would expire three years after its enactment. Revenue from the tax would be returned to individuals as rebates. The tax wouldn't apply to oil discovered after the law takes effect.
What History Shows
What would such a tax accomplish? In this case, we have a history to go on. In 1980, President Carter signed into law the Crude Oil Windfall Profit Tax Act, enacted in concert with the gradual dismantling of domestic oil price controls that were in effect throughout the 1970s. The law, which was repealed in the late 1980s, established excise taxes as high as 70 percent on the difference between the selling price and a price set by law.
Economic theory suggests that such a measure would discourage exploration. Drilling for oil is very risky, and investors will take that risk only if they believe there is some chance they will make great profits. Take away the profits, and drilling will stop. It doesn't matter that the tax doesn't, as in the Dorgan bill, apply to new wells. Are oil companies really to believe that similar laws won't be passed again?
In 1990, the U.S. Congressional Research Service studied the effects of the 1980s tax, and found that it had exactly the predicted effect. U.S. production was reduced, and reliance on foreign oil increased sharply. Reinstating the tax would, Congress's research agency concluded, ``make the U.S. more dependent upon foreign oil.''
Economic Pain
The agency also clearly rejected any economic case for the tax, and its words still ring true today:
``The United States oil industry is neither a monopoly or a member of a cartel: it is not capable of controlling the price of oil nor the price of refined products, which are both determined in the world markets. If the United States oil industry is neither capable of controlling the price of petroleum and plays no direct role in establishing these prices, then it cannot control whether it earns persistent windfall profits.''
The real harm from the tax is the loss and distortion it imposes on domestic industry. Gulf residents remember the 1980s as a very bleak economic time. Unemployment in Louisiana, for example, averaged 10.5 percent during the period the tax was in effect. In August of this year, unemployment in Louisiana was a little more than half that.
After all that the people in the hurricane areas have experienced in the past few weeks, it's almost sadistic to threaten them with the re-imposition of a tax that did so much harm to their economy in the 1980s. If Congress wants to do something about high prices, they need to consider measures that will increase supply, not reduce it.
To contact the writer of this column:
Kevin Hassett in Washington at khassett@aei.org.
Last Updated: September 26, 2005 00:05 EDT |
