I would be remiss if I didn’t mention the latest attempt to pass a windfall profits tax on oil companies. You know, it isn’t the windfall profits tax itself that bugs me. It is the fact that it wouldn’t be applied consistently across industries, some of which have much higher profit margins. These measures would single out the oil industry for punitive measures, which just reinforces the image that oil companies are manned by people who like kicking puppies and pushing old people down stairs.

I actually spent some time digging around in the legislation to understand how they were defining windfall profits, reasonable profits, and what exactly constitutes “gouging.” You might be surprised (and I explain below). One section actually amends a section on “alcohol, tobacco, and certain other excise taxes” and throws crude oil into that mix. Glad to see that our lawmakers have such regard for the fuel that allows them mobility.

But just about the time I was knee-deep in the legislation, I read that the measure had been blocked:

Senate GOP blocks windfall taxes on Big Oil

The Democratic energy package would have imposed a 25 percent tax on any “unreasonable” profits of the five largest U.S. oil companies, which together made $36 billion during the first three months of the year. It also would have given the government more power to address oil market speculation, opened the way for antitrust actions against countries belonging to the OPEC oil cartel, and made energy price gouging a federal crime.

“Americans are furious about what’s going on,” declared Sen. Byron Dorgan, D-N.D. He said they want Congress to do something about oil company profits and the “orgy of speculation” on oil markets.

So there you have it. Americans are angry. They are paying more than they like for gasoline. Oil companies are making more money than they think is fair. So let’s base our energy policy on spite. Throw in a provision to sue OPEC and force them to abide by U.S. law, mandate a few alternative energy technologies that aren’t commercially viable, tap into our Strategic Petroleum Reserves in a short-sighted attempt to bring prices down – and you begin to understand why U.S. energy policy is dysfunctional. U.S. energy policy can be summed up as “Cheap energy for everyone, and if it isn’t cheap someone shall be punished.”

Other noteworthy comments:

“The oil companies need to know that there is a limit on how much profit they can take in this economy,” said Sen. Richard Durbin of Illinois, the Senate’s No. 2 Democrat, warning that if energy prices are not reined in “we’re going to find ourselves in a deep recession.”

So, Durbin obviously believes that a windfall profits tax is going to bring down oil prices. Maybe we should do that with the solar industry. Prices are still too high at $4.82/watt for solar PV to be competitive with coal. I had never considered that we might pull prices down to <$1.00/watt by slapping a windfall profits tax on solar firms. It's brilliant, and sure to work.

“We are hurting as a country. We’re hurting individually as Americans … and the other side says, `Do nothing. Don’t even debate the issue,’” complained Sen. Charles Schumer, D-N.Y. “Average citizens are scratching their heads and saying, what’s wrong with Washington,” said Schumer.

Heh. I have been asking myself what’s wrong with Schumer for a while now.

“This is a start. It will help lower prices. It will help working families make ends meet,” Democratic Senate Majority Leader Harry Reid said in a vain effort to keep the bill alive. “It is one small step on a long and uphill road to a cleaner, more affordable energy future.” The bill would have ended tax breaks for big oil companies, imposed a new tax on windfall profits and fought price manipulation by OPEC, Reid said.

Of course ole Harry knows a thing or two about windfall profits. But does he really believe that this will lower prices? Why does he think things will be different this time than last time?

Back to the legislation, though, because I think some version of it’s going to eventually pass. So it was of interest to me to wade through the language. You can find the text of the bill here: Consumer-First Energy Act of 2008.

Of particular interest to me was “SEC. 202. DEFINITIONS.” Here’s what I found:

PRICE GOUGING- The term `price gouging’ means the charging of an unconscionably excessive price by a supplier in an affected area.

Hmm. That’s not very helpful. Fortunately, they followed up with a definition of “unconscionably excessive price.”

UNCONSCIONABLY EXCESSIVE PRICE- The term `unconscionably excessive price’ means an average price charged during an energy emergency declared by the President in an area and for a product subject to the declaration, that–

(A)(i)(I) constitutes a gross disparity from the average price at which it was offered for sale in the usual course of the supplier’s business during the 30 days prior to the President’s declaration of an energy emergency; and

(II) grossly exceeds the prices at which the same or similar crude oil, gasoline, petroleum distillates, or biofuel was readily obtainable by purchasers from other suppliers in the same relevant geographic market within the affected area; or

(ii) represents an exercise of unfair leverage or unconscionable means on the part of the supplier, during a period of declared energy emergency; and

(B) is not attributable to increased wholesale or operational costs, including replacement costs, outside the control of the supplier, incurred in connection with the sale of crude oil, gasoline, petroleum distillates, or biofuel, and is not attributable to local, regional, national, or international market conditions.

Some interesting tidbits in there. I find that it is very important to properly define terms, especially when debating issues. Here, the legislation defines “unconscionably excessive” with terms like “unfair”, “unconscionable” (isn’t this what we are trying to define?), and “gross disparity.” The courts would have fun with this. “That’s a gross disparity! Gasoline was selling down the street for $0.20/gallon less!”

I also find it interesting that biofuels would have been covered.

So let’s set the stage and play this one out. A hurricane is bearing down on the coast of Texas. There is a run on gasoline, as people hoard. The local 7-Eleven would normally respond to such increased demand by raising prices, and forcing people to decide just how much they really needed the gasoline. But, as a result of the new price gouging provision, they don’t raise prices. They simply run out of gas. That is exactly what would happen. Is that preferable to allowing merchants to raise prices? In that case, those who have a critical need can still get it. Those who don’t can wait. But due to the price gouging stipulation, even if you don’t really need it, you can buy it up and hoard it from those who do.

How about a definition of ‘windfall profit’? This one’s a gem:

For purposes of this chapter, the term `windfall profit’ means the excess of the adjusted taxable income of the applicable taxpayer for the taxable year over the reasonably inflated average profit for such taxable year.

Reasonably Inflated Average Profit- For purposes of this chapter, with respect to any applicable taxpayer, the reasonably inflated average profit for any taxable year is an amount equal to the average of the adjusted taxable income of such taxpayer for taxable years beginning during the 2002-2006 taxable year period (determined without regard to the taxable year with the highest adjusted taxable income in such period) plus 10 percent of such average.

Let me make sure I understand this. You are proposing that a publicly traded company – not a public utility, mind you – has an unreasonable profit if the profit increases by more than 10% from one year to the next? Do you hear that giant sucking sound? It is the enormous flood of money out of the energy sector and into other sectors – where a 40% year on year increase in profits is just peachy. Are you people serious?

I think it is inevitable, though, that we will try this experiment once again. I believe Obama will win the presidency, and he is all for it. I just hope he has the sense to pick a running mate who knows more about energy than he does (Hint: Bill Richardson).

Obama says he would impose oil windfall profits tax

RALEIGH, North Carolina (Reuters) – Democratic presidential candidate Barack Obama said on Monday he would impose a windfall profits tax on U.S. oil companies as he sought political gain from Americans’ pain over high gasoline prices.

“I’ll make oil companies like Exxon pay a tax on their windfall profits, and we’ll use the money to help families pay for their skyrocketing energy costs and other bills,” the Illinois senator said.

Doesn’t ExxonMobil already pay taxes on their “windfall profits?” Something like $30 billion last year? That windfall belongs to the government, though. I wonder if it is unconscionably excessive?

I have a few essays in the queue (including a nifty biodiesel story), but I thought I would comment on an article in today’s Deseret News out of Salt Lake City. The article was entitled “Will U.S. Slap Tax on Big Oil Profits?”. (1) A few excerpts from the article, followed by my comments:

Republican Sen. Arlen Specter said Sunday that the U.S. Congress should consider taxing the “windfall profits” reaped by oil companies as a result of surging crude oil prices.

I understand the frustration with high gas prices even as oil companies rake in record profits. But what is Specter trying to accomplish? Does the good senator believe this will magically bring the price of oil down? Will it cause OPEC to open the taps, flooding more oil into the market? Or is the real purpose to punish oil companies for making money, so he can boast about it during his reelection bid? Would he stipulate that the money be allocated to somehow reducing our demand for oil, which is the real issue?

Specter, of Pennsylvania, earlier this month introduced legislation to strengthen antitrust enforcement of the oil and natural gas industry to counter the consolidation of production and refining operations. Sen. Byron Dorgan, D-N.D., is proposing a 50 percent excise tax on profits from oil sold at more than $40 a barrel.

Let’s think about that for a moment. A lot of oil is expensive to extract, and only becomes economically viable as oil prices climb higher and higher. As oil prices climb, the incentive to pump more oil increases. If more oil can actually be pumped, it should eventually result in an oversupply situation, and prices will come back down. (This is why the oil industry is cyclical). If more oil can’t be pumped, then prices won’t come down.

However, neither situation is helped by slapping a tax on oil over $40 a barrel. In fact, such moves decrease the reward for marginal producers, which may lead them to shut in production. Since foreign producers won’t be paying that tax, what do you think is going to happen? U.S. production will decrease further, imports will increase, and oil prices will remain high. If high oil prices are the objective, then this is a way to accomplish that objective.

“Windfall profits, eliminating the antitrust exemption, considering the excessive concentration of power are all items we ought to be addressing,” Specter said Sunday on CNN’s “Late Edition” program. “Anybody up for election this year ought to be working very hard, taking it very seriously.”

Oh, I bet they are. That’s why they ignore the real reasons for rising oil prices, and aren’t doing anything to address those issues. They are posturing and pandering, trying to make sure they get themselves reelected. The founding fathers would be rolling over in their graves if they saw the level of mediocrity that permeates our government today. Nobody has the guts to stand up and tell the truth.

Sen. Carl Levin, D-Mich., said President Bush should call oil company executives to the White House and tell them he’ll support a new tax on their profits unless they lower prices.

“I’ll bet that the price of gasoline would come down within a matter of days,” Levin said on the CNN program. “We need a windfall profits tax because these profits have been absolutely obscene.”

Wow! Is Levin this uninformed? Does he think oil company executives set the price of oil? Does he not understand that oil is a global commodity, and if China or India are willing to pay more for oil than we are, then that is going to drive the prices up? That’s sort of like asking a company to lower the value of their stock, because you want to buy some, but think it’s too expensive. It’s the price it is because that’s what buyers and sellers in the open market have agreed upon for a value. Oil company executives do not set the price of oil. This only happens in politician’s dreams.

Bush, in California over the weekend to promote his initiative on alternative fuels, said a lack of refining capacity in the United States and the thirst for oil in emerging economies such as China and India are contributing to increased energy costs. He said he recognized the price of gasoline is hurting consumers and warned that the price is likely to go higher.

Like him or hate him, Bush is correct about this. I bet even the good senators would agree with this. So, let’s pose a question. A lack of refining capacity is a problem that is putting a lot of pressure on gasoline prices. Expanding refineries takes lots of capital. If we extract more money from the oil companies in the form of punitive taxes, are they likely to spend more money or less money on capital projects? Now, is this likely to make the refining bottleneck better, or worse? Again, if your goal is to have gas shortages and drive the prices even higher, then they are on the right track. Like I have said before, we tried this already and it didn’t work. (2) From a 1990 Congressional Research Service report:

“The windfall profits tax reduced domestic oil production between 3 and 6 percent, and increased oil imports from between 8 and 16 percent. This made the U.S. more dependent upon imported oil.”

This report should be required reading for legislators who think a windfall profits tax is a good idea.

Specter has focused his attention on oil industry consolidation and competition. “We have allowed too many companies to get together to reduce competition,” he said.

There were more than 2,600 mergers in the oil industry in the 1990s, according to James Wells, director of natural resources and the environment for the Government Accountability Office. A study by the GAO, Congress’ research arm, found that concentration of market power may have added as much as 7 cents to the price of fuel, he said.

As much as 7 cents? I think Senator Specter has identified the culprit. Gasoline prices are “as much as” 7 cents higher than they would be had they stopped those mergers. This is clearly the source of spiraling gas prices. If it was “as much as” 7 cents, I wonder what the lower estimate was. It really sounds like Specter is on a wild goose chase.

While politicians pander, I am still waiting for someone in government to have the guts to suggest that a potential solution to this problem is to encourage Americans, somehow, to conserve. I am waiting for someone to explain that cheap oil is not an American birthright, and as long as China and India compete for the same oil, there will be no more “cheap” oil. Of course more expensive oil will enforce conservation eventually. Maybe the politicians are much smarter than I think, and this is part of the plan. If we adopt the policies they are advocating, oil prices will spiral out of control, gas will no longer be affordable, and we will finally start conserving. Maybe there is a method to their apparent madness.

References

1. “Will U.S. Slap Tax on Big Oil Profits?”, Deseret News, April 24, 2006.

2. Glassman, James K., “Windfall Profits” Tax on Oil Companies, Capitalism Magazine, September 26, 2005.