Campaign trail talk of a “windfall profits” tax on oil companies wasn’t enough for the Senate Judiciary Committee, which accused oil executives May 21 of manipulating the market.
Democratic senators said they saw a failing market [1] where supply and demand weren’t functioning normally, while oil CEOs refuted the accusations and asked the Senate to allow more domestic energy exploration [2].
Meanwhile, gas prices are shooting toward $4 and all three presidential candidates are offering their own “solutions.” Both Sens. Barack Obama (D-Ill.) and Hillary Clinton (D-N.Y.) are pushing for billions of dollars in “windfall profits” taxes, but journalists haven’t looked at the obvious flaws in that idea, when the politicians proposing it should know won’t work.
The broadcast networks have echoed some economists’ opposition to a summer gas tax holiday proposed by Sen. John McCain (R-Ariz.) and favored by Clinton, but reporters haven’t explored the unintended consequences and past failures of windfall profits taxes.
“A [windfall profits tax] takes away the benefits of better times and offers no help to oil and gas companies during bad times,” says the American Petroleum Institute (API), referring to elected officials’ tendency to ignore “dry years” for oil companies and a media tendency not to report on prices or profits when they are falling. “This discourages investment in domestic production and increases U.S. dependence on imported oil.”
The media have also failed to point out how much oil companies already pay in taxes – more than $90 billion in 2006 from 27 oil companies, according to API, and even more in 2007 – as well as the real reason oil company profits are high: volume of sales, not profit margins.
ExxonMobil, the nation’s largest oil company, profited 10 cents for every dollar it brought in revenue [3] in 2007. That puts its profit margin in the middle of other Fortune 500 companies, including Bank of America (18-percent profit margin) (NYSE: BAC [4]), AT&T (11.8 percent) (NYSE: T [5]) and Proctor & Gamble (13.1 percent).
Clinton has proposed using a windfall profits tax to offset her proposed eliminations of the federal gas tax for the summer, then to finance a Strategic Energy Fund to invest in “clean energy.”
George Stephanopoulos, host of ABC’s “This Week,” gave Clinton a pass during a May 4 interview when she proposed “put[ting] an excess profits tax on the oil companies above a certain level of profit that would go in to help us make the transition.”
Obama, who rejects a gas tax holiday, says revenues from his windfall profits tax “will be invested in a number of mechanisms to reduce the burden of rising prices.” Obama would set an $80-per-barrel threshold, meaning if oil was sold for more than $80 per barrel, the revenue would be subject to a higher tax.
Obama told NBC “Meet the Press” host Tim Russert on May 4 that he would invest the revenue in “clean energy and, and other important measures,” but Russert failed to press him further on the issue.
Neither Democratic campaign responded to requests for elaboration on their proposals – how their windfall profit tax would work or exactly how the money would be used – from the Business & Media Institute.
McCain, the presumptive Republican nominee, does not support a windfall profits tax, saying in a June 2006 speech [6] that “Genuine improvements in our energy security must respect markets and avoid the temptations of nearsighted politics. While it is tempting to assail windfall profits and executive compensation, it is not a substitute for a viable and long-term energy strategy.”
Why Windfall Taxes Are Bad
Elected officials should know a windfall profit tax won’t really work, because it has failed before.
The last windfall profit tax “had the effect of reducing the domestic supply of crude oil below what the supply would have been without the tax,” according to a March 2006 report from the Congressional Research Service [7] (CRS). “This increased the demand for imported oil and made the United States more dependent upon foreign oil as compared with dependence without a [windfall profit tax].”
The report found that the windfall profit tax enacted in 1980 resulted in $80 billion in revenue over 10 years, far less than the $393 billion in revenue the government expected from the tax.
Another negative impact of such taxes is the decreased incentive and financing oil companies would have to invest in finding more oil or exploring other sources of fuel.
“While it failed to raise the revenues predicted due to declining oil prices in the 1980s, the [windfall profits tax] did drain $38 billion in industry net revenues that could have been used to invest in new oil and gas production,” the industry group American Petroleum Institute (API) says on its Web site [8].
The group says a reinstated windfall profits tax would take away from “the tremendous capital investment that will be needed in the nation’s oil and natural gas sector to meet the expected growth in U.S. energy demand.”
API also estimated that implementing the first windfall profits tax cost oil companies $100 million per year and the government $15 million per year.
These consequences are coupled with the fact that U.S. oil companies already pay huge amounts of money to the federal government in other taxes. The top 27 oil and natural gas producers paid more than $90 billion in taxes in 2006, according to the API [9].
In addition to income taxes, the top 27 companies paid $10.9 billion in non-income taxes and collected more than $48 billion for the federal government in excise taxes on the industry’s products in 2006, API reported.
API estimates the “worldwide effective tax rate … of the top 27 energy companies was 40.7 percent in 2006. For the past three years, the oil and gas industry’s effective tax rate has exceeded top corporate income tax rate of 35 percent.”
In 2007, ExxonMobil, the nation’s largest oil company, reported $404.6 billion in revenue, $40.6 billion of which was profit. Yet according to Exxon spokesman Gantt Walton [10], the company paid $105 billion in taxes in 2007 – more than two-and-a-half times as much as it made in profit.
Where Oil Profits Come From
The networks have already shown they have little or no interest in getting to the true bottom of gas prices and oil company profits – simply blaming Big Oil seems to be enough for the likes of ABC, CBS and NBC.
But as ExxonMobil CEO Rex Tillerson explained to NBC “Today” show host Matt Lauer [3] in a May 15 interview, oil profits are much more complex than networks let on.
“[W]hen you take out profit of $40 billion [in 2007], that’s 10 cents on every dollar of revenue that we generate,” Tillerson said. “That puts us about in the middle of most Fortune 500 companies, so we’re not at the top in terms of profit per revenue; we’re not at the bottom.”
Clinton, however, told George Stephanopoulos on ABC’s “This Week” May 4 she’s “absolutely convinced that these record profits of the oil companies are the result of a number of factors beyond supply and demand. I think there’s been market manipulation.”
But more than 30 government inquiries [11] over the last several decades have revealed no evidence of price gouging or other price manipulations by oil companies. The industry is reaping record profits not because of price gouging or other unfair pricing, but because of the sheer volume of product it delivers to consumers.
The cost of oil, and subsequently gasoline, is tied to supply and demand issues over which the U.S. oil companies have little if any control, as Tillerson explained to Lauer.
“This is a demand-driven price run-up, no question about it,” he said. “I think all of your viewers are well aware of the rapidly growing economies in China, India, other parts of the world. And with those rapidly growth economies, tens of millions of people have been lifted out of poverty. That’s a good thing. The negative effect is there’s huge demand on energy and that’s put a lot of pressure on the price.”
While many reporters have chosen to ignore the windfall tax proposals in favor of slamming the gas tax holiday proposals, at least one actually talked to some economists about the idea.
“McCain is not for taxing big oil. Both Clinton and Obama say we should tax big oil,” Dan Harris reported on ABC’s “Good Morning America” April 30. “Again, the economists I spoke to were unanimous on this point. Taxing big oil sounds satisfying when they’re making these record profits, but a bad idea, would probably end up raising the price of gas, because you are essentially making it less profitable to sell gas.”