Sunday, October 30, 2005

Big Oil, Fat Profits and Politicians

What is with Sen. Charles Schumer? Does he spend too much time with Communists or what? It is surprising that even after coming from a constituency which has Wall Street, he does not get any lessons of Market Dynamics. Or is it that he finds it an excellent ‘politics’ to take such dramatic positions on important contemporary policy matters in order to increase his profile and raise the flag further? The case in point is his Communist style proposal of Windfall Taxes on Oil Company profits. The worst part of the bill is not that he is proposing windfall taxes, well that is deplorable; but it is where does he want to use that money. He wants to use that money in the bottomless pit called Federal Deficit! Congress in the first place can not control the expenses. It will keep on spending the money as if there is limitless supply of dollars with no consequences. Next, Oil companies will take money of everyone’s pocket and then the Congress would again spend that money on it’s pork barrel projects. Whoa! how caring of common people and these politicians expect us to believe them….

If Sen. Charles Schumer and Liberals were to talk to fund alternative energy sources or public transport specifically with the collected windfall taxes, that would have been consistent and logical. At least it would serve more directly to common people. Also, here is an opportunity for any right minded person to identify dollars in appropriate manner for the purposes of taking away America’s dependence on oil and be creative in crafting practical solutions. Sen. Schumer and his supporters have blown this. True, he is proposing to use this money for hurricane relief and related work. But finding money by reducing 2 or 3 % expenses from across the board categories is more appropriate way of making resources available for natural calamities rather than using windfall tax money and leaving the original problem of extreme oil dependency still unsolved. Let us face it – hurricanes are in 2005, will be in 2006 and all the way in future. In addition there will be always some natural disaster to take care off. If an earthquake strikes California are we going to tax Google? Or better, is Congress thinking of making the list of top 20 profit makers from S&P 500 and taxing them every year for natural disaster relief fund? Where will it stop?

In any case it was matter of time before politicians started to talk about Big Oil Profits. Eye popping numbers like $100 Billion sale with $10 Billion net profit in one single quarter (that was the Exxon quarter only and other Big Oil companies are not far behind) quite naturally will move any politician. Whenever gas becomes expensive to common people and energy bill of average Americans starts going up; it becomes a convenient topic for politicians to flash their credentials in manifesting their care for people. They want us to forget that whether Democrat or Republican rules; America has not be able to solve her Energy problem in last 30 years. Where were the progressive policies of Democrats when Clinton was ruling the world? Why was that Democrats did not talk about Manhattan Energy Project in those times? True, we Americans are not free of our share of faults. When GM and Ford wants to sell gas guzzlers at a discount; like a drug addict we Americans go there. So we all are in a way entangled into this. Politicians do not make the life easy either with their half cooked, extreme ideas.

Democrats did not talk about Manhattan Energy Project in Clinton years because oil was cheap and Big Oil did not have fat profits. So there was no possibility of wind fall taxes. Does this historical fact ring a bell with Sen. Schumer? So when Big Oil argues that tomorrow oil prices will go down and they will not have profits – what do you answer? Are we going into the business of increasing current faulty subsidies of these oil companies when those very companies do not make money? Being greedy and running after corporate profits in good times is sure way of messing with market dynamics which otherwise will help to control the demand due to high prices. The risks taken by Oil investors and the boom – bust cyclical nature of that business should be compensated by good times like the current stellar quarterly results. (Full disclosure – the author does not own shares of any oil company neither of any publicly traded company at the time of writing.)

Granted Big Oil is not some kind of honest player without any blemishes. As reported, when an influential Wall Street analyst / investment banker approached these companies to create a corpus of fund on their own to finance Gulf Cost Recovery after hurricanes; it did not fly. Also the history of Big Oil is not something to be proud of. But is it not for this reason that there is Federal Trade Commission and all other Federal bodies to investigate price gouging? Why do we need the theatricals of Congressional public enquiry where politicians would essentially get free by only making show of their commitment and if possible half cooked, more damaging measures?

It is not Liberal and Democrats who find the bandwagon of going after Big Oil profits as a ‘political low hanging fruit’. Republican Senate Leader Sen. Frist is not far from this populist game, he is scheduling Senate hearing about price gouging by Big Oil. Truly, when it comes to Big Oil and fat profits; it is hard for the Congress to resist the temptation of windfall taxes and other tricks.

What could be done? It is important to note what makes the fat profit for Big Oil companies. Profit from exploration and producing crude oil is determined by the global oil price. Whether it is an American company or a foreign oil company; that profit is going to be there. The second part of the profit is from refining and the third from the retail distribution. May be FTC with the help of SEC make it compulsory for Big Oil companies to give all these details separately. The way things are, most of the oil companies are indicating all these figures separately right now as well. If anything is needed, Congress can work out these administrative compliance regulations. Once these figures are there, it is the second and third part of the profit which may have some legitimate relevance as far as any further taxation is considered. First choice is still not to tax these earnings. But if Congress deems that is not possible due the political pressure; then it needs to think ways to redirect tax collected to either public transport or reduction in direct retail oil price. There may be some grounding for Congress to argue that this type of profit (refining and retail) is based on factories and shops on American soil manned by American worker for American Consumers. Big Oil could reply that Refining market is global in nature too and that is why this whole taxation debate is still a gray area and not on so firm grounds.

When it comes to profits due to exploration or crude oil production (when a barrel is sold in the world market at $60 plus rate); it is hard to visualize how that can be subject to additional taxes or what is the rationale behind that. Again if it is to be taxed, the only way could be making compulsory these companies to pay for alternative energy projects, projects where the risk component is high but if successful it can reduce America’s dependence on foreign oil and gas. That could be more useful form of taxation than simply using that money in the general kitty. Or may be Congress mandates such collected taxes / surcharge as a kind of venture capital fund which it invests in all types of alternative energy projects. Mandatory contribution by Big Oil companies to such funds will given them stakes in these venture funds so that in future when any of those funded companies become successful, the paid amount by Big Oil investor will be rewarded. In other words, Fed works as a conduit for directing wind fall profits of Big Oil towards directly solving America’s problem without compromising ‘ownership principles’ rather than simply gutting that money in it’s never ending deficit.

Do we think Congress can pull of such a delicately balanced policy measure? The way the body works, it is hard and what with the partisan pressures. May be Congress is not meant to address and craft such sophisticated policy instruments. Given all that, one in the end feels that America is better off not going the road of windfall taxes and leave the dynamics to be worked out by market forces. Sorry, Sen. Charles Schumer; you are on a misguided path.

Umesh Patil
San Jose, CA 95111
October 30, 2005.

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