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Tax hike sends wrong signal

Sam Fletcher
Senior Editor

The push by consumer nations for lower oil prices to help spark an economic recovery may be undermined when crude-producing nations see those governments take advantage of oil price reductions to ratchet up taxes on refined products, particularly in Europe.

Changes in the UK's taxation policy indicate the producers have grounds for such suspicions, said Paul Horsnell, a managing director and head of commodities research at Barclays Capital in London. "Last November, the duty on gasoline in the UK stood at 50.35 pence/l. Changes in December and earlier this month brought it up to 54.19 pence/l. as of [Apr. 19], which at current exchange rates is the equivalent of $125/bbl [of gasoline] or $153/bbl including the indirect tax element of retail prices."

Prior to the latest increase, he said, "Taxation already made up 73% of the average UK retail gasoline price, which is the equivalent of $4.80/gal."

Moreover, the UK budget statement on Apr. 22 announced "a further increase of 2 pence/l. to be made in September, plus an additional penny per liter above inflation in April for the next 4 years," Horsnell reported. "In just 10 months starting last November, the UK will have increased fuel duty by 5.84 pence/l., the equivalent of $13.50/bbl, with changes in indirect taxation bringing the overall increase in the tax take to at least $11/bbl."

Horsnell said, "Given that this rapid ramping up of the direct tax element (by 11.6% in just 10 months) had previously been stalled by high prices, producers might be forgiven for seeing this as an extra $10/bbl or so that has gone into consumer tax revenue simply because prices are lower. With European governments signaling that retail prices will be kept high regardless of the level of crude prices, it also gives producers an impetus to want to get $20/bbl or so back on the upstream price relatively quickly, before that amount is expropriated instead by European governments through downstream taxation."

Overall, he said, "It appears to us that producer-consumer relations are deteriorating again, with some old wounds being reopened. Through opportunistic taxation policies, in our view, European governments in particular are pushing producers into a more hawkish stand on prices."

On Apr. 23 in London, the June IPE contract for North Sea Brent crude gained 30¢ to $50.11/bbl, selling at a premium over the June contract for benchmark US light, sweet crudes that closed at $49.62/bbl on the New York Mercantile Exchange.

Flu affects energy market
After climbing more than 12% in a 4-day rally through Apr. 24 in the New York market, crude prices were down in early trading Apr. 27 amid concerns that the swine flu outbreak will further reduce air travel.

In Houston, however, analysts in the Houston office of Raymond James & Associates Inc. reported, "The US has already declared a public health emergency, and the European Union's health commissioner recently advised against any nonessential travel to the US and Mexico. Regardless of a potential decrease in air travel, crude stockpiles are at their highest level since 1990, and speculators are net-short oil for the first time in 6 weeks."

'Coal floor' slips
With the supply cost curve falling and inventories increasing, the coal price "floor" for natural gas may not provide much protection for gas producers, said Adam Sieminski, chief energy economist, Deutsche Bank, Washington, DC.

The switch to gas from coal among customers able to do so has been concentrated on the US East Coast, "where coal prices are substantially higher than in the West and gas prices are more marginally so," Sieminski said.

Citing a recent report by Wood Mackenzie Ltd., a former Deutsche Bank subsidiary, Sieminski said, "While break-even costs on these gas plays are high, cash costs are very low—less than $1/MMbtu in almost every play." With coal mining costs running much higher, he said, "Coal shut-ins are much more likely, meaning those costs will set both base case coal and gas prices."

Sustained gas prices of $3.50-4/MMbtu will cause a drop in North American gas drilling "beyond what we have seen to date," Sieminski said. "But rig lay-downs do not filter through to production declines for 3-6 months, so they do not provide short-term price support."

According to the WoodMac study, there is some risk that the entire coal supply curve could fall as materials costs decline due to weaker worldwide demand. "There may be a coal floor," Sieminski said, "but in our view, it is too low to do gas producers much good."

(Online Apr. 27, 2009; author's e-mail: samf@ogjonline.com)


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