With the Windfall Profit Tax Act of 1980, the US Congress accomplished only one of its goals. The misnamed tax was supposed to capture for public use $280 billion from the difference between a statutory base price of crude oil and a market price thought sure to rise forever. But the market price fell. By the time of its repeal, the tax had raised less than $40 billion. Meanwhile, US exploration and production declined, and oil imports rose.
The excise did, however, fulfill its political motivation: It punished oil and gas companies for profiting while oil prices rose to levels consumers found uncomfortable. Many of the targeted companies spent the rest of the 1980s and much of the 1990s moving work, money, and jobs outside the US. So the tax was a smaller-than-planned political trophy for populist opportunists and a fiasco for energy and economic policy.
Cause for alarm
That a new windfall profit tax is to any degree in prospect is cause for national alarm and for questions about the competence of lawmakers responsible for the folly. Oil and gas prices, for easily discernible reasons, leaped again this year to levels that made consumers uncomfortable, and profits of oil and gas companies did what they usually do when that happens. So politicians have once again inflamed and are trying to exploit popular outrage. Because so many of them remain willing to put the punishment of oil and gas companies ahead of serious national interests, blind to the lessons of history and the likelihood of economic damage, a windfall profit tax looms again as a threat.
Last month a group called the Investors Action Foundation published a study that tries to measure the potential harm. Written by Robert J. Shapiro, cofounder and chairman of Sonecon LLC, and Nam D. Pham, an economic consultant of NDP Group LLC, the study catalogs the obvious energy drawbacks of a windfall profit tax and steers arguments against the excise into new territory. The satisfaction of stinging oil and gas companies, according to this analysis, would cost many Americans a lot of money.
Shapiro and Pham, both PhD economists, argue among other things that the prospective tax bite on oil and gas companies would propagate through the population of Americans who own oil company stock. That population is large, and the bite is deep.
The study focuses on one of several tax initiatives, the Windfall Profits Rebate Act of 2005 proposed by Sens. Byron Dorgan (D-ND), Christopher Dodd (D-Conn.), and Barbara Boxer (D-Calif.). That tax would apply at the rate of 50% on the difference between the per-barrel sales price of crude and a base price of $40/bbl, adjusted for inflation. Revenue applied to “qualified investments” would be exempt. Proceeds would be distributed to taxpayers.
Shapiro and Pham estimate the economic effects over 5 years with crude prices of $45/bbl, $50/bbl, $55/bbl, and $60/bbl. Assuming oil production would decline as it did after imposition of the earlier windfall excise, the economists project gross government revenue from the proposed tax of $18-104 billion during 2006-10. Because the tax would be deductible from corporate income tax, however, the range for the net revenue increase falls to $8.6-48.6 billion.
Over the same period, the cost to shareholders from forgone market capitalization and dividends would average $21.3-121.9 billion/year, depending on the crude price. Shapiro and Pham estimate the market capitalization effects by multiplying the estimated difference between profits under the existing and proposed tax systems by an average 5-year price-to-earnings ratio of 11:1. They base the forgone-dividend estimate on the historic 30% average payout by oil producers.
Retirement effects
These effects would be spread among all oil company shareholders, many of whom hold shares indirectly through pension funds or retirement savings accounts. Shapiro and Pham estimate that the proposed windfall profit tax would reduce the value and dividends of such accounts by an average $8.7-50 billion/year, depending on oil prices. That’s an average of $50-287/account/year, according to the economists’ calculations. There are about 175 million such accounts in the US.
The lesson is clearer than ever: The energy and economic costs of a windfall profit tax reach well beyond the companies absurdly targeted for punishment. Congress should know better than to repeat the mistake.✦
