Monday, January 30, 2006

What would you do with a billion dollars a day? (And you can't say buy the Cleveland Cavaliers.)

Exxon Mobil reported today that its net revenue for 2005 was approximately 371 billion dollars, just over a billion dollars a day. Net income on that revenue, excluding special one-time expenditures, was approximately $33.9 billion. In light of this record-breaking news many lawmakers are calling for special taxes on these so-called “windfall profits.” Let me tell you why this is a bad idea (and yes, I know Trotskey will disagree with me).

Any amateur economist knows that prices in a market economy are determined by supply and demand – a shortage in supply or an increase in demand will drive prices up. Recent world events make this quite clear, as we have seen an increase in the price of natural gas after the hurricanes in the Gulf region wiped out production centers, greatly reducing supply. It follows logically that prices can be decreased with a lull in demand or an increase in supply.

A windfall profit tax will negatively affect supply in two ways. Firstly, it directly discourages production of oil by penalizing those efforts – why pump more out of the ground when the marginal benefit is significantly reduced? Secondly, large profits encourage new investment. One of the reasons that gas prices have spiked is that there has been no significant investment in the domestic oil infrastructure in the last 30 years, due in part to the windfall profit tax imposed on the industry in the 1980s. Allowing the oil companies to retain their profits from the recent price spike will encourage them to build new refineries and finance new exploration projects, both of which will help bring supply in line with the recent increase in demand that is responsible for the rising costs at the pump.


Additionally, a windfall profit tax imposed by the US Congress would needlessly prejudice American companies like Exxon and Chevron, while international operations and companies would continue business as usual.

Incidentally, price controls are also not the answer. Higher prices both encourage production on behalf of the suppliers and conservation on behalf of the consumers. Artificially reduced prices would simply create an excess of demand, leading to the long lines at the pump seen in this country in the late 1970s.

If Congress really wants to do something about the energy problem in this country, they should encourage conservation and investment. Windfall profit taxes and price controls? No thanks.

3 comments:

Trotskey said...

I'm not going to take issue with the entire theory because my brain will not accept that level of thinking this early in the morning. However, I do have a couple points. First, telling people to conserve oil is stupid. Sure, some conservation is possible but on a large scale, increased conservation on an individuallevel would lower the quality of life standard for many people. I have already experienced this on a personal level. Because of the incredibly high cost of my last two heating bills, I have been forced to lower my thermostat to 62 degrees. I would love to live comfortably like a normal person, but unfortunately gas prices will not allow me to do so. The second area where conservation would be theoretically possible is in reducing the use of gas in your automobile. Advocating this is like telling people not to live their lives to the fullest by traveling around and living their normal, mobile, twenty-first century lives. I understand that alternatives in transportation are available in many places, but many places also have no viable alternatives. If these windfalls were somehow taxed or earmarked for particularized types of investments, perhaps we could build more light transport or increase research into alternative sources of energy. As it is, the money will probably go to lobbying republican members of congress so we can drill for oil in Alaska, or your backyard. The sad truth is that in our country, money makes people lazy and complacent, and it allows them to advocate for continuation of the status quo. Oil companies will not make real strides toward solving our energy problem until they start losing money. Also, I agree that decreases in supply cause incresed prices, but in the case of oil companies, I do not believe that the opposite is true.

penxv said...

There is nothing that congress can do to make the price of oil go down besides price controls or restricting output.

Both very stupid for a multitude of reasons.

They don't produce shit. They can only make it worse... their power enables them nothing else.

Nye! said...

Trotskey, I think your arguments miss the point. You've complained that conserving lowers your quality of life, but look what happens when people fail to conserve -- your heating bill goes through the roof and you're forced to conserve. If everyone were more responsible with their energy consumption in the first place (e.g., turning the thermostat down when they're not home or in bed, sealing leaky windows, etc.) then this problem would be alleviated (though not completely gone).

With respect to gasoline, you don't have to drive less, just drive smarter. When I was in high school my older brother and I shared a car, an old 1981 Cutlass, I believe. He drove it like a madman, always speeding, gunning it off the line, peeling out and the like. I drove it more reasonably, accelerated slowly, coasted down hills and that sort of thing. He got 11 miles to the gallon. I got 20. In other words, by not driving like an idiot, I decreased my fuel consumption by almost 50%.

Finally, taxing profits and earmarking them for research is a terrible idea for a number of reasons, not the least of which is that the government shouldn't be telling people what to do with their money. But beyond that, government research dollars are notoriously inefficient. Besides the countless layers of bureaucracy that would be created to handle such a scheme (at the IRS, the DOE, and whatever other agencies would need to be involved -- all of which cost money and therefore reduce the return on every dollar collected), government research programs are often so restrictive that they produce little of value. Trust me on that one, I did government-funded cancer research for almost five years. The solution isn't to regulate more, it's to regulate less.