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A few weeks back in Evil v Clueless, I attempted to clarify populist, rhetorical BS that crops up in times of rising gasoline prices. True to form, a couple really stupid death-spiral proposals have surfaced: ending “tax breaks” for oil companies and reigning in speculators.

Bashing big oil has surfaced this gem again: we need to end tax breaks/subsidies for big oil. The angry mob of medieval grunts raise their clubs and swords to the air and roar approval.

The “tax breaks” they are talking about are the same ones every company in the US uses and rightly so: depreciation of assets. Oil companies buy access or mineral rights to extract oil and natural gas. It’s obviously a cost of doing business that can, and rightfully is deducted from earnings for tax purposes. Removing this deduction from tax filings essentially turns the 35% corporate income tax into a de facto 35% sales tax, and who pays for sales taxes, and all taxes for that matter? Consumers.

For example, assume the mineral rights for a parcel of drilling costs $1 million and the profit after all expenses is 5% or $50,000. If the oil company can’t get their “subsidy”, they have a new $350,000 tax bill on top of the $17,500 they would otherwise owe on their net income. Not only would the cost flow directly to consumers, there would also be a squeeze on earnings and supply would drop compounding the problem. But of course political hacks love to make policy that attacks the providers of necessities of life – utilities, oil companies and refineries, insurance, pharmaceuticals, and banks. It raises prices and as a result, companies are bashed again by the same dupes who are actually responsible.

The second one is less obvious but still a doozer. Bernie Sanders, Vermont’s self-proclaimed socialist senator wants to make it more difficult for the evil speculator to participate in the market. This brilliant policy would raise the capital investment requirements for hedging with commodities futures. Presently, the capital requirement is something like 10%. In other words, you can buy a futures contract for a $100 barrel of oil for December delivery for $10. The rest is due when you take delivery. Speculators don’t take delivery. They sell the rights to a company that will. Sanders, I believe wants to raise the capital requirement to something in the 50% range so the former online professional poker player can’t have a substantial position in the futures markets; but neither can bona fides.

Consider Southwest Airlines would like to lock in 5 million gallons of $3.00 jet fuel for October delivery to hedge against volatility. Their capital requirement to do so would rise to $7.5 million from $1.5 million. Because capital is scarce, the result is LESS hedging and MORE volatility. Once again the result is directly opposite the desired outcome – but it sounds good! To cap off how totally ignorant and stupid this is, speculators do not drive up the cost of the underlying commodity anyway. If one speculator is buying, one is selling. One guy is betting that Iran will blockade the Straight of Hormuz and another bets the Keystone pipeline will get the thumbs up in the next year. And BTW, when news of a new oil supply that will hit the market five years out breaks, it has an immediate impact on prices. Why? Because the gosh darn speculators know prices will drop and so output increases right away to sell at the higher prices, all else equal. Increasing supply lowers prices today.

Lastly, recall Bill O’Reilly, who incidentally agrees with Bernie Sanders, wants to force oil companies to only sell their refined products to the US to drive down prices. This only works in the world of the small mind. Recall the California experiment that deregulated wholesale electricity but not retail to consumers. Suddenly Enron, NRG Energy et al could raise prices as they wanted for their utility customers but utilities were stuck with their retail prices. Result: bankruptcy. Same thing for O’Reilly’s plan.

Oil is a global commodity. Forcing down prices here at home is good for consumers until all the refineries shut down. It would be like forcing McDonalds to stop serving females to drive down prices while letting Burger King sell to everyone. DUH! Refineries are already shutting down on the east coast because they do not have access to cheaper oil.

With new technologies, the US has under its control massive stores of energy for 100+ years. Prices can come down easily by increasing supply. The cartel in control is the legislative and administrative arms of the US government. You can contact them with your request in either direction and wait for a form letter sent by an intern that screams, you don’t matter.

Jeff Ihnen

Author Jeff Ihnen

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