In a debate with $4 billion worth of consequences for the oil industry, U.S. lawmakers are again fighting about whether to scrap oil company subsidies in the face of skyrocketing gas prices.
As gas prices approach $4 a gallon, President Obama repeated his call for an end to oil, natural gas and coal subsidies that cost the government $3.6 billion annually. Repealing the subsidies would bring in another $46.2 billion over a decade, money that Obama says could help pay for clean energy initiatives. The president is proposing eliminating the breaks over the next two years.
The oil industry has long argued the tax breaks encourage domestic oil production and provide millions of jobs. Republicans in particular have resisted efforts to eliminate the breaks, something the Democrats have been trying to do since at least 2008.
Now the idea has new life, thanks to (of all people) Republican John Boehner, the speaker of the House of Representatives. In an interview with ABC News, Boehner said cutting the subsidies is "something we should be looking at."
"We're in a time when then federal government is short on revenues," he said. "They ought to be paying their fair share."
Boehner's comments came as a surprise. To be sure, not all Republicans back Boehner's idea. Senate Minority Leader Mitch McConnell, for one, is calling for changes that would support increased American oil production. And even Boehner backtracked from his comments in the days that followed, saying the big oil companies do not need the allowances, but that smaller producers probably do.
Nevertheless, the Republican's comments echoed Obama's comments from his weekly Saturday radio address: "That's $4 billion of your money going to these companies when they're making record profits and you're paying near record prices at the pump. It has to stop." In a letter to congressional leaders, Obama also took aim at the claim that eliminating the subsidies would stifle domestic drilling.
"CEOs of the major oil companies have made it clear that high oil prices provide more than enough profit motive to invest in domestic production without special tax breaks," he wrote.
The fight concerns nine tax breaks, but four count for the lion's share of the money.
The Domestic Manufacturing tax deduction is the single largest tax break for oil producers and would provide the government with another $1.7 billion annually if repealed. The deduction, designed to keep factories in the U.S., allows companies to deduct 9% of the income they earn through their domestic operations. Opponents of the break say it is not appropriate for oil companies, since they can't exactly choose to move their wells. The oil industry counters that argument by saying that higher costs to operate in the U.S. would make producers shift focus to other areas, like the North Sea.
The Percentage Depletion Allowance lets oil companies deduct about 15% of the money generated from a well from its taxable income. Worth about $1 billion a year, the deduction essentially lets oil companies treat oil in the ground as capital equipment; within any industry, capital equipment can be written down each year.
The Foreign Tax credit gives companies a credit for any taxes they pay to other countries, which total $850 million annually. And the Intangible Drilling Costs break lets the industry write off about $780 million a year for things like wages, fuel, repairs and hauling costs. All industries get to write off the costs of doing business, but most have to take it over the life of an investment; the oil industry gets to take the drilling credit in the first year.
Energy policy will probably be one issue in the hot seat next week, when lawmakers return to the Capitol. In addition to this subsidies fight, Republicans are planning to call up a series of bills aimed at boosting offshore drilling, and both parties know that high gas prices are a major issue for struggling American households.
And here's an interesting trend to note: it seems the stocks that should be most sensitive to high oil prices have stopped tracking higher. First-quarter earnings, due next week for U.S. majors, will certainly show nice profits; Chevron, for example, has already said it took in $10 more per barrel in the first three months of this year than it did last year. Since Chevron pumps much more crude oil than natural gas, its earnings are quite sensitive to the price of oil, and the same goes for firms like Hess and Occidental Petroleum. These firms also happen to have less of their output tied up in production-sharing agreements, in which government take increases as prices rise.
As a result, Chevron's earnings per share rise about 20% for each $10 increase in the price of oil, according to Credit Suisse. Hess does even better, adding 30% to its profits for each $10 price hike. By contrast, France's Total, which produces less oil and is tied to more production-sharing agreements, gets just a 7% boost in profits for each time the price of oil gains $10.
But the power of rising prices seems to be losing its effect on oil stocks. Not even Hess's share price has kept pace with the 40% rise in the price of Brent crude over the past year. One estimate says European oil majors are priced for $90 oil, about 25% below current prices.
Perhaps investors don't think current prices are sustainable. When oil rises above $100 a barrel, demand starts to slip. And high oil prices aren't good for refining and marketing margins, since the extra costs can't be passed on. What it all means is that oil executives may not applaud further price increases, because if pricey barrels start to chip away at demand, the stocks that have gained the most will be the first to suffer.
