COMMENTARY – Boom, Bust, Recovery, and punishing success: Punitive steps toward Oklahoma oil and gas are unwise
Published: March 7th, 2018
OKLAHOMA CITY – The drive to raise gross production taxes levied on Oklahoma’s oil and gas industry to 7 percent, in baffling retaliation against the recent success flowing from increased efficiency in extraction, continues.
For many, the success of the industry dictates the necessity to punish it. But such punishment would help accelerate medium-to-long term consequences, most likely in the form of reduced production.
Some theorists posit that the domestic shale oil revolution means that the boom-and-bust cycle that has characterized oil and gas throughout the history of the last two centuries is no longer an economic truism. But it will take a lot more than a few months of good production to make such arguments persuasive.
More cogent, for Oklahoma policy makers, should be studies like that of Robert Rapier, writing for the Energy Trends Insider in late 2015 (http://www.energytrendsinsider.com/2015/11/04/boom-to-bust-5-stages-of-the-oil-industry/).
As he observed, “During the booms we hear about windfall profits, but during the downward part of the cycle, oil companies lose a lot of money and many people lose their jobs.”
The reasons are, he wrote, “not complex.” He gave this straight-forward executive summary:
• Stage 1. At the bottom of the cycle, there is excess oil supply which results in low oil prices and a period of under-investment by the oil industry. Low prices also stimulate higher demand.
• Stage 2. Demand grows faster than supply, leading to a tightening supply/demand balance. Oil prices begin to rise.
• Stage 3. Rising oil prices mean oil companies start making money, and they ramp up investments in new projects. The higher prices rise and the longer they remain high, the greater the investments. New oil plays become economical, and new oil companies are formed. Some of these companies employ a lot of financial leverage, which is OK until…
• Stage 4. Higher prices curb demand growth, and new projects begin to come online. Production growth begins to outstrip demand growth.
• Stage 5: Prices collapse, and the oil industry contracts as capital expenditures are slashed. We return to Stage 1. The cycle is complete.
Some suppose that, by some bend in observable laws of economics, the modernized industry is somehow exempt from the history boom-and-bust cycle.
I don’t believe that will ever be the case.
Regardless, raising GPT in the Sooner State at this time when the state economy is recovering is a bad idea. Punitive steps aimed at one heritage industry are particularly wacky as the state edges forward (after more than a year of growing government revenue).
In a measured 2016 study of the industry’s impact in Oklahoma, the State Chamber Research Foundation noted that even after years when extraction and production were down, “The amount of direct economic activity produced by the industry remains substantial. Over the past five years, the oil and gas industry produced an average of $37.1 billion in output of goods and services annually, employed an average of 56,400 wage and salary workers and 77,400 self-employed proprietors, and generated household earnings of $6.44 billion in employee compensation and $8.91 billion in proprietor income annually. This activity spills over to nearly every sector of the state economy.” (http://okoga.com/wp-content/uploads/2016/09/SCRF-Economic-Impact-of-Oil-and-Gas-Industry-on-OK-2016-Study.pdf)
Sketching only a few of the specifics:
“In total, the oil and gas industry supports an estimated $65.7 billion in total state output. … Direct earnings in the industry support an additional $17.2 billion in estimated spillover earnings statewide. …
Including spillover effects, approximately $32.6 billion (27%) of total state household earnings are supported by the energy sector. … Each new direct oil and gas job supports slightly more than two additional jobs statewide. … Almost 1 in 5 (424,800) wage and salary workers and self-employed proprietors in Oklahoma are employed directly or indirectly by the oil and gas sector. … Estimates indicate that state energy firms made an average of $11.3 billion in purchases annually from other state-based suppliers. … An estimated $1.7 billion in oil and gas royalties were paid to Oklahomans in 2015.”
There are other reasons to doubt the wisdom of dedicating a large wave of new taxes to one particular governmental purpose, even one as worthy as a teacher pay increase, rather than allowing revenue to be subject to the general revenue process.
Byron Schlomach, director of the 1889 Institute, commented on this in a recent interview.
“Dedicating funding destroys flexibility. Real fiscal responsibility, which is vested in a legislature in a republic, means flexibility. While I am the last one to believe legislatures do an excellent job of always properly setting priorities, especially in a world with “free” dedicated federal funding, they at least do a tolerable job. Dedicated revenues “pre-load” priorities and prevent funds from being spent in areas with the greatest possible positive impact under current circumstances.’
He continued, “As a corollary to the first point, high priorities now are not necessarily going to be the high priorities of the future.”
In 2012, George R. Crowley and Adam J. Hoffer, economists writing for the “Mercatus on Policy” series put it this way:
“The practice of earmarking, or dedicating a portion of tax revenue to a specific expenditure category, is a popular fiscal tool for state governments. Theoretically, the process of dedicating tax revenues to specific expenditures should have no impact on the composition of expenditures, because one dollar from one tax is perfectly substitutable for one dollar from another. Nevertheless, previous studies have found a range of effects of dedicating revenue on expenditures, and this process remains a popular policy option for state governments. We find support for the hypothesis that dedicating tax revenues to specific expenditures can be used by policymakers to mask increases in total government spending.
“Our empirical results show that dedicated tax revenues tend to result in an increase in total government size but have little effect on the expenditures to which they are tied.”
As best I can determine, this proposed 7 percent GPT (if enshrined in the state’s core legal document) would be the first state-level tax increase singling out a specific industry within a state constitution in the nation.
A handful of other analysts have reached a similar conclusion.
Passage of such a measure, and its placement in the state constitution, would be the state-level equivalent of the so-called “windfall profits tax” levied the federal level in the bad old days. That measure, enacted in the latter day of the Jimmy Carter administration, eroded much of the power in America’s small independent producers. It fed concentration of power and resources within multi-national corporations and ceded much of the world market to the OPEC powerhouses that had emerged, and who strengthened their position in the following years.
Ronald Reagan had promised to kill Carter’s so-called “windfall” levy, and got it done late in his own presidency, However, not until the onset of the relatively recent shale oil revolution has the American oil and gas industry returned to anything like the central role it initially had in world energy production.
In an exchange this week, John Tidwell, Oklahoma state director of Americans for Prosperity, reflected, “Passage of a GPT increase through a state question would be an unprecedented attack — in fact it would be the only constitutionally-enshrined tax increase in the United States. We continue to encourage lawmakers to shift their efforts to reforming our state budget. Most primary voters still agree that the budget must be reformed before we raise taxes.”
One last bit of information, from a story The Associated Press reported this week: “A global energy group says booming production in the United States will meet most of the world’s growth in demand for oil in the next few years.” (http://newsok.com/article/feed/1840377) Don’t mess that up.
Humbly submitted, the beginning (not the end) of the case against raising the gross production tax.