On Profits, Oil, And Taxes

Exxon Mobil makes a lot of money; billions of dollars per quarter, to affix some scale to the notion. During those quarters that the massive firm only makes a few billion in profit, most Americans are oblivious. When those same Americans have to pay $4.00 per gallon to go to work, they get a little testy at the mention of “Big Oil”. The political hot air competition (Republicans blame prices on the inability to drill everywhere, Democrats blame them on greed and reckless subsidy) is getting us nowhere. But, just for the sake of argument, let’s cover the two arguments, and be done with them.

Taking $4 billion in subsidies away from Big Oil (if those subsidies went exclusively to those firms; which they don’t), would not lower gas prices. Period. For the same reasons that The Rational Middle lampoons GOP legislators for their attacks on Big Bird and Food Stamps, a $4 billion cash grab by Democrats is a stab at chump change in the scale of our budget. Yes friends, $4 billion, on the scale of the budget of the greatest country on Earth, is very nearly as important as the freshener you might see in a public urinal. As to the Republicans shrill, incessant, and obnoxious screams to Drill, Baby, Drill…

IT WON’T LOWER GAS PRICES NOW, AND NOT MORE THAN A QUARTER OR SO OVER TEN YEARS!

I am sorry friends; it is a fact, not a political ideology or subjective assumption. We are dealing with the harsh realities of economics and simple arithmetic. Perhaps another look is waranted:

  1. To Sarah Palin, are you a Socialist? Because drilling in America doesn’t mean Americans get to keep the product, unless you plan on nationalizing the oil companies. And that is the first problem with the assumption; anything harvested in our nation gets summed into the world supply, thinning the downward pressure extra supply has on price.
  2. The United States has 22.3 billion barrels of provable reserves. The United States consumes 20 million barrels per day. That is a three year supply (if we went on the Palin Plan/logic of nationalizing oil).
  3. Under an optimistic scenario, an aggressive drilling and production plan could raise our output by perhaps 2 million barrels per day, which, if we nationalized, would push prices down by perhaps 10%-15%. (So, drill everywhere, risk more BP scenarios, go communist and nationalize the oil companies, and save $0.60 per gallon.)
  4. If we didn’t nationalize, that very optimistic 2 million barrel per day raise in production would get pushed into the world market (90 million per day), meaning that, after 8-10 years or so, we would see price declines of perhaps $0.20 per gallon.

We could, of course, go in a different direction and plan more mass transit (lowering demand and cost). We could also pass a federal law mandating a 50 mpg average for passenger vehicles in 10 years (easily achievable, without additional cost to automakers, since they retool everything at least every 10 years.) The savings in average cost per gallon of gas, equivalent to that achieved by turning America into an oil field, are easily found in dozens of less intrusive plans. But none of those plans are appealing to legislators who are well compensated by oil companies.

This year alone, the oil and gas lobby has given over $39 million to Congress! Last year, they funded the Republican Revolution in the midterms to the tune of $145 million. These same companies have also spent a mint sharing their warm and fuzzies with us (see picture at right).

But the topic we the people are currently concerned with isn’t lobbying, it is windfall profits and our broken and diminished summer vacations. Republicans in Congress (and elsewhere) have informed us that profit is good, and punishing profit in un-American. I mostly agree with them. It is a fundamental tenet of Marxism that profit is the result of exploitation of the working class. As I am not a Marxist, I believe that profit resulting from value added to a market is always good.

The key here, is added value. When a firm, individually owned in a small town or corporately owned in Manhattan, creates profit by adding value to a market, it is good. If a business treats its customers better, sources higher quality products at the same cost, improves its process, or brings a new and unique product or service to a market, the profits they receive are earned. The question for our democracy, is not how much profit is Exxon earning, but how much profit are they receiving without returning added value to the economy. If there is excess profit without added value, then how does the democracy handle the market failure while preserving free enterprise. We can’t do it by taxing windfall profits…the margin for error is just too large.

The subject of taxation is another prickly cactus of a notion. Exxon will tell you that they pay an average tax rate of around 40%. They are absolutely correct. Such knowledge is usually enough to make the average taxpayer stop and say, “They are paying their share.” But, without condemning or supporting the idea, it is important to understand the difference between corporate taxes and individual taxes. A typical household in the U.S. last year made about $50,000. They paid, right off the top, about 16%-20% (given FICA, income, standard deductions and the like). They paid that before the mortgage, utilities, cars, food, college, clothes, church donations, or Christmas presents. Corporations like Exxon get to pay all of their expenses first.

Last year, Exxon’s total revenue was over $383 billion dollars; that is about 20% of the United State’s total revenue. Their gross profit (total revenue minus the direct cost of that revenue), was over $149 billion, which is roughly similar to what it cost to fight (annually) in Afghanistan and Iraq. But they only paid taxes on $53 billion of that total (13.9% of total revenues and 35.6% of gross profits). The next time some arrogant fool of a commentator calls you a freeloader because your standard deduction brings your effective rate down to 10% or so (after you have paid 7% to FICA), tell him to shut up! Companies pay taxes, after they pay all of their bills; individuals pay taxes, then hope they have enough to pay their bills. Taxes aside, a situation where-bye a firm like Exxon can earn massive increases without adding value is a market failure.

We can and should examine the reasons for the market failure, and move to find the least invasive democratic correction at our disposal. The reason that gas prices surge the way they do is that speculators with no connection to the end-use of commodities are allowed to buy and sell commodities. Markets, for stocks and commodities, are important. They provide liquidity, which greases the wheels of commerce. But markets, created to serve the god of liquidity, have been perverted to the creation of profit without production. Traders earn profit without adding value to the economy. They produce only profit, and that is an exploitation even in the context of capitalism. One possible solution to this problem would be to ban sales of commodities (or derivatives based on commodities) to parties that are not end-users of the commodities themselves.

These prices don’t help anyone but top-tier executives at Exxon. Exxon Mobil is sitting on $300 billion in retained earnings; they aren’t using the funds to develop or explore, they aren’t distributing the funds to shareholders, they aren’t hiring Americans who wouldn’t already be employed. The convenience stores and gas stations that sell their product (mostly owned by small business persons), are hurt when prices surge. Keep in mind that if the price is going up fast, the owner of that station you are mad at is probably losing money on every gallon (street prices rarely go up as fast as delivered prices). Exxon produces and sells a highly substitutable product (gas is gas); if they disappeared tomorrow, they (and the jobs they do produce) would be replaced the day after.

Oil is something we will live with for decades to come (until it runs out in the late 22nd Century). Exxon is a legal company selling legal products and operating in the open. Profits are generally good. But the construction of the oil and commodity markets is rife with problems that cripple our economy. We live in a democracy; we can do something about it.

The Rational Middle is listening…

5 thoughts on “On Profits, Oil, And Taxes

  1. @Scott…were they intended to be criticisms, they would be as welcome to me as outright acceptance of my ideas. I started this space two years ago this June (to all of 6 readers). It’s premise is one of informed conversation (to which I bring my decidedly liberal points of view). Your thoughts are challenging, and certainly cause me no injury.

    On Exxon’s taxes, your estimate of $21 billion is, as they say, close enough for government work (the real figure for fiscal 2010 was $21.561 billion).

    I advocate restricting the commodities markets to purveyors and end-users only (although I don’t say it in the piece, I would say an outright ban or large targeted capital gains tax could do the trick). Your point on commodities is well stated, but the basic idea remains; Exxon changed nothing in Q1-2011, and earned billions more over their baseline because of speculative activities. This economic construct is unsustainable and entirely unnecessary. (Compare it to the pharmaceutical industry, which reaps windfalls on the production and marketing of new drugs. Their profits are accelerated by the patent monopoly, but they at least are producing new benefit.)

    Exxon is the focus of this article because they are easy to recognize, they have chosen a strategic posture for purely political reasons (and reasons of stubbornness), and because they fight against energy market evolution. I believe they do this out of a singular view of corporate morality that I disagree with. I don’t, contrary to most of my liberal friends believe they are evil, or deserve punishment. They profit from a market failure, and the scale of that profit is a detrimental factor in the economy at large, damaging virtually every other exercise in entrepreneurialism along the way.

    As to taxes, I reject the argument of those who focus only on the income tax as it relates to the lower half of wage earners. The idea that there are “freeloaders” or “evil rich folks” is a construct of blame assignment that does our democracy, and its economy, little good. The goal has to be the efficient funding of the democracy as it seeks to rectify market failures and keep its commercial and human infrastructure up to date. The worker/consumers who form the lower half of the wage spectrum can ill-afford to pay a heavier tax burden and yet maintain the levels of spending/investing that has helped to push so much wealth upwards. It is an argument that arouses passions yes, but one that needs to be responsibility joined often.

    Finally, my point on Exxon’s model was simple: if they viewed themselves as an energy firm, and acted without regard to the primal urge they seem to have to keep our nation focused on fossil fuels, they could ensure their future well past the time that peak oil has ended. The commodity they currently traffic in will only get more expensive…the energy commodities they could easily finance (wind, solar, and their transmission facilities to be specific), will only get less expensive over time. Exxon could, if it chose to, OWN the U.S. marketplace in energy by investing its money in renewables. The ROI over the near term is less than what they get from current activities, but substantially more if calculated over the scale of decades. Also, if they lobbied for those forms, they could easily get subsidies to make wind and solar returns competitive with fossil fuels.

    But they don’t want to; they are more committed to winning the argument against clean energy than making choices to secure their shareholder’s equity over the long term.

  2. Hi Michael, sorry if it’s coming across as criticisms, just trying to understand (again). I thought the last couple of day’s posts were excellent. I’m still not seeing what you’re proposing, you talk a lot about the facts and options but I don’t really see anything that draws a line in the sand. Let me try to clarify:
    1. Like you said, you’ve given several different calculations but I don’t see the context you’re giving me so I can make any decision. You don’t really explain why Exxon is the focus of this case study other than you seem to think there is something wrong. My comment was essentially why are you griping about a single company that is paying taxes when there are so many companies and people which do not share that federal burden?
    2. Sorry, I’m at work and haven’t pulled the numbers today, I’ve actually got other things I’m doing. Since you didn’t actually provide the taxes paid figure I can’t easily calculate the effective tax rate. Based on your numbers of 40% tax rate on only the US$53B, then they must have paid 21 billion. That still sounds like a fair amount of money compared to zero (even deducting the subsidy amounts).
    3. I’m not sure I even understand what value you’re referencing. They deal in commodities. What other raw material source adds a lot of value? Exxon buys steel for drilling rigs and storage tanks just the same as local farmer might buy a new tractor. But that doesn’t mean the value of a bushel of corn goes up because of how a certain farmer handles it. Or would you say a farmer using a 20 year old tractor is a deadbeat and doesn’t help add any value to the local economy? Again, the scale is different, but I cannot apply your logic rationally.
    4. OK, so Exxon is doomed to fail. So? It sounds like you’re concerned with their too high profits and too low tax rates and lack of adding “value”, what does that have to do with them not having an up-to-date business model? Like I mentioned, they deal in commodities, they’re not in business as a social responsibility investment firm (http://beginnersinvest.about.com/cs/socialinvesting/a/052101a.htm)
    5. :) I find most financial help websites equally meaningless (max out your Roth IRA!!) But FICA isn’t the income tax, which is what I was specifically talking about. And the rate is no different, it is a flat rate. Because it does not apply above $108k or whatever it is, the effective rate is lower as you earn more, but you pay the same percentage on the same wages. The only ones who actually pay higher FICA are the self-employed since they get to pay both the company side and the personal side.

  3. @Scott-My actual proposal, such as it is, is contained in the post. Now, let’s see if I can address your criticisms.

    1. It sounds like you are having a conversation with a talking point, because I don’t criticize Exxon’s tax rate (which I list using three different calculations). I also dismiss the idea of raising a windfall tax: “We can’t do it by taxing windfall profits…the margin for error is just too large.” What I do is provide my readers the information on how corporate taxes are evaluated, which is important for THEM to make THEIR decisions.

    2. It isn’t immediately obvious Scott, why I should give a source for a 2.3% tax rate that I don’t claim. But I linked the article to Exxon Mobil’s income statements for a thee year period. If you can’t figure out their tax rate (which I did by simply pulling the data into Excel) then you aren’t as smart as I think you are. Perhaps you should look at the links before you make your grand criticisms about what I didn’t effectively cover.

    3. $300 billion in retained earnings is, in and of itself, an accurate calibration of the scale of that firm. That is one of the points of the piece. Also, it serves to reinforce the notion that Exxon isn’t providing value over and above its basic services, which is a critical point given their attempt to promote their brand is something critical to our nation.

    4. Companies fail when they limit their visions; Exxon is clinging to the idea that they are an oil company rather than embracing the mission of an energy company. The American Petroleum Institute has made it clear that total world reserves are insufficient to last more than another century or so. Large emergency funds are no substitute for adapting to a changing world. I could point to industries like the railroads, most of whom are no longer in business, simply because they narrowly defined themselves (they were railroad firms instead of transportation firms). Exxon continues to fight for oil (which is becoming scarce and by definition expensive) when it could easily move into clean energy and realize massive long term profits.

    5. As to personal income taxes, thank you for your links. The first was vaguely humorous; how many families of four living on 55k per year can put more than $10,000 away pre-tax into 401k’s, an FSA, and a DCA. The notion is absurd. The second article is better, but focuses on a rather thin premise. Everyone pays the FICA tax Scott (everyone: working poor, kids, illegals with fake ID’s, everyone), and FICA supports better than 1/4 of the U.S. budget. Those folks below $50,000 even pay a higher FICA rate than earners over $100,000. That family paid almost $4,000 in federal tax, it just wasn’t federal income tax. Exxon might have paid 0.1% of its revenue in payroll taxes.

    I hope that answered some of your questions, and thank you for your criticisms.

  4. Are there really people that think that if we end the subsidies to Big Oil that it will make gas prices drop? I think we ought to end the subsidies, but I expect that would drive prices up since Big Oil will raise prices to compensate. At least we the people can cut back on our discretionary consumption to offset the increase.

    The whole argument about the $4b Big Oil subsidy is more of a psychological thing, IMO. The budget hawks who want to reduce taxes by slashing spending on things like education and food stamps to then turn around and defend tax dollars going to Exxon is absurd. It exposes their hypocrisy in the most stark terms possible. The free-market champions that are OK with the US government pouring billions of tax dollars into multinational corporations are also hypocrites. It’s not a free market if the government is investing heavily in it. $4b may not be much in the grand scheme of things, but it is certainly enough to where Big Oil is fighting tooth and nail to keep it.

  5. Hi Michael, so what is your actual proposal? Maybe I’m missing what you think needs to be done to address the travesty that is Exxon’s federal taxes. How do you compare their 2.3% effective tax rate versus the 0% that 47% of US households pay? How is paying 2.3% so much for egregious than contributing nothing?
    here’s a post on how 0% is obtained:
    http://www.joetaxpayer.com/who-pays-no-tax/
    here’s who’s not paying:
    http://money.cnn.com/2009/09/30/pf/taxes/who_pays_taxes/index.htm
    here’s the source of the 2.3% since you didn’t give an effective:
    http://www.consumerenergyreport.com/2011/05/11/getting-to-the-bottom-of-exxonmobils-taxes/
    Also, given your recent concerns about understanding scale, I’m surprised you’ve referenced retained earnings which are carried over year to year, and while the 300 billion seems large, it’s only 22 billion of actual new contributions over the previous year. Are you suggesting that a corporation or individual do not maintain an emergency fund? Based on what guidelines do you evaluate what is sufficient? You mention that Exxon is primarily an oil company and that oil has a limited life left yet you want to deny keeping emergency funds?

Comments are closed.