The Price of Oil: If it's Broken, Why Not Fix It?

This is a guest post by Dan Badger, whose Oil Drum name is badgerd. Dan has worked as a policy analyst at the US Department of Energy and at the IEA. He is currently involved with independent power and renewable energy projects in Europe, working for Babcock and Brown in London.

The price of oil is too important to be left to market forces. Since the early 1970s, the world oil market has repeatedly failed to send price signals that allocate economic resources efficiently. Governments of oil-importing nations should correct this market failure by fixing oil prices in internal markets at target levels high enough to set in motion technological and structural changes in the way their economies use oil and gas, while incentivizing increased domestic production. The result will be steadily declining imports, and greatly increased certainty for decision-makers in the internal oil and gas markets. The policy tool for achieving this is simple: an excise tax on oil imports equal to the difference between the target price and the prevailing world market price. For political reasons, it would be expedient to combine this with a windfall revenue tax to confiscate domestic producer revenue above the target price.

What Is Broken

Unlike democracy, the free market is not an end in itself, but a means to achieving economic efficiency. When a market fails to do this, as many often do, it must be fixed by government. The whipsaw prices generated by oil market forces between July 2007 and December 2008 have drowned out with noise any meaningful signals that prices may be trying to send to guide decisions by individuals and businesses about what to consume and how to invest. And it is not only short-term prices that are being whipped. Here is how the futures market priced crude oil for delivery in July 2012 at different times over the last 20 months:

July 2007 $ 65/bbl
January 2008 $ 87/bbl
July 2008 $141/bbl
February 2009 $ 64/bbl

Nor is it not only in oil futures markets that long-term forward curves move up and down in lock-step with “next-month” prices. The long-term oil price predictions of economists in oil companies, banks and prestigious energy-consulting companies all fluctuate in response to short-term fluctuations (and generally in concert with each other).

The lead-times between decisions and consequences for the stock of capital that produces and consumes energy are between 3 and 10 years. When long-term oil prices rise by 215% and then retreat to their original level over a period of 20 months, how can these price signals possibly lead to efficient decision-making and resource allocation? These volatile signals confound decision-making by oil and gas producers, consumers, manufacturers of energy-using technology, electric power producers, developers of alternative energy projects and technology, and bank financiers to all of the above. Market forces have produced destabilizing transfers of wealth from importers to exporters, with damaging political consequences in many importing countries, and with troubling geopolitical consequences in some exporting countries. And 2007-8 is only the most recent episode in a pattern of market failure since the early 1970s.

How to Fix It

To correct the market’s chronic failure to price oil efficiently, governments of oil-importing nations should fix the price in internal markets using a simple policy tool: an excise tax on oil imports equal to the difference between a target price that each government would choose and the prevailing world market price. Where imports are the marginal source of supply to a market, the price of imports sets the price for all production and consumption within that market. The oil excise tax will therefore fix a floor price for oil, and guarantee that producers and consumers in the internal market will never face a price less than that floor price. The stable pricing environment that results will enable the rational decision-making that the market fails to provide when left to its own devices.

The target price should be high enough to set in motion technological and structural changes in the way economies use oil and gas, while incentivizing increased domestic production. However, the target should not be so high as to have a meaningful braking effect on economies. The evidence of the last 18 months suggests that such a target lies in the range of $80-100/bbl. However, to smooth adjustment paths, it would be wise to begin with a $50/bbl target, and to increase this annually to reach the $80-100/bbl range after five years.

The higher price – and the elimination of uncertainty as to the long-term evolution of prices -- will cause market participants to make decisions with long-term effect to reduce domestic consumption, boost domestic production, and reduce imports. For the USA, a target price of $50/bbl in 2009 rising to $90/bbl by 2014 could easily result in 10% less consumption and 10% more domestic production compared to a “do-nothing” scenario in which American consumers and producers are left to guess how long it will take for the market to strengthen and begin lifting prices above the current range of $30-40/bbl. The result of a 10%/10% response to an excise tax would be 2.5 million b/d less in 2014. At a world price of $40/bbl, this would mean $36 billion less US consumer wealth transferred to oil exporters annually. If in the “do-nothing” scenario exporters would have managed by 2014 to increase the price to their target of $80/bbl, the wealth kept at home as a result of the excise tax would be $72 billion annually. And if the domestic consumption or production responses to the target price are greater than 10%/10%, the saved domestic wealth would be commensurately greater.

At the same time that the excise tax avoids wealth transfer out of a country, it would transfer wealth from oil and gas consumers to producers and taxpayers within the country. The relative gains and losses would depend on the country’s domestic production as a percentage of its consumption, and tax rates. For the USA, where domestic oil and gas production currently represents around 50% of consumption on a value-weighted basis, a target internal price of $50/bbl in 2009 would transfer $23 billion annually from consumers to US oil producers, and perhaps another $ 5 billion annually to US gas producers. It would also transfer approximately $47 billion annually from oil and gas consumers to taxpayers, assuming other taxes are reduced by equivalent amounts so that the net effect of the excise tax is neutral. By 2014, assuming the 10%/10% response in consumption and production, and a world price of $80/bbl, a target domestic price of $90/bbl would transfer around $25 billion annually from US oil gas consumers to US producers, and $45 billion annually from US consumers to US taxpayers.

For political reasons (the strength of which will depend on the share of domestic production in supplying each domestic market), it may be expedient to combine the excise tax on imports with a tax to confiscate domestic producer revenues above the target price. This ”windfall revenue” tax is neither necessary nor detrimental to achieving the economic security objective of the excise tax. However, most would agree that confiscating domestic producers’ revenue above the target price would be an appropriate quid pro quo for guaranteeing that it will never be less than the target price.

Some Bad Reasons Why This Is Not a Good Idea

1. No politician or bureaucrat can know what the "right price" is for anything. Only the market can determine this.

Markets only find the right price in text-books. Adam Smith explained how the “invisible hand” produced prices that allocated resources efficiently in the markets for food and clothing in 18th century Europe. But it has been apparent since the 19th century that markets for capital, for example, cannot be efficient without strict regulation. So why should we be surprised to learn that 20th and 21st century markets for energy fail to allocate resources efficiently?

Nor is the extensive body of academic literature devoted to the question of the efficient long-run price of oil very helpful for policy-making. The rules prescribed by that literature (e.g. [Hotelling]) produce prices very different from those we find in the market, so it is tempting to believe they might be useful for policy-makers. But these rules depend on the usual abstractions (e.g. the assumption of “perfect knowledge”) and ignore a variety of “externalities” that policy-makers must consider. In reality, there is no single "right price" for oil. However, given where we are today, what we can say with some confidence is that any price high enough to set in motion technological and structural change in the way our economies use oil, but not so high as to cause short-term damage, is a right price.

2. By setting a target price higher than the market price, we merely invite exporters to raise the market price to the target price.

If you believe this, you don’t understand how the world oil market works. Oil exporters (OPEC, Russia, and other fellow-travelers) have their own target price, which is now reportedly between $60 and $80/bbl. But they are currently struggling to achieve the cohesion needed to shut in production sufficiently to achieve this target. The import excise tax we propose would make it still harder for the exporters to achieve their target because it will reduce demand for their exports. Exporters will not see our target prices as an invitation, but as a challenge. In order to raise their market price to match our target price, exporters will have to demonstrate more cohesion – and accept more sacrifice -- than would be necessary to control the price of oil if we simply leave the world market to its own devices (and those of the exporters).

3. The “free-rider” problem: importing nations who choose not to raise the internal price will enjoy the benefit of the lower world market price, thereby gaining a comparative advantage over nations who do choose to raise the internal price.

Oil importers who decide to ride free in this way will gain a short-term comparative advantage, and many will choose to do so (e.g. China, India, Brazil). But this is not the kind of game in which no-one wins unless everyone plays. There are good reasons for countries to choose long-term economic security over insecurity, even if their neighbours do not. The oil price spike of 2007-8 was far more destabilizing in the USA both economically and politically than in the EU. This was because EU countries have always taxed oil consumption much more than the USA, giving rise to denser patterns of habitation, higher reliance on public transportation, a more fuel-efficient vehicle fleet and a much lower oil-intensity of economies compared to the USA. But few in the EU see their higher internal energy prices as a “comparative disadvantage.”

4. With America diving into the worst economic downturn since the 1930s, this is not the time to hit the struggling American consumer with massive energy price hikes.

Using the assumptions described above, around 60 % of the wealth extracted from USA oil and gas consumers would in the short term be transfered to taxpayers, so the impact on economic activity would be neutral to a first approximation. The remaining 40% of the wealth transfer would be to domestic producers who, in response to long-term certainty of higher prices, can be expected to invest this revenue in exploration and production, stimulating the economy. And if policy-makers see evidence that producers are returning an extraordinary share of the revenue to shareholders rather than investing in exploration and production, supplemental income tax levies on oil and gas producers would be justified.

I respectfully believe that your Bad Idea #1 needs more consideration.
I don't think the reality would show that political processes do a better
job of determining optimum commodity pricing. The free markets can be
ridiculously distorted in the short term by greed and stupidity. They can
also be disconcertingly chaotic. But in the long run will do a better job
than any alternative. It's the age old question of who's the decider.

True free markets require some patience.

But in the long run will do a better job than any alternative.

I respectfully disagree; such a position is more of a ideological stance than one that has been reflected in experience. The lifting of regulations that had been in place since the Great Depression is merely one example that argues against your assertion.

If George Bush or a similar crony was thrust back into the Imperial Presidency
in four years or less would you want him to be the price setter. I understand that
you want oil prices at a certain point for a good reason and you want them there
now. But you need a little patience. Take a longer viewpoint.

Setting a floor intrinsically takes a longer viewpoint, as it begins concrete signals that the markets can respond to, instead of waiting years until discontinued new development results in more crushing price spikes after a long period of low prices. Continued "patience" after decades with a broken oil pricing system is now comparable to ignoring flashing alarms in a nuclear plant control room; I am not entranced by the "pure free market" mantra that ignores proactive measures with respect to ultimate resource constraints, and I'm surprised that you would think that many here would.

It's just a disagreement. Thank you for thoughtful well written responses.
It's all a work in progress but believe me what many think is not a concern.
Sometimes that changes in a heartbeat.

the problem with in the long run type arguments is the last guy to get it wrong isn't proved wrong until its game over. oscillations between market force and command control is a common factor in our history.. who gets the laugh laugh? therw was a post by galacticsurfer the other day which hit the proverbial nail on the head..

I think there are counter intuitive solutions in what to do about the oil price. One being that the lower price while making oil cheaper and discouraging alternative energy production does mean that the oil is likely to stay in the ground longer as the oils real value as measured by how much it cost to get out of the ground causes production to decline.. which is conservation by virtue of market stupidity and perhaps economic chaos.

which on reflection is not such a ideal solution.. you have a big balloon to squeeze and where ever you press somewhere else it pops out.

to me the solution is rationing because then the price is largley irrelevant.. the price never addressed depletion in the first place back in 18 hundred and whatever.

if we are going command economy go the whole hog I say

the oils real value as measured by how much it cost to get out of the ground

Therein lies the flaw in free markets as presently constituted. Its like saying that the true worth of a bushel of wheat is merely the cost of harvesting it and transporting it to market. It's not, it's that PLUS the cost of replacing it in a sustainable manner, forever. Way too much oil is today showing up on markets simply at the cost of pumping known reserves, and consumers need to be clearly told that's not the correct price. Unfettered markets, by definition, will revert to selling a commodity at simply its marginal cost of shipping given a 1% surplus of supply, regardless of tomorrows likely shortages. That needs to be fixed, and I think the article does a fair job at starting the discussion.

You should quit using this misconceived "free markets" notion.

The behavior of individuals, governments and corporations with regards to consumption of non-renewable resources is the issue, not what's going on in any market. That behavior is not significantly different than it was in the USSR for instance.

The article is not proposing a non-market alternative. It just talks about taxes and governments. This is hardly remarkable as most markets owe their existence to governments and taxes.
The article is not addressing the non-renewable nature of oil either. Instead, the proposal is manifestly designed to deplete US resources faster (and non-US resources a bit slower).

Bob, you are way too polite.

"The price of oil is too important to be left to market forces."

Spoken like a true clueless bureaucrat! This economic idiot needs to check out what has happen in every socialist country when the government starts fixing prices on commodities. Chavez currently believes the price of rice is too important to be left in market forces at the moment. Check it out and see what has happen to other staples since he has taken over. The Soviet Union is another classic example. Russia went from a country that exported wheat to one with chronic bread and flour shortages complete with long lines and rationing after the revolution. I guess this guy believes rent control causes more rental units to be built and the check in the mail, too.

It is also interesting to note that both China and India, two oil importing countries, believe oil is too important to be left to market forces, too. The their governments believe gasoline, diesel, and kerosene should be priced considerably below the market.

Spoken like a true clueless bureaucrat! This economic idiot needs...

The combination of bombastic attack and lack of thoughtful rationale consign 'points' like this to the virtual circular file. And don't confuse setting floor = price fixing; there is no ceiling, just a floor where the difference offsets income tax.

I learn best with an mindset of moderate disagreeableness tempered
by at least an attempt to be polite. Not always successful.

But isn't capital God and the Free Market the chosen path?
A plundered and diminished planet wants to know.

From reading your posts, maybe you would like to nominate a deluded romantic version of a collectivist ideal as God and central planning as the chosen path?

A plundered and diminished planet [referering in this instance to the eco friendly Soviets] wants to know.

True free markets require some patience

It certainly does. There is only one truly free market, the one that natural selection plays out in.

Free market purists always assume some set of a priori conditions for the beginning point of the free market. Legal protection of private property is certainly one form of government interference all free market advocates insist upon. From that point it goes like the old joke,
"Would you sleep with me for $100,000,000?"
"Sure"
"How about for $10?"'
"How dare you! What do you think I am?"
"We already established what you are now we are merely negotiating a price."

Some government rules are required for the purest of free market scenarios. Once you have some government interference all other decisions are merely about the necessary degree of that interference.

Once 'free marketers' realize this they can no longer take some kind of religious moral high ground, and real negotiations can begin. The real free market is out there and what decisions we now make will determine if we have a long term survival strategy or just show up as a smudge in a silt layer.

I must run and burn some oil now, but be while this article is still hot here is a thought

Graduated transport fuel tax.

I'll elaborate in a bit.

Excellent!

Bob,
I don't think there is any meaningful long-term/short-term distinction to be made here. Since 1972 when the price was $3/bbl in money of the day, has the international oil market established any discernible long-term price trend? I don't think so. I think this market has been just as chaotic in the long-term as in the short term. This "invisible hand" decider needs to be retired and replaced by the visible hand of government. No apologies.

Badgerd
Thanks for your efforts. That's where anything has to start.
I will definitely read through your thoughts again.

I'm sure there are things I missed and things that can be looked at from
different angles.

If we assume peak oil is real, today market is not free at all. All politicians, media and some big producers scream: oil is plentiful, there is more than enough. If there is such manipulation, the market is not free. Ironically, that's exactly what fueled price spike last year.
On the other side, despite surplus of oil, the price has not fallen to low levels usually associated with such imbalance. Please also note the rebound in dollar value, which makes this price higher than it looks from US for big part of the world.

Thanks for some interesting ideas!

In the post you talk about setting the floor price at $50 a barrel. I suppose when you wrote this post, oil was at something like $40 a barrel.

MIght not a higher price, like $60 immediately, make sense? It is hard to see that $50 makes sufficient inroads in getting to the higher prices that are needed to maintain production. We have had very low prices recently, but it seems like at least part of the low price has related to a problem with Cushing being close to full, and WTI trading below Brent as a result. This problem may be temporary in nature.

Since oil production in the U.S. peaked in the 1970s and since we are still on a downward slope with little help from the last bout of high prices, are we really going to be able to "maintain production" to any significant extent, even assuming we can establish a floor for prices? And what guarantees that the oil companies will use the extra billions to do exploration, development, and production?

Peak oil will be a reality regardless of the incentive. Would it not be better, if government is involved, to project a downward curve of domestic oil production and provide incentives, including direct investment, to encourage alternatives to oil, a dwindling resource?

Further, I believe that oil companies try to use conservative assumptions about oil prices when making their investment decisions. To do otherwise, would be financially foolhardy. Given declining domestic oil resources, it does not make sense to provide them incentives to deplete those resources even faster.

Tax oil and other fossil fuels through direct taxation and cap and trade. But don't use the proceeds to encourage further exploration. Use the proceeds to encourage alternatives in fuel and living arrangements, including dealing with greenhouse gases.

Gail,
I would start the 5-year price ramp as high as politically possible. But the certainty that we will be paying above $100/bbl five years from now come-what-may is more important than smacking consumers with something higher than today's price today.

an excise tax on oil imports equal to the difference between a target price that each government would choose and the prevailing world market price.

While realizing we do need higher oil prices to incentivize conservation and alternative transportation choices, I've had doubts about this approach in the past. I'm now more convinced it is needed, even if producers explore and develop less due to a lowering of demand. A steady lowering of production levels (a sure bet anyway) will likely bump the price above the floor, though helps to stablize the market, removing any wild swings downward. And if the tax receipts replace income tax, there is no overall impact on the citizenry. Indeed, those who are smart about conserving will have low transportation costs and lower income tax. Who can argue with that (besides those who are not smart about conserving)?

I'm with Gail; I believe a higher price immediately will set a proper tone from here on out. Indeed, a price of $80/bbl with a 75% excise tax on the difference will keep some of the 'market signal' in for those who believe it is truly important.

...And if the tax receipts replace income tax, there is no overall impact on the citizenry. Indeed, those who are smart about conserving will have low transportation costs and lower income tax. Who can argue with that (besides those who are not smart about conserving)?

Offsetting a excise/floor tax increase with an income tax rate decrease is problematic. With no firm knowledge of the world price or domestic demand response, estimating tax receipts would be virtually impossible. How much do you drop the income tax rates to offset the increase? Too little and the taxpayer is paying more in taxes. To much and the government loses revenues and has to reduce services (or borrow more, which comes back to the taxpayer). Revenue neutrality is tough with these differing tax bases.

Other options/issues:

- In countries with national sales tax/consumption tax, you could reduce existing sales tax correspondingly. In theory, since energy is in input to virtually everything, this would help to offset the overall inflationary aspects of such a price floor tax.

- In countries without such a consumption tax, it seems much more difficult. If your primary tax base is payroll-based, how do you fairly offset this additional tax in a revenue neutral way?

You could return the increased tax revenues to the taxpayers, but, which taxpayers? Only to people who pay income taxes? That would be highly regressive since the cost of higher energy will be born throughout the economy. You could write a check to every citizen, but the logistics of that are tricky and bring up all manner of social/demographic fairness issues. This would probably end up being regressive to some degree as well.

You could subsidize some kind of positive technology (clean energy, etc.) or behavior (conservation, education, etc.) with the new revenues. Of course, this only benefits those able/willing to participate in such things, so everybody pays but only people who buy solar or wind (for example) or who attend public schools get the offsetting benefit.

These are hard sells, politically.

Personally, here in the US, I think I would go with dropping the income tax altogether and moving to a consumption-based tax system, with appropriately aimed additional "sin" taxes on the things whose use we (as a society) don't want to encourage (gas tax, carbon tax, etc.). Once you do this, you have a lot more flexibility in making targeted tax increase revenue neutral. Of course, such a tax system is regressive and would be opposed by many people (but also supported by many).

I see no "perfect" solutions.

So, given the current tax system in the US, any ideas on how one would effectively craft an offsetting tax decrease (of whatever kind) to allow this sort of excise/floor plan to actually be revenue neutral?

Brian

How much do you drop the income tax rates to offset the increase? Too little and the taxpayer is paying more in taxes. To much and the government loses revenues and has to reduce services (or borrow more, which comes back to the taxpayer)

Good points, though these can be turned around again.

1. If more oil tax is collected than income tax cut, reduce the national debt.
2. If less oil tax is collected than income tax cut, make up next year with less income tax cut.

A full shift to consumption tax, though as you say it is regressive; the poorest who pay little or no tax now would be the hardest hit, though taking mass transit should blunt this, especially if they are issued mass transit credits.

Will, I agree the consumption tax would be best if it were not too blunt an instrument. As you have suggested replacing the income tax with the fuel tax I will elaborate on my suggestion 'the graduated transport fuel tax.' It could be expanded to other types of fuel but this would have the most bang for the buck at the outset.

Though it would be anything but simple it would be incredibly adjustable. Of course proper adjustments would required which puts a heck a devil in the details, not the least of which is determining the desired outcomes to begin with. Yes I know that is what markets portend to work out, but we don't look to have the time frame needed to let the market work out our energy situation, and we very likely won't like the outcome it will give us. In the bigger picture government is part of the market, governments rise and fall with their success in meeting their citizen's needs in the long haul.

Roughly,

Consumption targets would be set for individuals and other transport entities. The consuming unit would have the lowest tax rate for consumption below a set level and the rate would increase as consumption per time period (maybe monthly) increased. In order to buy fuel an individual would first have to insert a fuel card into the pump, the overall fuel price taking into account the consumption level would then be calculated. Fuel could be purchased for cash but only at the highest tax rate for that class fuel user. Bulk users would have comparable systems.

Different classes of carriers would have different tax rate structures with public transport possibly getting a credit each time it purchased fuel-depending on where the untaxed fuel price was relative to the floor price. Public transit riders could get fuel tax credits on their fuel card every time they road public transit. Air travel could be worked into the system and rates could be adjusted to allow a small amount of discretionary air travel and while making travel by private jet extravagantly expensive ($100,000/ gallon could be a top tax rate that would discourage private jet travel by all but the most extravagantly rich).

The tax rate mix would be used to both set a floor price and to effectively ration fuel use. Car pooling would likely jump right out of a system where each consumer has a certain number of gallons at minimum tax rate. Four or five car poolers have four or five times the gallons at the lowest tax rate.

A tax credit to domestic producers to bring their price up to the target floor price would be part of the system, this could very easily morph from tax credit to tax after certain price levels.

Certainly a graduated transport fuel tax would be complex, but we are not afraid of complex taxes in this country. As long as consumption and production targets were integral to the tax rate structure it could be formulated effectively. Having it replace income tax would make it more complex but possibly more palatable as well. Even as an independent tax it would be a much easier sell than rationing per se and an extremely high top rate would allow the very rich to transfer as much of their private wealth to the public sector as they wished if they did not wish to curtail their transport fuel use.

Things like fuel card markets (between high and low fuel users) might emerge and would have to be accounted for in the rate structure. Black market fuel might be more prevalent (tankers best have multiple types of trackers embedded in them).

Any tax administration brings its own set of inefficiencies and likely a whole new branch of the private sector tax industry would appear with the new type of tax. Still a tunable instrument may well be the best tax instrument, and the graduated transport fuel tax could be very finely tuned. And of course just like with income tax, states could have their own fuel tax system piggybacked on the national system that could be used to adjust or tune the effect of the federal system.

Fuel not used for transport would still need some system to give it a floor price until a the graduated fuel tax was expanded to include all fuel sources. Making higher usage more expensive is critical to getting real conservation in all parts of the system implemented, a graduated tax system with higher consumption taxed at a higher rate will be far more effective than any flat rate consumption tax could be.

A morass yes, but it one that has the potential to bring extremely desirable outcomes. Without some well focused effective tools to force conservation and efficiency the chances of anything approaching a desirable outcome rapidly approach zero.

The price floor part of the above tax proposal (I have been toying with some sort of fuel tax proposal since Eun's Obama letter, where I indicated how tough a sell it would be) was only added after reading Dan's key post. The floor seemed like a good way to try and even things out, albeit a very difficult piece of the puzzle to get right. After reading the rest of the posts I'm not so sure that the graduated fuel tax shouldn't just be a straight consumption tax with all references to a floor mechanism removed. We seem to at the very least to need that.

You tax proposal seems overly complicated and could indeed stand some streamlining.
But the floor aspect works differently with a consumption tax than a tariff. The floor is less objectionable when it's implemented with a consumption tax (in my opinion). Your tax (with a floor mechanism) would probably have the stabilizing effect you're looking for in the long run while I fear the tariff would be disruptive. That's because your tax would stabilize the underlying demand instead of tweaking the oil market. In other words, your tax would work with the market, not against it.
It's easier to sell the tariff as an "energy security" policy though. US producers would love it in any case... but don't expect them to support a consumption tax!

I thought trying to get at stability from the consumption side would be more effective, but selling that to anyone...I don't have a clue what it would take. I started with a complex tax proposal because if anything like it ever worked its way through Congress it would look far more convoluted than what I could sketch. Just trying to paint what I thought was at least a possible picture, but like I said I haven't a clue what events could actually produce such a thing.

Do you think Rockman's objections to a floor because of all the ridiculous loans for poor drilling prospects it could generate would be any less valid when the floor was part of a consumption tax scheme?

When you tax consumption you're not increasing the price of crude so it's not an issue. Such a tax would actually discourage drilling.

I meant the tax credits (funded by the consumption tax) that would be given to domestic producers to maintain the their prices at the floor (when world market prices were below floor) that would guarantee continued production investment. I guess that could be solved since tax credits only would only be paid out on oil produced, but a floor is a floor and it would seem any type of floor could have the same triggering effect on bad investments.

I guess it depends on the implementation. I had thought the credit would just bring their profits tax down, not compensate for losses on the bad years. I would assume the investment incentive from that would be limited as risk is not removed.
In any case, a tax credit would not put a floor on prices. It just makes the business more profitable.
I'm not crazy about this credit anyway. I think the consumption tax stands on its own.

Thanks for all the input H.

You are probably right a consumption tax should stand on its own...unless a proper one was coming near fruition but needed domestic oil producer support to pass (strong lobby). Then including some sort of tax credit system (no profits are required for tax credits so the range of possible designs is large) might be what it took to get the producers on board and the graduated fuel tax implemented.

Enough dream world, the chance of ever getting anything approaching the above is low and very well <0 in this economy, regardless of how much help such a creature would be to our attaining long term sustainability.

Reducing other taxes to offset an excise tax on oil would be counter productive. You are doing the equivalent of subsidizing gas prices to offset the planned increase in oil prices. This prevents the desired reduction in usage that the oil tax was designed to produce in the first place.
--
JimFive

Will,
Spot-on. The floor will not prevent upward price volatility, although it may delay and dampen the consequences when the day of reckoning. And thanks for underscoring that the fiscal impact on the citizenry need not be punitive. Some in these threads seem to believe that when the USG collects taxes, cash is simply stowed in the basement of the Treasury Department, impoverishing everyone. The proceeds from the excise tax can be used to fund tax relief or anything else government wants to do. Grover Norquist will not like it because it will make it harder to shrink government to the size of the bathtub in which he wants to drown it. The rest of us should recognize that for the forseeable future, government needs to do a lot more than it has ever done, and be pleased.

Why offset the excise tax with any decrease in income taxes? I'm not a economist, or financial guy, however it seems that any tax revenue received through the windfall tax and excise tax could fund renewable infrastructure and renewable and sustainable power generation facilities through subsidizing their construction, and offsetting their operational costs while traditional sources offer cheaper electricity to the market, as in the long run these facilities will become profitable on their own however maybe not in the short term.

If you don't offset the increase somehow, you destroy purchasing power.  Have you noticed what's behind the current economic contraction?

Offsetting the excise tax (a revenue-neutral tax shift) still changes incentives.  Let's take the "typical" driver who travels 12,000 miles a year in a 25 MPG vehicle, using 480 gal/year.  Let's give this driver a $1440 annual rebate while pumping up the price of gasoline $3/gallon.  If this driver had a net disposable income after basic expenses (including commuting) of $10,000, s/he could purchase another ~5000 gallons of gasoline today, but only ~2000 gallons of gasoline after the tax shift.  If an activity requires driving, other activities will be more attractive.  Living closer to work becomes more attractive (and frees the money to do it).  Trading an SUV for a Prius becomes more attractive.  Riding bicycles or taking the bus becomes more attractive.  You get the idea.

So what he is saying is, the huge oil price fluctuations have a cost to the economy, which are not accounted for in the current market. He is proposing to set a floor price to counteract this.

The question is, which costs the economy more, the large price fluctuations or set a floor price using tariffs? In another thread, I was asking Gail the Actuary about oil production fluctuations in her model. Has anybody looked at price fluctuations?

As I suggested in my little 'manifesto' to Obama, we probably have to set a floor on energy prices, but I recommended waiting 6 months or so to do it - because lower energy prices give us a clue as to which technologies are non-viable. Of course, the problem with many alternative energy sources is their flow rates are backloaded vis-a-vis oil and gas. If you invest in drilling a nat gas well, you get HUGE return in year one followed by 60%+ decline rate (then you just drill another one). Whereas when you build a wind turbine, your electricity flows are evenly spaced over 30 years. The market system rewards the former unfortunately. Renewable energy is fundamentally at odds with our current market system - it is an asset/liability mismatch with how we see the future (we being the markets).

If we are going to wait for either the government or the "market system"
we better pack a big lunch. People are going to have to learn to do what
they have to do. Screw the "biggies".

Look at this website itself and all the things being done here and elsewhere.
Things are happening. And they are going to start happening a lot faster.
Concentrate on that and the hell with the political lobbying.

political lobbying? Who said anything about that? The letter was written to Obama as opposed to BobGreasy so people would read it. I never expected him to read it but that others would learn from it, and start 'things happening' as you say.

In any case - I don't diagree with you.

I'm sorry if I said something out of line. But it is a comment board
and a commentor doesn't always have time to think things through.
Maybe that's part of the beauty of it.

Thoughtful responses are never out of style; I don't think many people see much "beauty" in responses with little thought behind them.

a bit of off the cuff action gets a few bias out in the open.. it's not all bad

Renewable energy and nuclear are fundamentally at odds with the credit crisis because however good the ERoEI, the EI is mostly up front and the ER is too far in the future. To put it the other way around: we can only build such front-loaded energy solutions relatively slowly, and in the mean time we all have to get used to being poor. However gas, as you describe it, is ideal for our straightened circumstances, even if the ERoEI is relatively poor. [We need to make ourselves even poorer in the short run by building as much as we can of that capital-intensive but long term cheap to run energy. That's our gift to the future: a small token compared to the destruction we bequeath.]

On the main subject. We actually need to get more money to the producers around the world, more than trying to squeeze more oil out of the US. The only way to put a floor under the world price is to buy oil below that price and stockpile it. The logical place to stockpile it is to leave it where it is and not pump it yet. So I wish OPEC well and we really need to get the producing and consuming nations together to manage the downslope.

Another excellent option!

A hefty oil consumption tax can actually be a “free lunch”.

Imposing a large ($3-$10) tax, starting at a low level and increasing over time, would effectively destroy demand. That would keep the price of imported oil low, meaning wealth stays in the country and investments will be made in less oil dependent transportation.

We must destroy demand or prices will skyrocket. Better to pay ourselves than OPEC.

Use the proceeds to pay off the national debt and to reduce income tax if anything is left over. Income tax is a disincentive to work, especially for two wage earner families.

Also, our national security would be greatly increased.

Paul_the_engineer -

I would agree with such a proposition in theory, but I just know that once the federal government gets its hands on that extra tax revenue, it's going to spend it on anything but paying off the national debt or reducing income tax. The more money flowing to the federal government, the more mischief.

Nevertheless, I agree that we need to do something about smoothing out short-term dislocations between oil supply and demand. The markets for oil and many other commodities appear to behave like a poorly designed control system, with a dangerous amount of 'dead time' between the time when a signal is received and when that signal is converted into a corrective response. Sort of like using a thermometer at the end of the bathtub opposite the faucets to tell you when to add more or less hot or cold water water..... you never quite get it right and will always be either too hot or too cold.

What do you think our "friends" the oil exporters (Hugo Chavez, the KGB run government of Russia, etc.) are going to do with the money?

If they ever come to believe you're actualy doing something for them, rather than sending in assasination teams, destab orgs, and (anti-hehe)-missile installations, they may actually become your friends.

The rest of the world forgets that the US is the reason why they weren't exterminated or at least made into slave laborers by the Nazis or the Japanese. Read history my friend.

If the US was guilty of anything in the past it was from not getting involved until it was almost too late. If anything ever happens that keeps the US from keeping peace in the world, there will be atrocities on a scale never seen before. Again, history is witness.

Hugo Chavez has benefited a lot from the USA.  We buy his product, we refine his black sludge into salable commodities.  We even have an electric powerplant (Wabash River) that buys his refinery dregs that nobody else wants.  He's had plenty of opportunities to align himself with us instead of interests that really don't do anything for him (Cuba isn't a customer, it's a competitor now).

You have to stop viewing everything in the world as the result of some action by the USA.

I respectfully disagree, the markets are working just fine, thank you very much.

Government policy? Are you kidding!? AIG. Citigroup. Enron. Freddie Mac. LTCM. Bear- Stearns. Bank of America. Fannie Mae. Lehman Brothers. Goldman- Sachs. The Defense Department.

Who, again is going to decide what is 'efficient'?

What is 'efficient', anyway? Since WWII the 'efficiency' goal has been to maximise use/consumption regardless of consequences. What is the new goal?

If the goal is quash demand and nothing else, setting high prices by tazation or other means will succeed. Prices are low because there is more than adequate supply available relative to demand. The demand sector (auto and house industries) are failing on account of their own 'efficiencies'. Demand auto- quashing is also working just fine.

Energy prices are expensive to those who are out of work.

Raising prices today (or tomorrow) will not divert capital to alternative energy investments; the capital isn't sloshing around waiting to be diverted. Raising energy prices will divert any money not spent into repaying other debts.

'Capital' is accumulated wages earned less expenses. This capital is a rumor, it hasn't existed in decades. The current mess is the result of underpaid employees competing with unskilled undocumented immigrants or with overseas workers. Nobody has any money. A shrinking few can get credit ... but who wants it? How is it to be paid back? There simply is no capital and with unemployment skyrocketing, the chance for capital reformation is slipping away.

Substituting debt for capital has been the strategy of the past twenty- eight years. The result; bad investments and bad debt. Directing streams of bad debt capital into terrible investments has been very efficient; our crisis is the result. The government's solution is for more government lending to substitute for more private lending.

If the government lends on one hand and taxes the same funds with the other ... what's the point?

Another unintended consequence of raising taxes is that people will hoard cash. The cash dollar is decoupling from the credit that it is denominated in; credit is valued in the marketplace @ deflationary negative rates. The effect of huge increases of fiat debt emitted by the government is devaluing debt, including the money charges that are a part of every good or service made or sold in the USA. The surplus of credit simply drives the price of it lower. Cash is hoarded more and that drives prices lower still, in a virtuous - or vicious- cycle.

If the government wants to get energy prices to rise a bit and encourage conservation the strategy is to eliminate the bailouts and Fed lending facilities and then hire the unemployed directly, paying them each with cash.

If the government needs to tax something, let it tax derivatives.

Since WWII the 'efficiency' goal has been to maximise use/consumption regardless of consequences. What is the new goal?

Reducing petroleum consumption. And this has been a goal during two previous administrations, though was jettisoned by the subsequent Presidents. We are now in the final oil crisis, so any candidate promising oil abundance will be viewed with doubtfulness.

"Raising prices today (or tomorrow) will not divert capital to alternative energy investments; the capital isn't sloshing around waiting to be diverted. Raising energy prices will divert any money not spent into repaying other debts."

Steve,
As an "alternative energy investment banker" I can assure you that there is plenty of capital sniffing around to invest in alternative energy. If you are not familiar with the "feed-in tariff versus renewable portfolio standard" debate, hear this: where governments fix the price ("feed-in tariffs") at which alternative energy will be remunerated over long periods of time, massive amounts of capital flow to alternative energy production projects. The QED will be found in the history of alternative energy production in Denmark, Germany and the Netherlands. Where governments have opted for "renewable portfolio standards" (UK, USA, Italy) the flows have been less impressive. There is plenty of money, looking for price certainty.

As an "alternative energy investment banker" I can assure you that there is plenty of capital sniffing around to invest in alternative energy.

What is the source of that capital?

Is it corporate profits? I doubt it, the only company that is making money in America these days is Walmart. Oops, laundered debt.

Is it large private equity or investment concerns; Venture capital or Berkshire Hathaway? They are shrinking, too, the VC's business is bringing forward IPO's - an activity that has vanished - and Warren Buffett has turned up the 'Old Geezer' knob on his brain box. Now, Buffett's been around long enough to have accumulated some earned income. The rest is laundered debt.

How about small business? Every small business owner I read about or know or hear from is complaining - not bitterly - but fearfully. Any business in retail is at that existential point; 80% off or close now! With retail being 70% of GDP, there is no profit in small business to agreggate into capital. No laundered debt buy nothing much of anything else.

This crisis started at the bottom of the economic food chain and the pitiful inhabitants thereof are suffering. The choice is made: to buy food or buy clothes. You know all this, it's everywhere all around; media, news reports, internet. I don't even have to provide links, anyone can. Walk out the door in any direction and see the signs.

So ... where does this capital come from? If it's left- over capital from the equities boom or real estate it's laundered debt. Here's a capital flow:

Fed open market activity >>> bank reserve lending (or margin lending or currency exchange/carry trade 'lending') >>> speculation with these funds (equities or high- yield debt or derivatives) >>> less costs leaves 'residual' capital >>> added to government subsidy 'taxed' from end- users added to residual capital >>> mandated higher prices for 'investment' in alternative energy or whatever 'public benefit' some business lobbyist dreams up >>> funds from ratepayers/customers are added to 'money supply' after 'management fees' are subtracted >>> to banks for more reserve lending, closing the cycle.

Ah, the good old days! Have a cigar?

The reserve lending mechanism is completely in the toilet, along with the various carry trades and margin lending. The speculations are failing spectacularly; what is happening now is the 'ground preparing event' the real unwind is yet to start (2010). Any residual capital has to be decoupled from any up- market speculations or the loans that make up that capital will be called. This leaves capital coming directly from governments either as guarantees or as 'liquidity' from central bank 'facilities'.

That is question number one, where does this capital come from? If it's government credit or laundered government credit, it's losing value by the minute; deflation is increasing its real cost.

Question number two is, why wait for the US government to import Netherlands' and Germany's corporate welfare program? Why not invest now?

Trick question, I already know the answer; you would lose your entire investment. The investment of the 'now' is ... as Nasim Taleb put it on CNBC, "between one hundred and two hundred percent in cash".

http://www.youtube.com/watch?v=uX4P6I-7JTI

The various 'dueling subsidies' where one form of energy production's subsidies compete with another energy source's subsidy schedule is made obsolete by deflation. The new program will have all prices decline and the embedded debt stripped from the pricing structure. Doug Noland ha questioned whether deleveraging will take the prices to the 1980's level of the August, 1971. When the debt is gone, the relative returns on different forms of energy production can be measured without the distortions that arise from it, as well as the fees and subsides.

Ouch!

Who is going to set the "right" fixed price? Please don't confuse volatile prices with a broken market. The physical oil market was very tight last year just before the credit crunch and prices correctly reflected this. The price of oil reflects a fair and free negotiation between a willing buyer and seller taking into account all known information. Shortages and lack of innovation inevitably result for any good when a fixed price is set. What if prices need to be $250 per barrel in 2 years time and there is a shortage because of the market has been fixed at the "correct" $80 per barrel price?

Whatever the "correct price" for oil is, it should be a lot higher than today's.

One barrel of oil is equivalent to the human work output of 12.5 years of hard labor at 40 hours a week. (I did not confirm this, however I once calculated one killowatt-hour as being the equivalent of climbing a three mile staircase.)

Historically, there is nothing so cheap as human labor. Two billion people now live on one dollar per day. Thorughout history this has been the case, except that the percentage of the population living in such conditions was higher.

I can not let this falacious comparison of things that are different pass without comment.

Clearly the work oil performs has no intellectual or skill content.
It is placed in an engine or whatever and the work that comes out is pretty simple albeit powerful.

That is not the case with human labor. Even the most simple jobs require more skill than an engine. Just showing up for work and following instructions would cause an engine to fail at human labor.

The more appropriate comparison although still fallacious is animal labor such as horses which the Amish use to pull buggies and do farm work for example. Even the horse comparison is fallacious because it to has more skill than an engine burning oil. But the horse is orders of magnitude cheaper that even the cheapest human labor.

The comparison of work performed by oil and human labor in order to put a value on oil is totally bogus. Things that are different can not be compared, added, subtracted, multiplied or divided. It they are anyway the result is silly nonsense.

The comparison says more about the person making it than anything else. It suggests s/he thinks that the value of human ingenuity is zero. But a barrel of oil is never going to invent something.

"But the horse is orders of magnitude cheaper that even the cheapest human labor."

1711: Newcomen installs his first commercial engine, replacing a team of 500 horses (This was for pumping water from an English coal mine).

Note: The Watt steam engine that replaced the Newcomen engine was about 75% more efficient.

Few of us appreciate our invisible "energy servants" as they work continuously benhind the scenes to provide our miraculous standard of living.

I would also point out that in the late 1800's oil clearly made a direct substitute for a lot of whale hunting humans, and firewood-cutting humans. No analogy is perfect, and this one is not bad.

What if prices need to be $250 per barrel in 2 years time and there is a shortage because of the market has been fixed at the "correct" $80 per barrel price?

1. We are talking about price floors, not ceilings.

2. If prices need to be $250 2 years from now, we will have lost the advantage of time, and will continue to reel from one energy price crisis to the next. We shouldn't ignore foresight, regardless of the inability to pick an absolutely precise decline rate and timeframe.

Then what if the price of oil needs to be $10 per barrel because demand has fallen and storage tanks are full? At the suggested "correct" $80 per barrel there would be a massive incentive to continue oil production with a large incentive to start building tank farms all over the world to store the oil produced at the "correct" $80 price. Floor or ceiling, no matter what you call it, the suggested "correct" $80 per barrel fixed price would be a huge distorion in the oil market having all sorts of unintended negative consequences.

At $10 a barrel, a majority of the current production would be unprofitable and shut down (as we are seeing with oil in the $35-$45 range). The thesis doesn't say that the $80 would go to the oil producer; the difference in current price and $80 would be rebated back to the consumer.

The term 'distortion' is thrown around alot today, but I see little that supports a rationale discussion of what such a 'distortion' is or why is would have any negative consequence whatsoever. Again, relying on economic theory that ignores the decade long timeframe cycle of oil field exploration/development and the inevitability of declining oil production is rightfully disregarded here.

Oil is a fantastic resource and to burn it is a waste. So if there is a collapse of the economy, then the remaining oil may have a chance of being around for awhile. All the neat things that chemistry provides society start with oil or coal. Just read the labels of all the things you purchase to get an idea.

If price is lower than the necessary floor and the difference just goes to the U. S. Treasury the producers will not have what they need to keep investing in future production. Tax collected on oil covering the gap between the floor and a lower price has to go to the producers to keep investments up. If we are only worried about domestic producers they would be the only ones getting the difference kicked back. This still doesn't solve the problems caused when the big exporters haven't ramped up their investments enough to bring new sources of oil on line because the prices have been too low to justify investment. When demand is back up the oil isn't there. There is no simple solution.

When demand is back up the oil isn't there.

The whole point is to drop demand permanently.

Thanks, your right, I should have stated that differently. The floor idea, I believe, is to eliminate the wild production swings as both the amount of oil and its use decline. Without the producers getting a floor price the swings could become very violent. The extra stress of violent price and supply swings for fossil fuels likely would make building a sustainable system that much more difficult.

Drake,
I accept that short-term volatility is not evidence of a broken market. My argument is that long-term volatility is. The oil market exhibits two kinds of long-term volatility. First, in the short term, the long-term price is volatile (as I have illustrated by quoting the movement of July 2012 futures prices during the most recent 18 months). Second, over the long term, the short-term price is volatile (I don't think I need to cite any evidence for this). The known information that buyers and sellers use to make bid/offer decisions in this market cannot possibly be based on long-term considerations. If it was, then how could the 2008 bid/offer for 2012 rise and fall by 200%? My proposal fixes a floor price, not a floor/ceiling price. If market forces push the free price above the floor price set by the escise tax, then everyone would pay the international market price. If that price is $250/bbl, that's what we would have to pay. My proposal would not prevent this, and would not therefore create a shortage.

Volatility, short term or long term, is not a problem. It is a clear sign of a healthy market able to quickly react to rapid changes in supply and demand. Every time I hear someone refer to government set fixed price "floors" or "ceilings" I think back to the lines for bread at GUM department store in Moscow just before the Soviet Union collapsed. There was a "correct" fixed floor price for bread. That "correct" floor price simply didn't provide any incentive for farmers to grow wheat or bakers to bother trying to satisfy demand. I appreciate and admire your goal - efficiency in consumption? - but will never accept anything other than a free market solution.

I think Drake made a good point although we have quite different perspectives.

Could you please explain why you think there should be long-term stability in oil prices? It's apparently obvious to you.

I think the right price is the price at which supply and demand are balanced. I also think that demand in particular is volatile and inelastic (at current prices anyway)... oil price volatility would necessarily follow.
In order to sustain an imbalance between supply and demand without enduring costly disruptions, you need storage. Therefore, the lack of storage available to buffer fluctuations in supply and demand rather than market capriciousness would explain the price volatility. The wild contango of the past few months has illustrated the dearth of storage.
The governments of the world have a lot of storage capacity (although they could certainly use more). But they're not using it to stabilize the price. Maybe that's what they should be doing.

The almighty market is not how governments historically balance shortages and surpluses. Government grain storage from good harvests to tide the popuplation over the lean years has a much longer and more impressive history of evening out supply and demand over time than our current couple century old market. If we can see a shortfall coming central (government) action is what will be required to store (conserve) what we have while new fuel/energy supplies (sustainable over long time frame) are built. The historical record indicates that is the proper action, the market could care less if we have a continued history. If on the other hand cheap energy supplies will be around without a substantial foreseeable shortfall, let the market rule.

If you have your car on cruise control do you hit the gas going up big hill or break going down a steep one when you can see beyond what your cruise control is reacting too or do you let cruise control retain control, speeding you over the edge of the turn a mile down the mountain. The market reacts to the very near term like cruise control, it can't see future problems. If the problems are real' and few here believe they are not, we best react to them before it is too late. Do we have the chance of misreacting and exacerbating the situation, yes. But if no action will most certainly bring disaster it is worth risk.

Your puzzling notions about "the market" have apparently caused you totally miss the point and to bark at the wrong tree.
I agree with the spirit of your tax proposal (stated in another post). I'm a commie (broadly speaking). I also have no car and no experience with cruise control.
None of this has anything to do with what Drake and I were saying about price volatility of course.

Your right I was a little off point and general there. Just trying to show the market might well not be able to see far enough ahead to fix things. I actually meant to reply to Drake. Your suggestion about governments increasing storage and using that to stabilize prices is interesting (my historical grain reference folds into that idea in an off the wall manner). It would appear more efficient if the oil were stored in its original reservoirs though. Pumping it out and shipping it to expensive storage facilities to pump it a couple of more times is energy intensive. Price controls would allow oil to stay in the ground if they worked. Problems, problems.

I will try a different volatility metaphor, since cruise control was a bust (cruise control on cars merely controls speed but on steep ascents and descents it tends to react too late, accelerating violently but late on the upgrade--this can really shoot you over the top before you have any vision of what the other side looks like--because it can't see the whole rise ahead and decelerating too late if at all on steep downslopes).

Metaphor 2: Autopilot runs our big complex aircraft most of the time. It often does a better job than human pilots and has mechanisms to see ahead, but when a plane flies into a storm , and its wings start to load with ice the autopilot misreads what is happenning to the plane. It overcorrects or flat moves control surfaces the wrong way because its sensors are misreading the situation and don't have a long enough view of what is actually happening. If the pilots wait too long to take control from autopilot, nothing they can do will keep the plane from coming down way too hard. Unfortunately this has happened recently and not for the first time.

If (and from what I have been reading lately this seems very possible) we are in situation where the market is misreading what is actually happening it will act much like an autopilot does as the wings ice up. It will overcorrect and sometimes move things in the opposite direction from what is required because it can't see the big picture well enough to allow the lead time needed for it to make proper corrections. The market will be able terminate its wild price fluctuations if left to itself, the iced up plane on autopilot quit climbing and diving...when it smashed into the ground.

The market is heavily loaded to the short term by the shear volume of transactions that react to the short term, foresight is not its strong suit.

Drake's statement that there was a 'correct' floor price for bread that didn't provide incentive to produce bread is just a cute contradiction of terms. Obviously the floor price wasn't correct. Establishing a floor price by trying to predict the price that will give the most desirable outcomes is hardly a easy task though.

Thanks for reading my tax proposal. It is scary to me, as I am not a great lover of government, but sometimes it is the best thing we have to work with. The potential for misuse or abuse of something like a graduated fuel tax is immense, but the need for radical action is more pressing by the minute.

You want a price control that keeps oil in the ground? You want a ceiling, not a floor.

OPEC is trying to stabilize prices by keeping oil in the ground as you suggest. It may indeed be the best way to go about it. They could probably use some help instead of the hostility they're getting from the likes of badgerd.

I am again puzzled by your musings about "the market". It looks like you believe it has some sort of predictive power (emergent property? magic?). Unsurprisingly, that invisible autopilot isn't working any better than the emperor's new clothes.
A more pragmatic view would be that the physical oil market participants do not give a damn about the distant future because, unlike gold for instance, it's not really practical to store large amounts of the stuff anywhere else than where it's been sitting for millions of years.

People are pumping oil like there's no tomorrow the world over. Some like the Saudis are a bit more reasonable than others, but not by much. People simply value getting money now or a revenue stream within the next 5 or 10 years more than conservation. No market is making people think like this. People did pretty much the same thing in the USSR and, as totoneila used to remind us, yeast does something similar as well.

I hadn't really considered a floor before readings Dan's key post (this one) and by the time I had finished reading your, Rockman's and a few other comments I wasn't so awful sure the floor could ever be worked out properly. However a ceiling would only keep oil in the ground if it was so low no one would pump any oil, (I wasn't suggesting we should keep all the oil in its reservoirs, merely that it would be cheaper to keep storage in the original reservoirs than in some expensive ones we maintained and had to pump oil in and out of) otherwise the only price control that I can envision that will keep some oil in the ground is one that keeps the price high enough to temper demand. A consumption tax does fit that bill.

I certainly didn't wish to imply the market was making people think in any way, rather that the way people generally think, heavily weighted to 'a bird in the hand,' is what makes the market a rather poor long term policy tool. That is why I had earlier brought in the grain reference as off the top of my head I seemed to remember government grain storage had regularly evened out recurrent several year long feast/famine cycles in the historical past. Government is of course as human an institution as is the commercial market but it could have capability for longer planning than the market, unfortunately, as Rockman pointed out, in practice government tends to plan for a term slightly shorter than the election cycle--not good.

The autopilot gets input on course, has regular radar and gps feeds and constantly monitors and adjusts all aspects of the planes handling but when it gets an overload of stimuli it reacts improperly because by design it constantly is to balancing very short run data and with instant corrections. In severe icing condition a pilot that can allow more lead time has to take the controls to avoid disaster. The fossil fuel crunch appears to be sending an overload of stimuli to the market. That seems a good reason to take oil price control from the market and its very short time frame data input and reaction cycle and give it to something with a longer term view of the situation.

Unfortunately the only entity we have that could possibly do this is government, which has showed a remarkable lack of anything but the most shortsighted capabitities (at least here in the U.S.) when it comes to energy policies in any past I can recall. I just am not ready to 'abandon all hope' as we enter here yet.

Note: A couple posts above I believe I mistakenly called an analogy a metaphor, it wouldn't be the first time, maybe it was more of a allegory, can't imagine ever getting those terms all pegged at this late date, anyhow a comparison of unlikes trying to point up similarities it was.

Price stability is not what I am prescribing. I am prescribing predictability. Predictability is a good thing because the more predictable the price, the less waste will result from the decisions that producers and consumers make. Here are a few examples: 1) between 1970 and 1973, several very large oil-fired powerplants (in the the 200-1000 MW range) came on stream around the world. By 1975, these plants were shut down, their oil-fired boilers were ripped out, and replaced with coal-fired boilers where possible, or decommissioned where impossible. Massive amounts of capital investment were "stranded" by the oil price increase of 1973-4; 2) in the 1990's, Detroit invested heavily in facilities to produce SUVs. By 2007 this investment was stranded as consumers turned away from SUVs in response to the surge in gas prices. Retooling to produce the more fuel-efficient vehicles now in demand will take years; 3) Between 2000 and 2008, Canadian oil producers invested heavily in refining facilities to produce petroleum products from tar sands. Today much of this investment is stranded by the collapse in oil prices and these facilities are being shut down; 4) (fiction): in 2005, Nancy and Tom decided to move from Tampa to a new community under construction 75 miles away. They ran the numbers and concluded that their monthly rent would fall by twice as much as their monthly gas costs would increase. Then came 2008, and the rental savings were wiped out by a factor of 2.

All of this waste could have been avoided if these actors had a clear vision of where prices were headed in the long term. That is why predictability is more efficient than unpredictability.

I fail to see how stability and predictability would be different in practice.
How could a price which balances supply and demand be predicted considering that relatively small fluctuations in supply and demand are unpredictable yet can bring about wild price swings?

In your examples 1 and 3 (the others are immaterial), unpredictable (with any degree of certainty anyway) supply or demand shocks made these investments go sour. What do you propose should be done about that?
Tariffs would not make these inefficiencies go away somehow. At best tariffs would do what judicious use of the futures market could do: pass the cost to someone else (trading partners in one case and counterparties in the other). As the real estate meltdown has shown, spreading the risk around doesn't make the cost of poor investments go away.

My first thought when I opened TOD this AM was that this was a joke. Perhaps a link lifted from The Onion. My second and third thoughts are not much better.
--Several decades ago there were lots of fights between those who wanted more imports from the Middle East and those who wanted more production from Texas etc. Popular political slogans included "Burn America First", "Strength Through Exhaustion" and "Let the B******* Freeze in the Dark". I suppose we can expect more of the same.

Dan,

I agree completely with your policy suggestions but believe, as evidenced by the comments so far, that your current reasons for doing this will not convince many deciders in the United States.

Allow me to suggest an alternative reason that may sell better in this country.

In recent years we have been literally burning through over a billion dollars a day in imported oil. This can be seen in "constant dollar" charts from the Energy Export Databrowser:

This is money that has left the country and therefore our control. It is being invested by the sellers of the oil as they see fit to further their national agendas.

Now Mexico and Canada probably share our values well enough. But how much money have OPEC nations been earning? And who the heck are they anyway?

Over two billion dollars a day!

A look at the map suggests that these nations may not always share our values that well.

I submit that this is an argument for oil or fuel taxes that Americans might buy into. Giving consumers information about where their oil dollars are being spent just might generate support for this idea in Congress. But people will have to be informed first.

-- Jon

(Caveat: Looking at only these two charts together implies that all US import money goes to OPEC. I am currently working on improvements to the databrowser that will include allowing users to select "US + top 3/5/10 suppliers" as a grouping to get an accurate chart for this discussion.)

A consistent tax on per gallon of oil usage no matter what the current market price
sounds like a much better idea then trying to control the price.

Jon,
The Databrowser looks like an excellent analytic tool to track and illustrate the consequences of allowing the market to work its magic, and what might happen if government were to intervene under alternative policy scenarios. I would like to hear more about it.

Dan,

I'd be interested in your comments of how this could be useful for the kind of analysis you wish to do.

I'm in the process of rewriting parts of it and plan to enable a couple of other plots.

You can reach me off line at jonathan.s.callahan AT gmail DOT com.

-- Jon

Tariffs do nothing but distort markets.

Look at Europe. With high taxes on fuel, Europeans are now buying polluting diesels (most won't meet US standards). they get good mileage, but COST a lot more. So, not only do Europeans pollute more, they both PAY more at the pump but they pay 20% more for the vehicle due to the technology cost. That doesn't stop them from driving, however.

So what did that do? Create a worldwide shortage of diesel, making diesel more expensive than gasoline, and driving up trucking costs worldwide. Great going!

Also the Europeans are big on alternatives, the cost of food worldwide surged 50%. Great going. Another billion had to go to bed hungry because of the tariff policies of Europeans.

In the USA, the cost of diesel was a buck more than gasoline, and farm prices rose 50% to pay for the crazy subsidized BINGE to create inefficient biofuels for cars to give them less miles per gallon. Great going. Throwing more money down a rat hole.

Now, you think you can plan an economy by deciding to tax oil. What makes you think the capital markets will go along with you, or the oil producers? Why will OPEC and Russia and Venezuela go along with you? Why won't they simply cut back until prices are always over your threshold?

I suppose another 50% of US industry could also flee to lower cost of production counties. Food from South America with much lower fuel prices to raise it, and transport it. Manufacturing elsewhere. Probably the dumbest idea to move the remaining part of US manufacturing overseas.

Not only that, but it would give industries great incentive to burn coal as the cheapest source of BTUs. Until, that, too, is taxed into oblivion, moving another 20% of US industry overseas.

Capital will flow to where it makes the most return. If the tax picture in the US was bleak, with arbitrarily determined by leftwing bureaucrats decided day by day who to tax even more, with most of profits being redributed to the power base of the politicians in charge, then capital will flee to around the world. And not necessarily in energy.

And what makes you think that there would be a surge in investment? Most of that new money would be spent hiring lawyers and lobbyists to keep raising the 'benchmark' price to they make even more money, maybe by NOT pumping more oil. The more 'shortage' is created, the more justification for ever and ever higher benchmark prices.

And since when is 60% return 'neutral'? Tell you what. You give me all your money, and I'll give you back 60% of it, and you can be happy knowing that the transaction was 'neutral' in effect.

This proposal sounds like a left wing proposal from folks who ride mass transit, who think they would get windfall profits returned to them somehow in cash and tax cuts, while those out in the working world not riding tax payer subsidized mass transit are getting a even bigger 'free ride'.

Also, since these might be considered 'import tariffs', then maybe our trading partners would file suit in the WTO courts, and want equal tariffs applied to American produced products exported to their countries? It's basically a tax on imports. And new. If it existed for 30-40 years, it might not be challenged, but one could argue this is a new tariff and others would demand damages. No?

"Tariffs do nothing but distort markets."

Exactly what there are supposed to do. As oil production declines, free market forces will result in a US trade deficit that will make the dollar worthless. We are going to pay one way or the other.

Higher prices will not result in significantly more oil. Look at the 1970's when the US rig count reached an all time high, but little new oil was found.

Higher prices will reduce demand, which we need to happen. Unfortunately the US passenger car fleet at, 231 million, will outlast affordable oil.

We have waited so long to replace oil that it is now almost too late.

Tegir,
I agree that tariffs do nothing but distort markets. My argument is that the international oil market needs to be distorted -- by the imposition of stable, predictable long-term prices by government, because the volatile, undistorted prices produced by the market fail to give signals to decision-makers that allow them to make efficient long-term decisions.

I don't understand your question about "since when is 60% return neutral?" Since 60% of what consumers would pay in increased oil prices would be offset by what the US Treasury would collect in excise taxes, then (unless the Treasury parked the cash in the basement) the proposal would be 60% neutral.

Your WTO point is a good one and probably correct. The excise tax I propose would probably run afoul of WTO rules, and Saudi Arabia would probably have a valid claim under these rules. My reply is, "Let them sue." I am ignorant of the principles that govern WTO rules on excise taxes, but I do not think that members of an international producers' cartel (OPEC) should be able to invoke those rules to punish importing nations who impose tariffs to limit their exposure to the consequences of the exporters' price-management policies.

OPEC is the only responsible player in this mess nowadays. They're trying to stabilize prices through international cooperation while you advocate beggar-thy-neighbor policies.

Are you really saying that OPEC caused last year's high prices or this year's low prices? If not, what do you mean by "the consequences of the exporters' price-management policies"? The mind boggles...

OPEC used to be happy with prices at $25/bbl.  Now OPEC wants $60/bbl.  If you think that much wealth transfer out of the rest of the world economy isn't destabilizing, you must not be following the news.

OPEC is at geological peak production.  If there is an economic recovery that increases demand for oil again, prices will spike just like last year and smother the recovery in its crib.  The proper response for the rest of the world is to tax oil, so that people shift their consumption away from oil (freeing more for purposes which can't use anything else) and direct investment toward products and services which use less or no oil.  If oil requirements can be kept down, the price will not spike and economic recovery is at least potentially feasible.

Hear hear

Dear Tegir, Have you ever been to Europe? Things are not so bad over here as you may think. Universal health care is actually liked by a lot of people. And hey, us "left wing folks who ride mass transit" actually have quite a good life. :-) Better than being stuck in a traffic jam in Houston all day if you ask me. I even have a lot of American friends who would agree with me on a few of these points.

Also I strongly disagree with almost everything you say. For entirely sensible reasons.

Firstly. "The europeans are big on alternatives, the cost of food worldwide surged 50%". Do you have any evidence whatsover to support such a daft statement? Anyway. Reducing demand for petroleum products and installing alternatives is almost certainly greatly reducing the cost of energy in the long run and protecting the environment in the short run.

Anyway. Us lefties are not having to nationalise our banks or our car industries to survive. You'll have noticed that VW is still making bumper profits in the down-turn, while GM has ruined OPEL.

I was going to go on and challenge you on your comment about polluting diesels. But suddenly reaslised it isn't worth the effort.

Nordic is definitely correct on all counts and Tegir needs to do some travelling some day.

I fully agree with you Gail.

An alternative to a price regulation might be a physical approach:

- A public agency buys privately owned oil stocks, adds it to the national oil backup stock
- Furthermore the agency fills up the existing storage capacity (despite the low price the oil reserves are now lower than a few years ago).

This has three advantages:
1. A lot of disposable oil is taken away from the market, which may support the oil price.
2. As soon as the (real) oil price rises the agency can sell (parts of) this oil and so dampen the price hike.
3. The public (agency) also takes advantage from the revenue from the higher-value sale.

If this task is not taken by a nation (coincidently or not China is building up oil stocks right now) it might also be done by the IEA. So far the IEA is only in charge of emergency stocks.

This is a guest post by Dan Badger. Don't give me too much credit on this.

drillo -

I was just going to post an idea more or less along the same lines, as I think that an actual physical storage buffer would go a long way in damping out wild price fluctuations and would have the added benefit of not pumping extra tax dollars into the government coffers.

I could picture a scheme that would be something more than just an extension of the Strategic Petroleum Reserve, as it would maintain reserves of not only crude, but also of refined product. That would not only damp out fluctuations in imports of crude, but also would damp out fluctuations in domestic refinery output. My wild guess is that a reserve system capable of releasing or absorbing something like 1 to 2 million bbl per day of refined product for a period of a month or more would go a long way in smoothing things out.

I'm sure that the oil companies and commodity speculators would hate such an idea and would effectively lobby against it, as it would pretty much kill the potential for windfall profits when things get squeezed.

However, funding and administering such a scheme would no doubt be fraught with all sorts of difficulties and political meddling of the worst kind, but I think it's worth looking into.

What China is doing with the massive multi-location storage reserve they are building is beginning to appear to be something along these same lines, rather than just an emergency supply as the US SPR is currently being used. Just-in-time supply may work fine in some industries but time has shown again and again that it can play serious havoc with our economy (not to mention national security issues).

I think it my be possible, instead of an import tax which will certainly fail any WTO challenge, to arrange to impose a flat tax on all consumption and use the revenue to "pay" domestic producers to withhold production where possible if the import price drops below a threshold. Use toyr own national production potential as a strategic reserve.

No doubt not very politically popular though. Look at the popularity (not) of paying farmers to keep land out of production, then switch "farmer" for "oilman".

Interesting idea. That would conserve more of our resources than paying the producers the difference between lower prices and the floor would, but then it does nothing to move us away from imports. Push one part of the blob down and another seems to push right up.

The problem with this approach is that the USA attempts to influence the price in an 85 million b/d world market by selling a few million b/d at the margin. The effect will be negligible, and unpredictable. The excise tax on imports, by contrast, acts like iron to fix internal prices, and does so for as long as the legislation lasts.

I think of this idea like a gastric band operation for the US economy. Its growing on me

It probably makes more sense to look at oil prices in terms of annual average, and since 1998 oil prices rose for nine out of 10 years, with the single largest rate of increase being in 2000, not 2008. Current oil prices are only low relative to the past 3-4 years. We are currently about three times the 1998 average annual price of $14.

http://tonto.eia.doe.gov/dnav/pet/hist_chart/RWTCa.jpg

WT hit the nail right on the head. I’ll just refer to oil prices for the moment. Above all else, companies don’t make investment decisions based upon the current price. They all use a pricing forecast model that runs at least 10 years out. And yes….today’s lower prices have reduced those model assumptions especially in the short term. But with longer terms companies do inflate the oil price. Some only modestly while others anticipate significant increases in several years. As an example I’ll repeat a statement from last August: at that time, when oil shot up to almost $150/bbl, I knew of no company using a near term price forecast over $90 - $100. Many used less. And many who had such a high values typical reduced the anticipated price of oil in Years 2 and 3 by 10% to 20%. Yes…the industry knew the high prices would last. And no….no one I knew expected prices to collapse as much as they have. OTOH, the industry would love a stable price platform even if it meant losing the up spike periods. Pricing forecast risk has always been as great or greater then the technical aspects of many projects especially in the area of enhanced oil recovery efforts. And despite all the excitement over the Deep Water and shale plays, EOR is still a bread and butter item for the oil patch.

I haven’t seen anyone mention what I consider one of the greatest potential risks such a price fixing effort could generate. It would immediately increase the borrowing power of every oil operator. And I can promise you that if we have a big new credit line and solid economic models thanks to the floor scenario, we’ll borrow and spend like there’s no tomorrow. Which will work great until the rules are changed. And as sure as I am that whatever gov’t policies led to this “sub prime” financing of the oil industry, those policies will change just as quickly when the political mood of the country changes. It’s easy for me to picture this scenario developing. I watched the same shift in the oil patch in the late 70’s oil boom. Before it imploded we had over 4600 drilling rigs running in this country (the high oil/NG prices of last year only got us to around 2000 rigs). And I can attest that at least half were drilling crap which had no real chance of working. But the hype was in and money flowed into the oil patch like there was no tomorrow. Even at the high of last summer I didn’t see capital flowing into this sector as it did so long ago. But the rules changed in the early 80’s: oil prices collapsed as demand collapsed. There used to be “7 Sisters” but not today. Ever wonder why there’s no Mobil Oil, Texaco, Gulf Oil, etc today? It was the oil boom that doomed these companies and many thousands of smaller but substantial independent companies. Back in the late 80’s I made this same comment: nothing has ever done more harm to the oil patch the price spike and subsequent boom of the 70’s. The contraction we’ve seen to date (and it will be getting worse IMO) is so far minor compared to the 80’s.

I would love to see such an artificial bump given to the oil patch right now. I only have about another 7 years or so left in the patch. It would certainly set my retirement up great. Given all the other negative factors heading towards us as a result of PO, I seriously doubt this country could survive a collapse of the domestic oil industry like we’ve just experienced in the housing market. And, IMO, the only way to prevent such a collapse would be to maintain the same unsustainable growth we saw in the housing market. Sustain the unsustainable. Not very likely.

But domestic NG is a whole different issue. But I’ve already been too wordy so I pass on the critical discussion of trying to stabilize US NG production for the moment.

Very very badly thought out approach. Oil and |Gas industry does not have the hallmarks of Housing Industry or Wall Street. Here you put your money on the table and you need to live with your decisions. If a bureaucrat will make the decision how the game is to be played than we can be ready for game fixing alla SEC and the Federal Reserve. Namely the rules will be "fixed" in such a way as to benefit certain parties.

Beside that, globalization has been shown to be a bad idea. Tight coupling of economies does not make them more robust but instead more fragile. Lack of elasticity leads to disasters for the majority and great profits for the few.

Lets try perhaps more mass transit in the US, higher gas taxes and tax benefits to conserve energy rather than a self serving idea of fixing prices which will most likely not discourage the abusive use of this resource.

Reading anything on Soviet Economy should convince one that price control does not work as Nixon once found out.

I'm pretty sure price control of this commodity will not even be given serious consideration by this
administration anyways so I guess it doesn't matter.

Rockman (or is it oilman), you are the man. Please tell me what your industry would do if the USG put in place credible legislation guaranteeing that no refiner could import oil (or no distributor could import product-equivalent) for less than $100/bbl in 2008 money between 2012 and 2017. During your remaining 7 years in the patch, would this policy induce you to invest in crap? I don't think so. I think it would induce you to invest in what makes sense at the predictable prices. No?

badgerd,

I don't invest in crap. But for over 30 years I've occasionally worked with folks who insisted upon it. Or put more clearly, they didn't care if the project was crap as long as I could sell an investor on the idea of throwing their money at it. But none of those butt heads would agree to pay me the rate ($100,000/day) I required if I were going to have to misrepresent (read: lie) to investors. I can also say the same about some managers I've worked with who were also willing to throw their public company’s money at crap if they didn't have anything good to drill. Why would they do this? Because nothing will get a manager run off faster then NOT DRILLING when everyone else is during a boom. Failures are a part of the game and a certain amount are expected. Thus they can survive longer with a certain level of failure…at least for a while. A specific example: I once managed a development geology group when I told by my boss to drill Well A. I wouldn't drill it with my budget because it was a piece of crap so they transferred the prospect to the exploration manager who was willing to drill a piece of crap. Why again? Because my boss knew his job was on the line because of lack of drilling activity. This company ended up in bankruptcy a year later because they couldn’t pay $1 towards a $100 million balloon note they bank gave them just because oil prices had gotten so high. Or as the banker would have said “Oy…what could go wrong?” I’ve been in more then one management team where I was intentional excluded from presentations to the board of directors or outside auditors because I wouldn’t change my appraisals to match what the boss needed. Don’t read me wrong -- I’m no Don Quixote charging off atop Rocinante trying to save all those dumb Dulcinea investors from the terrible promoter dragons. I’m just stubborn and don’t like being told what to do. Fortunately my technical skills have allowed me to piss on many of those folks and get away with it.

If the gov't guaranteed a floor of $100/bbl the promoters would come out of the wood work and even more crap would be drilled. Been there and seen it happen first hand. At the tail end of the 70’s boom I and some cohorts aided the Texas Rangers (yes….they are alive and well and handle oil patch fraud investigations) in busting one such boiler room operation. The funny thing was the guys running this scam just assumed everyone in the oil patch was a crook and were very open with us about the con. The really bad news is that 99.8% of the public also believes that and scams like that one hurt all our reputations.

But the worse part is that competent and well managed companies will get drawn into risky investments with such price supports. That wouldn’t be a problem if that support didn’t go away. But it will just as soon as the gov’t/public discovers they aren’t getting the additional oil production THEY THOUGHT they were promised. At that point the oil industry would be again knocked to it knees IMO when the price supports are withdrawn. Oil patch economics can not function on a 4-year election cycle. The "predictable price" will never be predictable if it depends on the mood of the electorate and the cowardice of politicians IMHO. And this might well occur at a critical time when a functional oil industry is critical to decreasing the negative effects of PO. The oil industry can survive price collapse even though there will be a lot of personal pain in the process. I seriously doubt we can survive the gov’t helping us.

Badgerd's idea has the appeal of seeming cutting edge,dynamic and bold.
But if implemented it would soon pass on to be another bureaucratic,
politicized drag.

Government likes to think it can build structures to control everything.
Kind of a socioeconomic engineering. Chaos is part of the universe.
A need for a certain amount of chaos is built into the human organism.

Oil patch economics can not function on a 4-year election cycle. The "predictable price" will never be predictable if it depends on the mood of the electorate and the cowardice of politicians IMHO. And this might well occur at a critical time when a functional oil industry is critical to decreasing the negative effects of PO.

Bingo. The free market may be chaotic and irrational at times, but compared to the fickleness and unpredictability of government and public opinion, it emerges as the "least worst" option.

There is no utopic answer out there for this energy crisis, just miles and miles of muddy waters to slog through until a new crisis emerges. Humanity doesn't swing from good times to bad times, it lurches from one crisis to another with periods of blissful ignorance.

I seriously doubt we can survive the gov’t helping us.

I've certainly seen bad fallout from its help on large and small scale, but business and markets function in an environment much shaped by government action and inaction, always have always will. What is a mother to do? At least some sort of consumption controlling tax might make things more predictable, maybe...the floor thing seems touchier.

My question is, why don't the Saudis and Russians just set the price. If KSA and Russia issued a joint statement tomorrow saying that their oil was available to all who wanted it for $80/bbl wouldn't that do the trick?

Even if there was some cheating, or even if only one of the countries did it, it would probably work.

Since storage is not readily available for mass quantities of oil, price is used to regulate the flow. With a fixed price, one of two things will happen -

1. Too much oil, and no where to put it.
2. Too little oil, and shortages.

The Saudis have plenty of oil storage. Ghawar holds billions of barrels.

It might be tough for the first few months, but after a little while, they would get a good idea of how much to produce.

Saudi Arabia and Russia are not strategic allies and don't trust each other much. Therein lies the main problem with your idea.

If all the exporting countries (inc. Canada and Norway, etc.) belonged to OPEC, then OPEC probably could indeed behave much more in a fashion like you suggest. But they don't, so OPEC has use production adjustments to wield its clout.

From a strategic point of view there are two reasons why this period of economical turmoil is probably the wrong moment to do this:

a) from the point of view of opec + russia need to rely on the overall denial of PO: The longer they keep and increase their control on energy supply the more power they will have on the future oil price, geopolitics etc. However if they cause concerns about supply security too early they might trigger activities to reduce the dependence on oil.

b) At the present situation of world economy few consumers could afford to pay for the more expensive oil, so higher prices would only lead to market destruction instead of higher revenues.

Thus I suppose that opec + russia are rather careful and wait until world economy (or at least the Chinese consumption) picks up again. Then they will get sufficient revenue and have even more monopoly power. and

It's no secret that America's dependence on foreign oil is one, if not the, biggest problem we face as we move forward, but my biggest concern is that not only will most of our national debt be in the hands of the Chinese, but that so will global crude prices. China is the worlds second largest energy consumer and it won't take long before they over take us and start driving prices against American favor. I thought this video had an interesting perspective: http://www.newsy.com/videos/china_s_impact_on_oil_prices/

It will be interesting to see home OPEC moves forward.

Sounds like the alternative energy bubble wants a bit of stability against it's main rival to me... namely oil. Exactly please what is the "right" price for oil ? lets go back to early 2008 and let us assume that we could hard fix prices to be say $60 a barrel (which is what the alternative energy market wants today), plus or minus $10. We can assume there would have been no major fall off in gasoline demand during Spring/Summer 2008 in a tight supply scenario - result shortages at the gas stations, possible power cuts during last hurricane season, a chaotic real market where demand exceeded incoming supply - increases in the black market for essentials. Furthermore, we can also assume under this price fixing scenario that because hedge funds couldn't have made real investments in oil, they would have invested in other commodities to have countered the inflationary effects of none stopping China growth - the result of this would have been rises in other key commodities - steel, iron, gold, silver, maybe lithium too (as a speculative hedge). Ok the alternative energy market might have contained their rival but at the possible expense of inflating their raw working materials. Better price instability than real physical chaos.

To be frank, I would rather invest in genetically modified tulips than the alternative energy fantasy.

To be frank, I am confounded by your inability to understand that my proposal fixes a floor, not a ceiling, on the market price. This being the case, please explain why my proposal would result in your parade of horrors: "possible power cuts during last hurricane season, a chaotic real market where demand exceeded incoming supply - increases in the black market for essentials, shortages at the gas stations." As for your assertion that "hedge funds couldn't have made real investments in oil" I assert that by fixing a floor price I will enable rather than prevent such investments.

I don't think I like this idea. I think I fundamentally disagree with the goals as well as the practicality. Here's why...

1) Moral problem: Why should policies be designed to benefit US producers at the expense of producers in exporting countries? This is basically a pure mercantilist/nationalist approach, and we have a fairly good idea from the 19th and 20th centuries as to where that leads. Practically speaking, this proposal is likely to lead to trade wars, and probably real wars, too. IOW, it will simply replace uncertainty in the oil market with uncertainty in a lot of other, perhaps more fundamental areas.
2) National security: Why should we try to artificially increase the rate at which we are depleting our own reserves instead of importing? I say any oil that is sitting under our own dirt because it's too cheap to pump should stay there until the price is high enough, a.k.a. when we really need it.

Beyond that, I find this mumbo-jumbo about transferring wealth "from oil and gas consumers to taxpayers" to be somewhat obfuscatory. Aren't most taxpayers also oil and gas consumers? Yes, so essentially this boils down to a proposal to subsidize US oil producers with an excise tax. I don't see the point of that.

If you want to reduce oil consumption, then raise taxes on consumption, plain and simple. Use the taxes to subsidize sustainable sources of energy, in the hope that we can develop the necessary know-how and infrastructure to transition to a post-oil economy. While this also results in keeping more wealth at home, it transfers the wealth out of the oil economy, not back into it.
)

jaggedben, you made some good points but on your last one..

"Use the taxes to subsidize sustainable sources of energy" - sounds too much like government picking winners to me. Again what is a sustainable source ? And how much of a bubble in the economy do you want ? Bubbles are very in-efficient ways of allocated resources. If governments needs to coax the market place, then I would prefer a more old fashioned method (the international maritime clock was invented this way) of the government putting a load of cash into an account and put out a competition for the best alternative working source of energy - the best deemed solution wins the pot of cash (sounds crazy, but as stated it worked in the past in Great Britain). It has all the discipline of the private market place, namely no government pork projects or vested interest groups, and a clear direction achieved through a clear monetary incentive.

"sounds too much like government picking winners to me"

You have the whole discussion in a half sentence.
Are major economic decisions too important to be left
to the vagaries of the market?
Can the government do a better job in these decisions?

Nothing really new at the base. Just an interesting
twist in an arguement as old as the Industrial Revolution.

If you're against artificial bubbles, then you'll be against either Dan's excise or my consumption tax. Fine.

My point was simply that if you are going to tax and subsidize, I'd rather have an alternative energy bubble than an domestic oil production bubble. Especially if it's supposed to be a goal of the program to reduce oil consumption.

Cash prizes for alternative energy development are a fine idea. I think that the argument over the best way to spur alternative energy is the argument we should all be having.

Jaggedben
1) Moral problem: I don't see it. The producers are attempting to control the international oil market for their benefit. Where is the moral problem for consuming nations to attempt to control the market for their benefit?

2) National security. You say that oil should stay under our dirt until the price is high enough to justify pumping it. But producing oil is not like producing string beans. In order to produce oil it is necessary to invest lots of capital well in advance. Investors in this market cannot simply wait until "we really need it" and then produce it like string beans. They and their financiers need predictable, long-term price expectations in order to justify investing equity and lending debt.

3) "Aren't most taxpayers also oil and gas consumers?" Of course they are. But that doesn't mean that taking $1 away from the average consumer and transferring it to the average taxpayer has no effect. It has a profound effect. The average consumer will pay an extra $1 to consume energy, and he will adjust his decisions accordingly. The average taxpayer will receive $1 as household income and, and will adjust his decisions accordingly. Facing higher energy costs, the consumer will shift his investment and consumption decisions to less energy-intensive choices. With the higher disposable income resulting from lower taxes, the tax-payer will do whatever he wants to do, bearing in mind that energy costs relatively more than it did.

Your proposal is not an attempt to control the international oil market but rather the US oil market.
Your proposal assumes the international oil market will take care of itself and buffer the vagaries of the US market.

1) (Your response is "everybody else is doing it so why can't we"? And you don't see the moral problem with that either?)

Call the problem "political" instead of "moral", it makes not much difference. You didn't address the trade-war and war issue at all.

2) If a national security/military need comes up, no one needs predictable prices, you just do it. I'm not convinced that in a war economy the same restraints apply. Not that I hope it comes to that, which is why I made point number 1. Aside from that, your response here is a red herring. You want to speed up the process of extracting remaining US oil. I don't. We're not arguing about the nature of the process. And I would bet that the market, sans intervention, will see to it that virtually all conventional US oil is extracted eventually.

3) As I said before, if the goal is to discourage consumption, tax consumption. I agree with this goal. I do not agree with your other goal, which is to boost domestic production.

point 1 and 2 are conflated in my mind

you can't claim to be addressing moral issues and national interest at the same time in my book. I do not see how in all seriouness any person/nation/entity can claim any specific portion of the oil endowment had their name stamped on it for future use millions of years ago when it was formed by accident.

at the end of the day PO is about what is humane.. either human nature will allow us to effectivily ration this stuff out while we mitigate or not. For all those who object to market control or rationing because it flys against the human condition somehow... "well there's your problem"... right there...do not pass go etc etc.

if the argument is that if you implement market distorting measures people will cheat what in essence these advocates are saying is they will cheat... people cheat anyway.. thats the problem not HOW they do it.

you can't claim to be addressing moral issues and national interest at the same time in my book.

Fair point, in that they are often in conflict. My outlook is to prioritize the moral, since if you treat other countries with respect and don't start wars, national security concerns are lessened anyway.

The two are not always in conflict, however. If we do this excise thing Dan proposes, we will be simultaneously increasing the likelihood of international conflict at the same time we are increasing the depletion of resources that would be under our control in such conflict. That's neither moral nor in the national interest. It's just, well...stupid, in my opinion.

It may have counter intuitive effects thou.. if your chucked into a life boat with only a fraction of your resources you once had you may actually decrease consumption of this local resource because it is clear the resource is finite..."thats all there is"

importing oil from outside the US boarders does stimulate the fantasy that somehow the rest of the world is some infinite resource.

think about it..to mitigate PO consumption per capita globally has to drop anyway... it doesn't really matter where in the world its coming from..

Unlike democracy, the free market is not an end in itself, but a means to achieving economic efficiency.

The market was not invented, or applied by an administration. The market is an emerging property of humans, who finding themselves in short supply in one good or service, exchange other goods or services with those who aren't in order to better their situation. "Free" describes it's natural state. Any government applied modifications imply an unfree market. Given this understanding we have not seen a free market for hundreds of years, perhaps tens of thousands of years.

Another emergent property of humans, and in fact all life, is that "the strong shall survive." Democracy is unnatural and must be supported via force. In order to maintain democracy you must have a strong police/military presence. Left-wing types who love and praise democracy usually don't understand that it has been right-wing policies which support their brainchild. The "democracy" of Zimbabwe is a good example to help focus your understanding.

Defensive minded people who understand these facts usually have guns and gold. Guns because they know that the strong survive. And gold because they know markets naturally always exist.

I do not intend to imply anything normative here. I am just trying to elucidate the facts.

Just as democracy requires strength of force to uphold, so to market interference requires wealth to enforce.

Price fixing has always failed, not because it failed to modify behavior, but because no country has ever been wealthy enough to override the underlying natural forces of the market.

Notwithstanding my attempt to be non-normative, I would be very happy if your scheme were implemented. Because then I would know exactly how to place my bets (short the currency of said country as it's economy crumbles).

Mike,
I'll buy your short. You are willing to bet the that the US economy will crumble if everyone has to pay $100/bbl for oil. I am willing to bet it will not. Please specify the currency against which you would like to place your bet. Then let's work out the details.

Democracy is unnatural and must be supported via force. In order to maintain democracy you must have a strong police/military presence.

I suspect this is probably nonsense. I challenge you to provide data showing, say, a correlation between higher police per capita and a democratic form of government.

I's also add that in democracies the people do not fear the police.

You have what I want, I go take it if I can. Free market. You band with your neighbor and make a mutual defense pact to stop me, government, but still free market (the market necessitated the alliance). Government is part of the free market, commerce and government have always been inextricably entwined. It is only the degree of mutual involvement that varies.

A couple of points from off-field

1) interaction with cap and trade
A litre of petrol is supposed to produce 2.5 kg of CO2. If the spot price of CO2 was say $20 that would add 5c per litre of petrol or 19c per US gallon. As the cap reduced that will be a lot more, maybe $2 per gallon but current economic models can't see that far ahead. Every 3 months the current carbon charge would need to be deducted from the oil tax.

2) tax base and new technology
Suppose batteries got half the energy density of hydrocarbons or solar PV truly went to $1 per watt. Goodbye oil, well much of it. You wouldn't want welfare and tax cuts to be too dependent on disappearing oil tax revenue.

A price floor prevents the market signal that tells producers to slow down or stop production. Without such a signal, producers will continue to produce. As stockpiles grow without concomitant demand and consumption, producers will continue to produce. They get paid regardless. At some point, producers will burn oil into the atmosphere or dump it into the ocean to make more room for more production.

I don't think wasting oil is a good plan for the future.

Anyone who thinks such possibilities are ludicrous, consider what has happened with agriculture subsidized. Farmers let their food rot, or they kill all their chickens because it's cheaper to deal with them this way. Farmers get paid to NOT grow food.

Additionally, the competitive viability of companies will diminish. Without a pack of wolves to catch and kill the weak caribou, the caribou pack will become sick. Farming in America has become sick... there has not been a force of economic selection for a long time. As times get rough, in the near future, I expect American farming to fail miserably in comparison to countries which did not have subsidies such as New Zealand, who have been training against real market forces for a long time, ready to handle anything.

I don't think eroding the health of the national energy production industry is a good plan for the future.

*$#! no, sorry, i'm wrong. ... this is a tricker situation than I'm implying. I gotta think through it more before posting my impressions.

Intuitively it seems very wrong to set a price floor. But rooting out all of the implications is more difficult to do because of the complexity of the proposal.

Reducing our consumption and while putting a floor on producer prices does have that counterintuitive quality, but we are trying to control our descent so a braking system may need to be implemented.

Mike,
My proposal would only send the $100/bbl price signal to USA producers. US currently consumes 19 million b/d, and US currently produces 8.5 million b/d. If US produces more, it will be sold to US consumers who will import less. It will not be dumped into the oceans and the atmosphere. Even if US consumption fell to 16 million b/d as a result of the $100/price, your concern about "wasted production" would only be valid if US producers somehow managed to double their production from 8.5 million b/d to 16 million b/d. Not very likely.

It seems to me that the biggest danger of your proposal is if it actually succeeds.

Scenario: an oil tariff sets a floor price of $100/bbl. A combination of increases in domestic production and news sources of energy decrease oil imports (both caused by increased investment), causing a sustained decrease in the world oil price. If it is large, the difference between the world price and the domestic price is unsustainable, both for economic and political reasons. At some point the oil tariff will need to reduced, disrupting the energy markets and causing large investment losses. This is no small problem, as many investors will be pension funds and 501k plans that are owned by everybody. Essentially, this "floor" is putting the government in charge of setting the price of oil, and the government does not know better than anybody else what the correct price should be.

On the other hand, a $20/bbl tax on imported oil would just about pay for the military in Iraq, an externality that could be corrected with a tariff.

I doubt the demand for oil use will drop to a level where it is deliberately thrown away to create space for new production. strikes me as unlikely...

a price floor on DVD's or tulips may have such an effect.

the underlying primary point in all this oil stuff is its non renewable and (currently)irreplaceable qualities

I have not seen any comment raise the following issue with the proposed tax but I have not read them all thoroughly.

A price floor on the US market would exacerbate the downturns in US demand. Without a price floor, low prices cushion demand downturns somewhat.
The proposed floor is implemented so as to make the international oil market bear the cost of the lower US demand. Ceteris paribus (a poor assumption, I know), world prices would drop lower in downturns. This would likely further discourage investment, exacerbating the boom/bust cycle and setting up sharper price spikes down the road.
Because the proposal does not put a ceiling on prices, the US market would then be fully impacted by the exaggerated price spikes.
Is it really a good idea to trade lower downside volatility for higher upside volatility? I guess US producers would love that...

You would drive yourself crazy trying to parse all the possibilities
of the energy markets and the effects of government policies on those
markets. And even crazier trying to assign any level of probability
to those outcomes. There are more variables then there are stars in
the galaxy. People have to begin to understand that most things need
to be allowed some amount of wildness.

A price floor on the US market would exacerbate the downturns in US demand.

That is exactly what is intended (and needed) to mitigate the effects of peak oil. Since global supplies will fall off, a re-factoring and reduction in oil consumption needs to take place sooner rather than later to minimize economic shocks from returning high prices.

...and if it kills the industries needed to develop the new technologies to take us beyond oil and gas. Kill everyone's buying power and they may not be able to make the switches, you risk smothering the economy entirely (which would make some on here do a happy dance)...not to mention if the government fails to be able to enforce it they risk a black market sprouting up and foiling their plans.

If taxes are shifted from income to oil, people will have more money to spend.  They will have both the money and the incentive to spend that money on things that "take us beyond oil and gas".

I've been advocating fuel taxes since the 1980's, and PHEV's as a solution to both petroleum dependence and pollution since no later than 1992.  Why is this so hard for some people to see?

I did have thoughts in this same realm when I was younger, so I respect where you are coming from. But the thought that is hanging me up, is "leave it up to the government". In my years, and they are piling up, I have never found the government to be the solution to any problem. It might look good on paper; it might be a wonderful thought; it might have been inspired from all of the good thoughts that you have - but once it's given to the government all is lost.
As the financial crisis closes in and Peak Oil is becoming a reality, it is tempting to find solutions outside of ourselves and give up any accountability. I know that Pres. BO is in charge now, and he also believes that the government is the solution. It is not. And recent events prove that once again.
God grant us the strength to survive the next four years and more important the strength to dig ourselves out of our foolishness.

it is tempting to find solutions outside of ourselves ... God grant us the strength...

Couldn't help but see the irony in the above.

An excelent post. I have been advocating exactly this scheme in Australia for more than a year now.

The primary purpose of the scheme is to provide certainty to a whole range of decisions linked to the market price of oil. Currenty this lack of certainty has uncouraged poor decision making across the entire economy. In Australia companies are currently investing $billions in new airport facilities and toll roads that will never be used. Individuals are continuing to build houses in farflung suburbia with no public transport. I am sure the same poor decisions are being made throughout the oil consuming world.

A secondary objective is to reduce the price setting capability of the exporting countries. If the targets are set well then all of the premium payable for achieving the balance between supply and demand will be retained by the using country instead of flowing back to the producers.

In the above posts the critisms of the scheme seem to fall into two main areas:

The first concern being, that they don't like generating a windfall gain for local producers. In my view this aspect of encouraging local production is not the escence of the idea. It is a possible bonus that can be achieved by the scheme but not essential to achieving the primary objective of price certainty. It would be just as effective to allow local producers to trade to the international market price without subsidy.

The second critism is that people don't like the thought of government interfering in the market to set prices. Well wake up. Any government that currently applies any excise tax is already doing this and is quite at liberty to increase (or decrease) this tax. In Australia we currently pay a flat rate excise of 38c/l or around US$1.00 per gallon. For the Australian implimentation of this idea I have been advocating no increase to the average tax take. The excise would simply be adjusted up or down on a monthly basis to achieve the target price. Of course determining what the target price should be is no easy task. However, anything would be better than the wild fluctuations we have seeen recently and are likely to see over the next few years.