The Crude Oil Windfall Profit Tax of the 1980s: Implications for Current Energy Policy Page: 2 of 37

                                
The Crude Oil Windfall Profit Tax of the 1980s:
Implications for Current Energy Policy
Summary
In April 1980, the federal government enacted the crude oil windfall profit tax
on the U.S. oil industry. The main purpose of the tax was to recoup for the federal
government much of the revenue that would have otherwise gone to the oil industry
as a result of the decontrol of oil prices. Supporters of the tax viewed this revenue
as an unearned and unanticipated windfall caused by high oil prices, which were
determined by the OPEC (Organization of Petroleum Exporting Countries) cartel.
Despite its name, the windfall profit tax (WPT) was actually an excise tax, not
a profits tax, imposed on the difference between the market price of oil and an
adjusted base price. While most domestically produced oil was subject to the tax
(about 2/3 in 1985), the remaining 1/3 that was tax-exempt was significant (1.3
billion barrels in 1985, or 360,000 barrels per day). The $80 billion in gross revenues
generated by the WPT between 1980 and 1988 was significantly less than the $393
billion projected. Due to the deductibility of the WPT against the income tax,
cumulative net WPT revenues were about $38 billion, significantly less than the $175
billion projected. This report presents estimates of the amount of foregone oil
production from 1980-1986 due to the WPT under three alternative supply price
responses, reflecting three different assumptions about the price elasticity of the
domestic oil supply function, a critical factor (statistic) in estimating lost oil output
and increased import dependence. From 1980 to 1988, the WPT may have reduced
domestic oil production anywhere from 1.2% to 8.0% (320 to 1,269 million barrels).
Dependence on imported oil grew from between 3% and 13%. The tax was repealed
in 1988 because (1) it was an administrative burden to the Internal Revenue Service
(IRS), (2) it was a compliance burden to the oil industry, (3) due to low oil prices, the
tax was generating little or no revenues in 1987 and 1988, and (4) it made the United
States more dependent on foreign oil. The depressed state of the U.S. oil industry
after 1986 also contributed to the repeal decision.
Reinstating the windfall profit tax would reduce recent oil industry windfalls
due to high crude and petroleum prices but could have several adverse economic
effects. If imposed as an excise tax, the WPT would increase marginal production
costs and be expected to reduce domestic oil production and increase the level of oil
imports, which today is at nearly 60% of demand. Crude prices would not tend to
increase. Some have proposed an excise tax on both domestically produced and
imported oil as a way of mitigating the negative effects on petroleum import
dependence. Such a broad-based WPT would tend to reduce import dependence, but
it would lead to higher crude oil prices and likely to oil industry profits, potentially
undermining its original goals. Because the pure corporate profits tax is relatively
neutral in the short run - few, if any, price and output effects occur because
marginal production costs are unchanged in the short run - a possible option would
be a corporate income surtax on the upstream operations of crude oil producers.
Such a tax that would recoup any recent windfalls with less adverse economic
effects; imports would not increase because domestic production would remain
unchanged. In the long run, such a tax is a tax on capital; it reduces the rate of return,
thus reducing the supply of capital to the oil industry.