THE BLOG
03/14/2006 05:47 am ET Updated May 25, 2011

Taxing Oil's Monopoly Profits

We've all seen the headlines that the major oil companies are raking in some of the largest profits in business history. Yet President Bush has threatened to veto a Senate-passed bill that features a one-year, $5 billion windfall tax on those profits. The president's rationale: The tax would "interfere with the free market."

If the markets really were free, the president would be right. There's no justification for a tax on rightly-earned windfalls: When profits increase, they attract more competition and prices fall. It's a natural correction. But when huge profits are generated because of monopoly power, that's another case altogether -- and that's what's happening in the oil industry. It is high time we recognized the true dynamics of today's oil market: Prices are monopoly/cartel driven. They are set by OPEC and its cronies and the profits the oil companies are enjoying come from monopoly manipulation, not a windfall. They should be taxed as such.

There is no free market in oil. There hasn't been one since 1986, when the president's father, George H. W. Bush, eager to boost oil prices for American producers, went to Saudi Arabia to convince King Fahd to slash production and induce other OPEC members to do likewise. The Vice President, in successfully persuading the Saudi King to do his bidding delivered our government as OPEC's de facto protector. From that moment on, the world's oil companies have been the primary beneficiary's of the cartel's production and price rigging. With Washington's blessing, OPEC has been manipulating production and prices with impunity. The result has been one of history's great heists as we oil consumers transfer ever-greater wealth to the monopoly/cartel producers and the oil companies whose wealth has grown exponentially.

You may not recall, but, in 1986, OPEC was in near total disarray. The markets were glutted with oil, and prices were plummeting. In the United States, gasoline was well under $1 a gallon, and President Ronald Reagan gloated openly about how inexpensive fuel was boosting the U.S. economy.

But American oilmen were hurting. In the Middle East, where oil costs as little as $1.50 or less a barrel to extract, the business was still profitable. But here, where costs were higher, the industry claimed it was losing money on every barrel. Exploration was at a standstill. The Texas oil industry all but collapsed.

The elder Bush, then Reagan's vice president, was a former oilman himself, and he felt the industry's pain. As he left for Riyadh, he said in a press conference that price stability was "essential." That drew a quick public rebuke from a high administration official, who said that "poor George" had got it wrong: The free market should carry the day. "George is a Texas, pro-oil guy," the official added, "but that is not administration policy."

But there were other mixed signals coming from Washington, and, when Bush warned King Fahd that continued low prices would force Congress to pass a tariff on oil imports (just such a bill had been introduced in Congress by then Representative Dick Cheney), the Saudi ruler concluded that this must be the government's real message. In short order, Bush and Fahd hit upon what was to become an ominous and deeply pernicious Faustian bargain: The Saudis would reinvigorate OPEC and convince it to cut production, effectively starving the world oil markets and creating an artificial shortage for petroleum until prices increased by 50 percent.

The rest is history. Their "understanding" worked all too well. In little over six months the price of crude had jumped by 50%. In hindsight, the panic of 1986 was our last, best chance to defang the OPEC's claws; if we had sat back and done nothing, OPEC would have shriveled and died. Instead, we threw it the rope that it needed to keep us tethered.

In the next years, virtually the entire oil industry began to root for the cartel. Non-member nations, such as Russia, Mexico, and Norway quietly agreed to reduce their output, and oil companies happily paid higher prices for crude, secure in the knowledge that their profits on in-house production would shoot up as well. The oil market became one vast fraternity, siphoning hundreds of billions of dollars from the consuming nations into the pockets of the OPEC producers -- and the oil companies.

Today, OPEC still seems to have all the cards. And those cards are closely held. By refusing to disclose figures for reserves and pumping capacity, the cartel creates an artificial oil shortage and the illusion that the supply is nearing an end. That's why we have had prices over $60 a barrel, and why Exxon Mobil's profit came to $36 billion last year. It's disingenuous to call this a windfall, since there's no element of chance involved. It's more like a wind machine, blowing vacuous hype and public-relations drivel and making us zombie-like believers in the oil-patch mantra of free markets.

If OPEC were based in the United States, there's no question that all the colluders would be behind bars and paying huge fines for price conspiracy in restraint of trade. Since we can't, as yet prosecute OPEC (see my blog "The Price of Oil, OPEC and Our Laws" 3/10/06), what's wrong with taxing their oil patch cheerleaders?