The Sunday Telegraph: Whither the windfall?: “What is the oil price at which a windfall tax becomes inevitable?”: Sunday 14 August 2005
City comment
By Robert Peston, Sunday City Editor
(Filed: 14/08/2005)
The folk at HM Treasury are aware of two egregious facts: public borrowing is rising too fast, while the oil companies are generating vastly more cash than they expected.
Shell and BP, for instance, will each generate around $35bn (£19.3bn) of operating cash flow this year, or an aggregated £192m every single day, according to analysts at Goldman Sachs, the investment bank. And that may be conservative, in that it's based on an average oil price of $50 a barrel - somewhat lower than the $65ish and rising of last week's market mayhem.
Of this, BP is expected to pay $7.5bn out in dividends and use a further $10bn to buy back its own shares. Meanwhile, Goldman expects Shell to hand around $12bn to shareholders in dividends and buybacks.
If only the flow of this river of cash could be diverted just a bit, away from the investors of EC2 to the Treasury's coffers in SW1, all the Government's worries about the health of the public finances would evaporate.
So why shouldn't the chancellor levy a whopping windfall tax on the oil companies? It's not as though any of them predicted that the oil price would be where it is. In fact, even now both BP and Shell will only develop a new oil prospect if it is commercially viable at the much lower oil price of $20 - which implies that they regard the current price as a freak.
Here's another way of looking at all this. Back in early June, Lord Browne, BP's eloquent chief executive, explained the buoyancy of the oil price by reference to the growth of global demand. Speaking in the House of Lords, he pointed out that Chinese primary energy consumption had risen by 80 per cent in the previous two years and that its use of oil had increased by almost 1.2m barrels a day.
His expectation was that - pending the exploitation of ample untapped reserves - the oil price would stay at more than $40 a barrel. So wasn't he implying that any profits earned while oil is over $40 are the equivalent of a lottery win?
However, although windfall taxes may look like easy money, they are fraught with difficulties. First of all, the cash flow of Shell and BP is not a proxy for the riches available to be tapped. They are both multinationals, with reserves, refineries and petrol pumps all over the world: levying a tax on their global earnings would probably be illegal.
There could, perhaps, be a one-off tax on the bumper distributions to shareholders by any UK domiciled oil company - although that would be seen as a tax on investors, including you and me through our pension funds, and would not be popular. So any windfall tax would probably have to be imposed on any company, of any nationality, that pumps oil or gas from the British part of the North Sea.
But such an impost could deter oil companies from further investment there - which would not be beneficial to the UK.
Nor, again, would such a tax necessarily be legal. As Labour's preparations for its 1997 windfall levy on the privatised utilities show, there would be the potential for a challenge under the European Convention on Human Rights from the companies or their shareholders, who could argue that a tyrannical government was effectively expropriating their property.
To minimise this risk, the Treasury would have to show that the tax was in the public interest. And that would be far harder if the proceeds were to be frittered away on general public spending.
However, on the basis of the privatised utilities precedent, the petroleum windfall impost would be lawful if the revenues were hypothecated - or earmarked - for a special worthy project (the advice to Gordon Brown's team from counsel was that the legality of his extraction of cash from BT, the power companies et al was underpinned by his decision to allocate all the funds to his New Deal job creation scheme).
As it happens, Lord Browne inadvertently suggested just such a useful home for windfall winnings only last month, when he pointed to market failure in attempts to tackle global warming. BP wants to bury CO2 in spent oilfields, but fears that it's too pricey without government subsidy.
Which looks like a foolhardy invitation to the Treasury to fashion a windfall tax for BP and its ilk into a levy for the eradication of greenhouse gases.
That said, the most basic argument against windfall taxes is that they are capricious and inject damaging uncertainty into the tax system. And, even at $65 a barrel, such a tax would be seen as too cynical by most companies and individuals - so the ever-present risk of driving wealth generators offshore could be made real to a costly extent.
But the oil price may hit a level where the contrast between the spoils accruing to the oil companies and the incremental costs for users is widely seen as grotesquely unfair. What is the oil price at which a windfall tax becomes inevitable? There's no science to such prognostics. But the spread is $80 to $100 - which is no longer the stuff of pure, nightmarish imaginings.
http://www.telegraph.co.uk/money/main.jhtml?xml=/money/2005/08/14/ccom14.xml
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