Free-market sense from a Democrat?

AUGUST 16, 2010

As of Tuesday, legislators were 41 days past the constitutional deadline for passing a state budget, yet the state’s majority Democrats weren’t even holding budget hearings. Why bother? The state is $19 billion in the red, but the two sides aren’t even close to coming to terms. Republicans rightly want the state to live within its means, while the Democrats —- beholden to the public-sector unions —- are desperately looking for new sources of cash (taxes and fees) to prop up the current unsustainable system.

A prime example of the Democratic budget approach can be found in the party’s call for a severance tax on the extraction of oil and gas. This is a perfect idea from that party’s perspective given that it allows legislators to stick it to corporate evil-doers (it doesn’t get any worse than oil producers, especially after the Gulf oil spill), raise taxes and come up with more revenue to save programs.

As the California Democratic Party stated in a central committee resolution, “California is the only oil-producing state in the union that does not levy a tax on the extraction of oil and natural gas; the state of Texas, which does levy this tax … dedicates the revenue to public higher education … .” In a rare instance of California Democrats emulating a state they usually demonize, that 2009 resolution proposed earmarking the expected $1 billion to public schools.

The 2010 Democratic budget proposal would use the money to close the deficit.

The whole idea is based on flawed economic reasoning. I know readers aren’t exactly shocked by the previous sentence, but they might be surprised to learn that one of the Democratic Party’s rising stars, Sen. Rod Wright of Long Beach, has been making the free-market case against the proposed oil levy and might actually be making some headway.

“The problem is most people don’t understand oil markets in the world and in California,” he said in an interview Tuesday. Most of the state’s oil is owned by state and local governments. Long Beach, for instance, is a partner with Occidental Petroleum. The cities of Los Angeles, Bakersfield and Signal Hill are oil-producing meccas.

So, for starters, a new tax would potentially reduce production, jobs and revenues in those California cities. Wright is troubled by the twisting of the facts about the oil-extraction tax, of the sort promoted in the Democratic resolution. No, California does not assess such a tax, but its overall taxes on oil companies are comparable to the taxes in other states. The state taxes the corporate income of the oil companies, imposes a property tax not only on the wells —- but on the assessed value of the oil below the surface, and assesses sales taxes on the product and equipment.

In 2008, when Gov. Arnold Schwarzenegger proposed an extraction tax (he opposes it now), the Law and Economics Group produced a study confirming Sen. Wright’s point: “Given that sales tax and corporate income tax rates in California are the highest of the states considered [the 10 largest oil-producing states], on a total tax collection basis, California falls in the middle.” The state, then, is not losing money.

A bigger point, per Wright, is that “Southern California oil is heavy. It doesn’t go to make gasoline. It goes for asphalt.” The importance of this point is that this is oil that is expensive to extract and yet is used for lower-cost uses. A higher tax will mean that oil companies —- most of them are independent operators in California —- will not go after that source of crude. They will buy it elsewhere, from other states and other countries. “It will stay in the ground,” the senator said, noting that 20 percent of the state’s wells are capped, meaning that “it’s not worth running them because the cost of lifting the oil is not worth doing.”

So the Democratic revenue figure is not correct. Little tax will be paid if the oil stays in the ground. And cities such as Long Beach will need state help if they lose oil revenues. And it’s hard to imagine the benefit of kicking people out of work as California struggles with 12 percent unemployment rates. The projected tax take of up to $1 billion “assumes the marketplace is static,” Wright noted. He reminds his fellow Democrats that there is no shortage of oil.

There are plenty of other places to buy it.

Wright —- who has been zinged by environmentalists for his views —- finds that much of the support for this tax comes from those who “want to get the oil companies.” But it won’t do that. The companies will simply buy their oil from other places and won’t pay the extraction fee. “Oil is a commodity like anything else,” he said. “People never like to let the facts get in the way of a good political argument.”

He estimates that a severance tax will cost the city of Long Beach $10 million to $15 million over two or three years, which is why oil-producing California cities are pushing language that would make municipal-owned wells exempt from the proposed new tax. But that would eliminate 70 percent of the tax benefit to the state, Wright adds, which makes this whole exercise a moot point. It would also reduce funds that go to the state’s tidelands environmental programs, which come in part from oil revenues.

Wright pointed to the examples of cigarette taxation to the high federal taxes on yacht owners. Both forms of taxation singled out unpopular groups, but the cigarette taxes got so high that people stopped smoking or started buying them elsewhere, which reduced revenues to the state. And the yacht tax nearly killed an industry that provided good jobs to working-class people —- all in the name of sticking it to the rich.

What are the chances the state’s Democrats will listen to the eminently reasonable Senator Wright? Whether he wins the day or not, at least someone within that party is making sensible points about basic economics.

–Steven Greenhut