It’s the Poor Innocent Consumer vs. Big Bad Oil, with a side of Politicians to the Rescue.
The media love a good controversy – so much so that they stir things up when the facts don’t warrant it. Since oil companies released their profit numbers last week, the news template has been one of angry consumers claiming they’ve been harmed and politicians vowing to do something about gas prices. Both parties have been aided by the media, who declared that oil profits were "beyond imagination."On “CNN Sunday Morning” October 30, hosts asked viewers to respond to the question, “Who do you hold accountable for high gas prices?” Ignoring market forces that set prices in favor of playing a political game, Anchor Tony Harris also rephrased the question: “Who are you blaming?”
CNN’s Miles O’Brien framed a report about high third-quarter oil profits as “something to get your blood boiling” and “get you a little outraged” on the October 28 “American Morning.”
The fact is, when the price of a product goes up, the people who sell that product make more money. The only way this happens is if consumers keep buying.
That’s the oversimplified version of what happened to oil companies’ profits in the third quarter of 2005. Interruptions from the hurricanes tightened supply, but consumer demand stayed high, fueled by China and India – so gasoline prices went up. Oil companies profited from the situation, but they didn’t arbitrarily set their prices extra-high. Market forces determined prices.
Unfortunately, most journalists haven’t been getting it. Rather than accepting the way the market works, they have pitted consumers against oil companies, bolstering the case of those who call for a “windfall profits tax” on the companies’ earnings. That includes members of Congress, who have scheduled a hearing on energy pricing and corporate profits for November 9.
Sen. Olympia J. Snowe (R-Maine) summed up the news template when she said, “At a time when the American people are struggling to pay their energy bills and the residents of my own state of Maine will be hard-pressed to pay their home heating costs this winter, it is deeply concerning and, frankly, outrageous that oil companies are boasting record-breaking profits,” according to the October 28 Los Angeles Times.
NBC’s Brian Williams opened an October 28 “Nightly News” report with “the outrage across this country today everywhere people were ponying up to pay more for gas” – even though drivers that day were actually paying 51 cents less per gallon than they had during post-Katrina highs. Anne Thompson’s following story described Congress and consumers “demanding change,” as Williams put it, without explaining that the temporary price spike and the accompanying profit spike were just business as usual. Thompson used comments from people on the street, one of whom said, “We’re all getting cheated,” and the reporter closed by saying drivers wanted to “stop shelling out wads of money to feed the profits that tonight have America fuming.”
Is Being Profitable a Crime?
Reporters commonly failed to put oil profits in a larger business context. When they cited Exxon Mobil Corp.’s $9.9 billion third-quarter profit, they focused on the raw numbers rather than explaining to viewers that Exxon doesn’t make as much relative to its product as many other industries do. A comparison of profit margins – dividing net profits by the amount of revenue the company took in – shows that other companies enjoy much higher returns.
For example, Exxon’s profit margin for its high-earnings quarter (dividing $9.9 billion by revenue of $100 billion) was almost 10 percent. But a look at Fortune’s Global 500 list from July 2005 shows that is not unusual – and some companies surpassed that in earlier quarters. Johnson and Johnson showed profits of almost 18 percent in the July report, while Bank of America enjoyed more than 22 percent.
The media also ignored the largest beneficiary of the oil “windfall”: the government. The Tax Foundation’s Scott Hodge and Jonathan Williams noted in an October 26 report that “in recent decades governments have collected far more revenue from gasoline taxes than the largest U.S. oil companies have collectively earned in domestic profits.” In fact, “since 1977, there have been only three years (1980, 1981, and 1982) in which domestic oil industry profits exceeded government gas tax collections.”
Their analysis used only government revenue from gasoline taxes. It didn’t even include corporate taxes on the companies’ income. From 1977 to 2004, federal and state gas tax collections have totaled more than $1.34 trillion, the report said – more than twice domestic oil industry profits during that time ($643 billion).
Taxing Industry Hurts Consumers
Even though state and federal governments have already made a fortune from gasoline sales, some in Congress are calling for more taxes on the industry. And the media have helped their case by presenting the issue as ABC’s Bob Woodruff did on the October 27 “World News Tonight”: “Are the oil companies making too much money, when oil and gas prices are pinching so many Americans? The oil companies reported earnings today that are almost beyond imagination.”
But ABC’s Mellody Hobson was the voice of reason on the October 28 “Good Morning America,” saying that when “you look where regulation has been attempted, when our country tries to regulate prices, it ultimately not only ends up being bad for consumers, it actually ends up being bad for American business. People lose jobs. It is not a good idea.”
More than 250 economists have agreed with Hobson, sending their concerns to Congress in an open letter October 26. Free Market Project advisers John Berthoud, president of the National Taxpayers Union, and Gary Wolfram, professor of economics at Hillsdale College, were among them. The signers included two Nobel Laureates in economics, as well as professors from the University of Chicago to Princeton University and Harvard Business School.
Citing a Congressional Research Service report about the results of a windfall profits tax imposed in the 1980s, the economists emphatically said that a profit-punishing tax would mean less gasoline available to Americans. The CRS found that the previous tax led to decreased domestic oil production and increased reliance on foreign sources – the opposite of widely accepted goals for U.S. energy policy.
Where Does the Money Go?
In a free market, businesses are able to use their profits as they see fit – whether reinvesting in the company or giving bonuses to employees. However, both politicians and the media have been asking questions about how the oil companies are using their profits.
For its part, Exxon has reported that it had new capital investments approaching $15 billion in 2004, which went toward new exploration and production as well as refining capacity and research for new energy technologies.
Also, Exxon spokesman Mark Boudreaux told the Free Market Project that “ExxonMobil has added 384,000 barrels per day of refining capacity in the United States through expansions, technology, and operational improvements over the last 10 years.”
“The average refinery size in the U.S. is about 125,000 barrels per day [Oil & Gas Journal numbers],” Boudreaux said. “So that means we have in effect built the equivalent of three new grassroots refineries over the last decade.”
Building and expanding refineries isn’t cheap. The Cato Institute’s Peter Van Doren and Jerry Taylor wrote on June 4 that a large refinery can take $4 billion to $6 billion to build.
That isn’t something companies or their investors take lightly. Alastair Walling, a legal fellow at George Mason University’s Mercatus Center, wrote in the October 27 New York Sun that “refining requires risking vast sums (billions and billions of dollars), and in addition to being traditionally thin, margins are often unpredictable and uncomfortably erratic. … Any sane person with money has kept his or her cash as far away from refining as possible.”